Does inequality affect the way we spend?
What happens to our consumption behaviour when we are exposed to the spending choices of our richer neighbours? In recent research on the social determinants of consumption, I have been looking at the consequences of living in unequal economies on consumption and well-being.
Between 1950 and today, the size of the median American house has more than doubled, reaching nearly 250 square meters at the wake of the 2008 financial crisis. Despite this general improvement in the amount of private space per person, the average American household is not more satisfied with their house today than they were 30 years ago. This is all particularly paradoxical given that at any point in time, people living in bigger houses do report higher levels of residential satisfaction.
We know from decades of research in psychology, marketing, and behavioural economics that individuals assess their level of material well-being relative to some reference point. In this case, the reference consumption level may be the size of their neighbour’s house. If people only care about relative house size, then doubling the size of everybody’s house should not affect average residential satisfaction, as one’s own rank in the distribution of house size remains essentially unchanged. While the “relative consumption hypothesis” was discussed by classical economists, from Adam Smith to Karl Marx, I empirically tested this hypothesis by linking highly detailed survey data from American homeowners to their personal experience in new housing constructions using a large dataset of millions of geo-localised houses.
‘The status benefits which we obtain from choosing to live in a ‘McMansion’ vanish once even larger houses are built around us'
Vanishing status benefits
When looking at the impact of new constructions, I find that only the biggest houses built in one’s neighbourhood lower the satisfaction of existing homeowners for their own house, and that this effect is particularly strong for those who were living in large houses themselves. In other words, the status benefits which we obtain from choosing to live in a ‘McMansion’ vanish once even larger houses are built around us.
Similar results have been observed in laboratory experiments across several types of consumption expenditures. However, why a particular product (e.g. a house or a car) is more or less sensitive to the consumption behaviour of others is not well understood. What we do know is that it not only depends on the characteristics of the product itself, for example, its visibility, but also on the identity of the reference group to whom consumers compare themselves to, say their richer neighbours, and how they may be perceived.
Aspirational needs of the poor
When the reference consumption levels are determined by those who earn more money in society, inequality driven by the top of the distribution may affect the way we allocate our expenditures across various types of goods. In related research conducted with Eve Colson-Sihra (Hebrew University), we estimate the “aspirational needs of the poor”, using highly detailed consumption expenditures from Indian households and a fully specified system of demand. Accounting for supply side explanatory factors, such as the relative price of products or households’ own income, we isolate the impact on consumer preferences of an external change in households’ level of relative deprivation within a village or region. In other words, local changes in inequality driven by national returns to particular jobs. We find that in more unequal districts, luxury goods become necessary to the poor, with dire consequences on their cost of living and calorie intake.
The conspicuous value of luxury brands
Does inequality also affect our preferences towards particular brands? In ongoing research, I am looking at the way the conspicuous value of luxury brands varies as a function of local changes in inequality, using the digital footprints left by consumers when they search for “Gucci” or “Louis Vuitton” compared to “Gap”. Preliminary results suggest unequal markets are also marketplaces where luxury brands are perceived as being the most prevalent. However, when inequality is low, consumers tend to distinguish themselves horizontally (e.g. through a particular fashion style), rather than vertically (i.e. through the premium price that they are willing to pay for an item). More equal economies therefore do not preclude consumption. They may however, lead to more democratic consumer societies.