"The ultimate purpose of economics is to understand and promote the enhancement of well-being." - Ben Bernanke
Economics is often described as the study of scarcity or the study of decision making, which is a result of scarcity. If we have scarce time, money, or resources, we must choose how to allocate and use them by making some decision on what we do. Decision making is assumed to be done by rational agents who wish to maximize what economists call “utility”, which is really just a fancy word for satisfaction, happiness, or well-being.
Understanding that economics is simply the study of how we maximize our happiness by making better decisions lets us see how several important concepts interact.
The term consumption is often tied to expenditure in economics, i.e. spending money on goods or services. However, consumption can actually be thought of as using resources to gain utility. This fundamentally results in consumption being just another proxy, albeit an incomplete one, for happiness. By using resources, humans attempt to gain utility and therefore increase their well-being. Use of resources in consumption isn’t the only way we gain well-being, but is a large piece and the piece economics has traditionally focused on.
Because the bulk of economics studies resource accumulation and allocation, economists sometimes confuse consumption of these resources with the main, or even only, source of well-being. That is clearly not true from any half-hearted skimming of the research from fields like positive psychology, philosophy, and history (see links at the end of this article for further reading).
However, if we limit our view of well-being to consumption, economists have recently started asking just how best to consume for maximization of well-being. One source, Happy Money, lists five ways to consume for maximal well-being by researching the topic and recommending that you spend money on:
If consumption is undertaken to provide well-being, the above five uses will get you the most bang for your buck.
The best way to frame investment within the perspective we are taking here is to think of it as future consumption. You delay the act of using up resources in today’s consumption by instead saving and then allocating those savings to channels which are likely to be worth more in the future. This delaying of today’s consumption allows one to consume more in the future.
If we are able to recognize the above, it is not difficult to then see that:
Investment = future consumption = future well-being
We should therefore allocate our savings to investment channels which we believe will be worth more in the future and thereby enhance our future well-being by expanding our consumption options. Typical examples and channels for investment include business, securities, property, infrastructure, and education. Figuring out just what channel will maximize returns into the future is obviously dependent on preferences, risk tolerance, and a lot of luck, but the goal is the same - future consumption as a proxy for well-being.
Credit and Debt
These two concepts are closely related, but serve the same purpose. Credit, properly used, allows people to smooth consumption over their lifetimes. When we are young, we typically have very little income and wealth and cannot consume much as a result, even if we have high needs. When we are old, we typically have lots of income and wealth (relative to our youth), but less need to consume. By utilizing credit, a person can take on debt to pay for today’s consumption while postponing payment until later. Essentially, credit is equivalent to consuming today and paying tomorrow.
Understood in this way, credit and debt are two of humanity's best inventions. Rather than be forced to go on a “low consumption diet” when young and live with a large surplus of unneeded consumption in old age, we can simply smooth our consumption curves by consuming on the basis of credit and debt while young and knowing that we will be able to use our old age surplus to pay for it.
This does have a natural consequence that should be clearly noted. If we take on debt by using credit to consume without ever increasing our earnings potential, we will not actually be richer in our old age. This means that the debt we take on as young people ought to be focused mainly on the investment channels described above: business, property, and education.
By focusing on these channels when taking on debt, we make it much more likely that we will in fact be richer in the future and more able to pay back the debt we’ve taken on today. Ideally, one would invest in education while young, using debt if necessary, and then move on to start new businesses or gain employment in established businesses, before investing savings into channels like property and securities, which themselves act as vehicles for long-term savings.
If consumption, investment, credit, and debt are really just concepts that act as proxies for the management of well-being, then sustainability can properly be thought of as “future happiness”, not too unlike investment.
This takes a little bit of explaining.
Sustainability is often discussed in terms of stocks and flows, which are most easily illustrated with the image of a sink containing a given water level that is affected by a drain with water exiting the bottom and a tap with water entering the basin from the top.
The water that already exists in the sink is the stock, while the water flowing out and in via the drain and tap are the flows. To maintain the same stock in the sink, the rate of outflows and inflows need to match each other. If the outflow is greater than the inflow, the stock will deplete over time. If the inflow is greater than the outflow, the stock with increase over time.
Sustainability is therefore the management of the stock level for given needs over a given time.
In the case of a single person planning for their own life and retirement, sustainability is managing one’s savings so that they run out when the person’s life runs out. If we begin retirement with one million dollars in savings (stock) and plan to live for 20 years without new income (inflow), we can’t simply spend $100,000 each year (outflow) or we will run out in ten years. The outflow is not sustainable. The stock (savings) will be depleted through the outflow (spending) with no new inflows (income) before the person dies.
In the case of humanity as whole, we aren’t worried about the savings and spending of a single retiree, but the world savings (all natural resources) and world consumption (total GDP). We can choose to deplete our stock of natural resources today, by consuming at a rapid pace, but this will have effects on what stock is left to posterity. If the stock goes to zero, because of poor management, it will be very difficult to enjoy the future. That’s because for all the limitations of using consumption as a proxy for happiness, one thing is clear, Kanye West was correct when he rapped, “Havin' money's not everything, not havin' it is”.
Said differently, having infinite resources may not make us infinitely happy, but having no resources will make us infinitely unhappy. So as stated above, sustainability is really just future happiness that results from proper management of our resources today so that they are available for use in the future.
This all points to a model for living based on individuals maximizing well-being while simultaneously being mindful of others’ well-being. As individuals we want to consider maximization of well-being as an intra-relational, inter-relational, and temporal problem, meaning that how to maximize well-being for an individual will be a result of internal desire and goal states (intra-relational), our external relationships with others (inter-relational), and the balance of today’s and tomorrow’s (temporal) well-being in relation to both ourselves and others.
I’ve written extensively on the first two problems already. See The Well-being Algorithm for a description of the intra-relational problem. See Be Happy or Be Good?, Having Children, Deciding Who Loses, The Communication Market: Speaking Honestly, Lies, or Not at All, Acceptance and Tolerable versus Intolerable Harm, The Future of Work, Why I Don't "Like" Adoption, Prioritizing World Problems, and A Trump Presidency Will Kill Thousands, Possibly Millions for discussions of the inter-relational problem.
I’ve also written a bit about the temporal problem. See Why You Need Stress, The Exercise Algorithm, The Feudalism of America Today, The Education Algorithm, and F*ckin' Baby Boomers: Some Good Paragraphs about Them. All of these previous writings have in one way or another highlighted areas where tradeoffs and conflicts exist, either between our own desires and goals, our own well-being and that of others, or between today and tomorrow’s level of well-being.
This article is attempt to add to these previous discussions and elaborate on how the often abstract, everyday economics we see in the news relates to well-being in reality. How we choose to consume, invest, use credit and debt, and manage issues of sustainability matter. They matter to us, both today and tomorrow. They matter to others, both those alive today and those alive tomorrow.
Ultimately economics is the field of study that attempts to figure out all of these trade-offs and the consequences we face for whatever decision we eventually make. Seeing, knowing, and recognizing that these decisions aren’t really about money or profit and loss, but real people’s lives and real people’s well-being helps us decide what really matters and allows us to act accordingly.