The Causes of Poverty (68): Rich People Not Giving Enough Money to Poor People

You can criticize trade policy, immigration restrictions, bad governance or any other commonly cited cause of poverty, but you shouldn’t forget the obvious: there are a lot of wealthy people in the world who could, without losing much wellbeing (due to the diminishing marginal utility of money), help to lift every single poor person in the world to a much higher level of wellbeing.

The fact is that they could but don’t. We do have progressive taxation systems and other means of redistribution, we have development aid, we have charity etc., but none of these things yields enough money to lift everyone out of poverty. And there’s not enough public support to strengthen these redistribution mechanisms. Development aid is already unpopular at current levels, and don’t even start to talk about tax increases. The tireless efforts of Peter Singer and company to promote giving also have only a small effect.

The insufficiency of giving and other means of redistribution is hard to understand, in particular given the fact that rich people are generally not very dumb and able to understand the law of diminishing marginal utility. Of course, I know about loss aversion, the endowment effect, habit formation, the importance of status etc. But again, wealthy people should in general be the ones best able to overcome biases, to distinguish the important things in life from the unimportant, and to see how helping others can be beneficial to ourselves, both psychologically and socially (helping makes you feel good, and living a good life amid misery is socially untenable). But perhaps I’m wrong about rich people.

And then there’s something else stopping us from giving more (or allowing ourselves to be taxed more, which is roughly the same thing), namely the stories we tell ourselves. For example, you often hear that it’s better to allow people to look after themselves first, so that they can create the conditions in which they unintentionally help. Allowing entrepreneurs to get rich – i.e. not taxing them too heavily and not insisting that they should give their money away rather than invest it – will be much more beneficial to the poor. Many of the poor will get a job thanks to them, and their products and services will also make the lives of many a lot better.

However, this is not incompatible with giving. True, what you give you can’t invest, but we can allow people to delay their giving until the day that they don’t need to invest a lot more. The example of Bill Gates comes to mind. So we can accept that there is some truth to the story that free enterprise takes care of a lot of poverty, and at the same time insist that there should be more giving.

Another story we tell ourselves goes like this: giving people money isn’t a very good way of helping poor people. Many of them will just waste it, middle men will confiscate it, third world governments will misuse it, people will become to depend on it etc. Well, that doesn’t seem to be completely correct. Experiments with conditional cash transfers are very promising. And even if it’s correct to some extent, that’s just an argument to be smarter when giving money: invest it in businesses, healthcare etc.

And finally, there’s the story about agency: helping people is disrespecting them as self-authors and self-governing moral creatures. You may make them materially better off – at least in the short run because dependence on help may create motivational problems in the long run – but you take away their dignity and make them psychologically and morally worse off. People may not want to be helped, and even if they do it may not be in their best long term interest. The problem with this story is not that it’s false as such; it’s that people may not have a long term if we fail to help, and that starvation or homelessness is also an affront to dignity, and surely one that is a lot worse than receiving help.

More about giving is here. More posts in this series are here.

Why Do We Need Human Rights? (26): Human Rights and Diminishing Marginal Utility

The marginal utility of something – usually a consumption good or a service – is the utility (pleasure, happiness, wellbeing or whatever) gained from an increase in the consumption of the thing. The law of diminishing marginal utility states that the first unit of consumption of a good or service yields more utility than the second and subsequent units (in other words, the utility of each unit decreases as the supply or consumption of units increases).

The classic example is the buffet-style restaurant promising “all you can eat” for a fixed sum. Each additional plate of food you take provides less utility than the one before. After the first plate, your hunger has been somewhat tamed, meaning that your enjoyment of the second plate is less, and so on. After a certain number of plates, you reach a point at which eating more would make you sick. Utility may therefore become zero or even negative, so-called “disutility”. The restaurant has determined the price of a meal at a level slightly above the level at which the average person decides that the additional marginal utility of one more trip to the buffet isn’t worthwhile (or is zero or negative).

You start of with zero meals; you’re hungry. Your utility, which we’ll call here “satisfaction”, is zero. You eat your first plate, which gives you a whopping utility of 20. You’re very satisfied with it. The next plate is nice as well, but only half as nice. It gives you a satisfaction of 10, and puts your total satisfaction for the dinner party thus far at 30. 10 is the marginal utility of this second plate; 30 the total utility of the evening out. And so it goes on. The third plate only adds another 8 points of satisfaction etc. By the time of the 7th plate, the food doesn’t do anything to you. You eat it just because you want to get the maximum out of the fixed amount that you paid for the use of the buffet. It has zero marginal utility, adding nothing to the total utility of the night out. However, you decide to go for your 8th plate, because, hey, bang for the buck. And, surprise, surprise, it makes you feel slightly sick. It has a negative marginal utility, diminishing the total utility of the dinner party. The 9th plate…, well, no need to elaborate beyond the fact that input equals output and that Monty Python is great. You wish you hadn’t come.

Here it may be noted that the utility of the successive plates diminishes not because they are of inferior quality – all plates are just as tasty. The utility of the successive plates diminishes simply because they happen to be consumed consecutively. I can also mention that in some cases, marginal or total utility diminish but never fall to zero; that may be the case for money for instance.

The law of diminishing marginal utility applies to many things in life, but not all: antibiotics need to be taken till the end, and the utility of the first dose depends on the last dose; people interested in rare collectables may value an additional piece more than the first piece because a larger collection of rare things is more valuable than a small collection; greedy people may value each addition to their assets equally, and so on. Moreover, there’s also something called increasing marginal utility:

[P]icture you are in a room with 10 people screaming. You hate it when people scream, and you can pay a person to get them to stop screaming. … Would you pay a $1 to get the first person to stop screaming, and a penny for the 10th person to stop screaming? No. Getting one person to stop screaming would make very little difference in how much you dislike being in the room. Modern psychology tells us you might not even notice it. You’d probably only pay a penny to get that first guy to stop screaming. However getting the second guy to stop screaming might be worth 10 cents. And the last guy, the difference between some screaming and no screaming, might be worth the full dollar to you. The more quiet it got, the more a marginal difference in how quiet it is would be worth to you. There’s increasing returns to this good; the 10th guy not screaming is worth more than the first guy not screaming, which is the exact opposite dynamic of the 10th cake being less delicious than the first. (source)

The “law” of diminishing marginal utility is therefore not really a law at all; it just describes a rather common phenomenon. And because it’s common, it’s really no surprise that it’s valid in the field of human rights as well. The same inverted U-shape that we see in the graph above for the total utility trend of increased consumption, is present in a lot of human rights related issues. Take the example of freedom, a notion that looms large in human rights language. Let’s simplify the concept and state that a person has more freedom if the number of his or her options – or possible and realistic objectives in life – increases. When, in other words, people or governments don’t block or impose options, and when a person’s resources – education, wealth, health, parents, abilities etc. – are sufficient to know, evaluate and choose objectives from a large and unconstrained set, and also to pursue the chosen objectives with a reasonable chance of success. Freedom is of course a much more complicated concept than this – see here for example – but for present purposes this can suffice.

Hence, a person with only very few options has limited or no freedom; his or her freedom levels off after the number of options reaches a certain point (there’s not much additional freedom going from a life that has the option of 2 holidays a year to one that offers three holidays, although the level of your happiness may rise slightly); and then your freedom decreases sharply beyond a certain number of options because an excess of options is inhibiting and disconcerting.

Something similar happens in the case of equality, also an important concept in human rights language. Individuals who are at the wrong side of inequality in a society – be it income inequality or other types of inequality – resent this and experience this as disutility: their self-esteem and health may suffer, their life expectancy is diminished etc. Their overall wellbeing increases as they manage to achieve more and more equality, more equal rights, more income and social security benefits and so on. However, beyond a certain level of equality, people start to see equality as disutility, since they also value achievement and success, both for themselves and in others.

The same is true on the social level: unequal societies experience less overall trust, more anxiety and illness, more excessive consumption and other failings. However, a very equal society fails to provide incentives for success and is therefore viewed as a negative.

A final example has to do with rights themselves. A society that doesn’t recognize any rights is obviously failing in “utility”. Once different rights receive recognition, utility increases. However, societies can recognize too many rights: rights inflation empties the notion of rights of its meaning, resulting in disutility. Rights have to be relatively scarce in order to be able to do their work.

So far, these examples of the applicability of the law of diminishing returns in the field of human rights seem to help us to make the world a better place: they tell us that freedom is about more than just multiplying our options, that equality can have a downside beyond a certain point, and that we should be careful when extending the language of human rights to new areas of concern. Another interesting policy implication of the law is in poverty reduction, another human rights issue. The diminishing marginal utility of money can justify redistribution: taking $100 from the rich hurts them a little, while it helps the poor enormously if they receive this $100 through redistribution mechanisms such as social security, unemployment benefits etc. While billionaires do care about losing $100, their loss of utility (happiness, satisfaction, wellbeing) is small compared to the gain in a poor person’s utility when he or she receives the same amount. (On the other hand, the diminishing marginal utility of money can be an argument against doing something about income inequality; after all, if the extra dollars of the rich don’t matter as much for wellbeing, inequality also doesn’t matter as much. I think this argument is wrong because the extra dollars of the rich matter for democratic politics, but that’s a different issue).

However, one can just as easily see negative human rights implications of the law of diminishing returns. A torturer can use this law in order to determine the optimal amount of pain to inflict. Too little pain results in low levels of “utility”, just as too much pain. In the former case, the victim will not divulge information or confess; in the latter case, the victim will say anything.