Leisure Time and the Measurement of Economic Welfare

Abstract

Most measures of economic welfare and the cost of living are based on consumer expenditure on goods and services. Such measures omit an important commodity - leisure time - which is purchased implicitly by not working. This paper discusses the issues involved in incorporating leisure time in measures of the standard of living, and empirically implements the theoretical discussion by calculating some measures of economic welfare for Canada which incorporate leisure. In order to calculate true measures of economic welfare, knowledge of the preferences of individual consumers or households is required. Pencavel [1977] provides measures of welfare for the U.S. using the estimated parameters of the Stone-Geary utility function. The advantage of this procedure is that it allows for substitution among goods and leisure in response to changes in relative prices. The disadvantage is that it assumes a specific functional form for the consumer's utility function. This paper employs index number theory to obtain measures of economic welfare in the joint commodity demand-labour supply context. Thus the measures obtained are not based on any assumed functional form for the utility function. However, the index numbers do not fully allow for substitution in response to changes in relative prices and are thus only approximations to the true measures of changes in the standard of living. A related issue addressed in this paper is the interpretation of published real wage or real earnings indexes, obtained by deflating nominal wages or earnings by a price index. While these are related to economic welfare, neither is a legitimate measure of the standard of living. Earnings may increase because of an increase in hours worked at existing hourly wage rates or because of an increase in the hourly wage with no change in hours of work. The two have very different implications for welfare change. Similarly real wage indexes are not satisfactory measures of welfare because they do not allow for leisure time. However, real wage and real earnings indexes which are legitimate measures of the standard of living can be constructed; the details are given in the paper.