John Broome on an Irony of Welfare Economics

post by Paul Kelleher

Bill and I are currently reading and studying John Broome's new book Climate Matters: Ethics in a Warming World. It is an excellent if deceptively challenging book (Broome's prose is so effortless that one can be led to think mastering the ideas will be, too). I am certain the book will shape the way I think about virtually all matters in public and population health. Indeed, I am currently writing a paper on its main themes that I hope to post here in a week or two.

Broome's chapter on discounting future goods is among the best in the book. He notes that discounting is a common practice in cost-benefit analyses of climate change, and the debate over the proper discount rate has been viewed by many as the ethical question raised by global warming (although Broome would not agree with that, I don't think). I have discussed the issue of discounting a couple of times on the blog, but if you have to choose, read what Broome has to say (naturally). 

Broome explains that cost-benefit analysis is a kind of shortcut: economists want to understand the impact that various policies will have on society, and the gold standard would be a way to assess the impacts they will have on individuals' well-being. But economists are notoriously pessimistic about being able to measure well-being directly, so they use a proxy: they measure what individuals are willing to pay for commodities, since these commodities can serve as a proxy for the human well-being they produce in those who enjoy them. The more someone is willing to pay for a given commodity, the more well-being it would produce for that person (if she were to acquire it). 

Broome points out what all economists already understand: other things equal, the same commodity will produce more well-being if enjoyed by a poor person than if enjoyed by a rich person. This phenomenon is known as diminishing marginal utility, and it can be present even when the rich person is willing to pay more than the poor person for commodity. So unless the economists' short-cut for measuring well-being takes this phenomenon into account, the shortcut will likely be biased in favor of policies that benefit the rich, since their higher willingness to pay will be interpreted as a higher capacity to benefit. Broome remarks, "Cost-benefit analysts have ways of correcting for [this bias in favor of the relatively rich], but in practice they rarely take the trouble to do so." I have discussed this fact about cost-benefit analysis at length elsewhere. 

There is an irony here, however. For Broome also notes that economists standardly discount the importance of future benefits at some positive rate. This practice gives more weight to the enjoyment of a commodity here and now relative to the enjoyment of the same commodity in the future. And one key economic rationale for doing this is that people in the future are expected to be richer. Broome goes on:

If people are richer in the future, that means additional commodities bring less benefit on average to future people than the same commodities bring to present people. A kilo of rice in one hundred years will contribute less on average to the well-being of the people who eat it than a kilo contributes today. This is a good reason for discounting future commodities. Ironically, although cost-benefit analysts generally ignore the diminishing marginal benefit of money when they are aggregating value across people at a single date, their main case for discounting future commodities is founded on this diminishing marginal benefit.

Broome does not pull punches when he goes on to note that the effect of this irony is that it protects the current rich on two fronts: it downplays the case for transfers from the current rich to the current poor (since it ignores the greater capacity of the poor to benefit from the same expenditure), and it downplays the case for transfers from the current rich to future generations (since their well-being is discounted relative to well-being here and now). Broome's view is that if people in the future really will be better off than we are, then we really do have reason to discount the value of future commodities. But this same reason suggests that cost-benefit analysis should no longer ignore the fact that the same commodity brings more benefit to the current poor than it would if enjoyed by the current rich.  

Comments

[Daniel S. Goldberg]

Trying to understand. Last two sentences of the post:

"Broome's view is that if people in the future really will be better off than we are, then we really do have reason to discount the value of future commodities. But this same reason suggests that cost-benefit analysis should no longer ignore the fact that the same commodity brings more benefit to the current poor than it would if enjoyed by the current rich."

What is "this same reason" in the second sentence? Why is it the case that if people in the future will be better off that we should no longer ignore the fact that the same commodity brings more benefit to the current poor?

I'm having trouble seeing the connection. (Not challenging you, want more explanation!)

[Paul]

Hi D,

The "same reason" is the phenomenon of diminishing marginal utility, i.e. the reason we have to treat a benefit to a (relatively) rich person as less valuable than the same benefit to a (relatively) poor person.

Broome's notes that this reason is invoked by cost-benefit analysts to support their actual practice of discounting the value of future commodities, since it is assumed that people in the future will be richer than we are now. The "irony" is that analysts ignore this reason when they they refuse to treat a benefit to a current rich person as less valuable than a benefit to a current poor person.

So cost-benefit analysts invoke the phenomenon of diminishing marginal utility when it is in the interest of the current rich (i.e. in the inter-generational case) but they refuse to invoke the phenomenon when it would be in the interest of the current poor (i.e. in the intra-generational case).

[Daniel S. Goldberg]

Ah, think I got it. But the irony you note, at least in the second scenario, is not related to future discounting. I mean, the issue is the fact that the affluent experience DMU from welfare benefits now as compared to the poor. But that's a present-case scenario, and the reason for the DMU has nothing to do with future discounting.

The latter comes into play when we talk about the inter-generational case, of course. DMU is the justification for future discounting, right?

I wonder if there is any reason for the divergent treatment related to the generational difference, but I can't think of one so long as the underlying rationale (DMU) is the same in both.

Yes?

[Paul]

The irony is simply that DMU is invoked to justify discounting benefits to the better off in the inter-generational case, but not in the intra-generational case (despite also being relevant there).

As Broome notes, the DMU reason for discounting the value of certain benefits (whether inter- or intra-generationally) is not intrinsically related to time. You're right about that.

[Daniel S. Goldberg]

Thanks! I'm just a caveman bioethicist, you know.

[Paul]

At least you're unfrozen!

[Brad F]

Paul
In an analysis like you are suggesting, aside from the discount rate and its value, how do you differentiate the well-being a food item, say rice, and a computing device, provide for a rich and poor individual 30 years hence?

Essentially, do you really know which has a greater decreasing marginal utility at a particular time for a given class? I would think not for many goods.

Brad

[Paul]

I Brad,

I don't do these calculations myself, so I have no earthly clue how they are done. Obviously no one in 1960 could have predicted the iPod, so they could not have predicted the impact that an iPod would have on the well-being of someone in 2012. We face similar hurdles as we look forward, surely.

My guess is economists feel confident in making generalizations about how rich society will be in the future, based in part on historical data extending backward in time from now. Also, they don't have to predict the existence of iPods and the like, since the claim about diminishing marginal utility is a claim about the welfare generated by any commodity at a given price. So they only need to make claims about commodities of given prices. After all, economists do not impute value to an iPod today on the basis of asking people how much their lives are made better by having an iPod. Those calculations are based simply on how much people pay for iPods. Likewise, economists want to say only that, given how well-off we expect people in general to be in 2100, a commodity priced then at $100 (adjusted for inflation) gives them less well-being than does a $100 commodity for us today, and this is precisely because we are poor than they will be.

That is a bunch of rambling, obviously.