Declining Marginal Utility of Consumption

Kevin Drum on a hypothetical he recently discussed:

So how to get at the difference? Well, I figured one possible way is this: if you really were a fairly ordinary upper middle class wage earner making $100K per year, and you had a 50-50 chance of either joining the ranks of the elite or falling down to the bottom of the working class, which seems further away to you? The answer from comments was loud and clear: the bottom of the working class. I didn’t count, but I’d say only about 10% of commenters were willing to take the coin flip. The other 90% would stick with their $100K lifestyle.

So what does this mean? Probably not much. But it’s suggestive that in terms of lifestyle, if not political goals, a $100K wage earner actually feels somewhat closer to the zillionaires than to someone barely scraping by. We intuit, correctly I think, that life at the bottom of the working class is pretty damn tough, while life at the tippy top is more exciting, but perhaps not fundamentally different from life in the upper middle class.

The specific coin flip offered was this:

— Heads: You will be stripped of most of your assets and will earn $30,000 per year for the rest of your life. That’s all you get, and neither friends nor family can top it up for you.

— Tails: You will earn $1 million per year for the rest of your life.

I actually think Drum is pointing to something profoundly important here, namely that even though a dollar is a dollar the marginal utility associated with an additional dollar of consumption declines pretty sharply. This matters for politics in two important ways. One is that tippy-top inequality—the tendency of the top 0.01 percent to pull away from the rest of the 98th percentile—is perhaps important in political economy terms, but perhaps not so significant in terms of overall human welfare. The other point is that redistribution of consumption opportunities from the rich to the poor is an extremely effective means of enhancing overall human welfare.