A.C. Pigou’s Economic of Welfare

Meaning of Welfare:

According to Pigou, welfare resides in a man’s state of mind or consciousness which is made up of his satisfactions or utilities. The basis of welfare, therefore, is necessarily the extent to which an individual’s desires are met.

Social welfare is regarded as the summation of all individual welfares in a society. Since general welfare is a very wide, complicated and impracticable notion, Pigou delimits the range of his study to economic welfare. As he himself observes, economic welfare is by no means an index of total welfare because many other elements in the latter, like the quality of work, one’s environment, human relationships, status, housing, and public security are absent from economic welfare.

He, therefore, defines economic welfare as “that part of social (general) welfare that can be brought directly or indirectly into relation with the measuring rod of money.” Thus economic welfare, in the Pigovian sense, implies the satisfaction of utility derived by an individual from the use of exchangeable goods and services.

Pigovian Welfare Conditions:

Pigou regard economic welfare and national income as essentially coordinate. It is on this basis that he lays down two conditions for maximisation of welfare. The first condition states that welfare is said to increase when national income increases. Given the same tastes and income distribution, an increase in the national income represents an increase in welfare. Pigou contends that in most cases the national income would increase even though the disutility of work also increases.

Second, for welfare maximisation the distribution of the national income is equally important. If national income remains constant, transfers of income from the rich to the poor would improve welfare. According to Pigou, such transfers mean less to the wealthy than to the poor, as a result the economic position of the latter is raised. This welfare condition is based on the dual Pigovian postulates of ‘equal capacity for satisfaction and diminishing marginal utility of income.’

Pigou argues that different people derive the same satisfaction out of the same real income and that “people now rich are different in kind from the people now poor having in their fundamental nature greater capacities for enjoyment.” With income subject to diminishing marginal utility, transfers of income from the rich to the poor will increase social welfare by satisfying the more intense wants of the latter at the expense of the less intense wants of the former. This it is economic equality that maximises welfare.

Dual Criterion:

To find out improvements in social welfare, Pigou adopts a dual criterion:

First, an increase in the national income ‘brought about either by increasing some goods without dimishing others or by transferring factors to activities in which their social value is higher,’ is regarded an improvement in welfare without reducing the share of the poor.

Second, any reorganization of the economy which increases the share of the poor without reducing the national income is also considered an improvement in social welfare.

Assumptions of Pigovian Conditions:

The Pigovian welfare conditions and the dual criterion pre-suppose the existence of the following assumptions:

(1) Each individual tries to maximise his satisfaction from his expenditure on different goods and services.

(2) Satisfactions are comparable both interpersonally and interpersonally.

(3) The law of diminishing marginal utility of income applies. It means that the marginal utility of income falls, as income increases. As a result, the gain in utility of an additional amount of income to a poor man is greater than the loss of utility to a rich man from the same amount of income.

(4) There is equal capacity for satisfaction. It implies that different people derive the same satisfaction out of the same real income. Given these assumptions, it is possible to satisfy the Pigovian conditions of maximum social welfare on the basis of his dual criterion.

Its Criticism:

Though, Pigou’s Economics of Welfare is the first clear analysis of welfare economics, yet the Pigovian ‘conditions of welfare’ have been criticised on the following grounds:

(1) The Notion of Maximisation is not clear:

Pigou lays emphasis on the maximisation of welfare, but he does not clarify the notion of maximisation. His ‘maximum’ is in fact the ‘optimum’, but it is a stable point. But this is not a correct view because the ‘optimum’ is not stable. It changes with the increase or decrease of national income.

(2) Pigou measures ‘welfare’ cardinally:

According to Pigou, welfare is measured in terms of utility or satisfaction. He regards social welfare as the summation of utilities of exchangeable goods and services to individuals. Economists do not agree with this view because quantitative measurement of utility is not possible. It is for this reason that modern economist’s measure utility ordinally.

(3) National Income is not an Accurate Measure of Welfare:

Pigou’s welfare conditions are related to the national income. But it is not easy to calculate national income. Again, social welfare does not increase by a mere increase in national income. It is possible that national income may increase due to inflationary rise in prices and the poor may become worse-off than before.

It is due to these reasons that modern economists measure welfare on the basis of ‘choice’ rather than by national income. For instance, when an individual chooses bundle A of some good rather than bundle 5, he undoubtedly derives greater satisfaction or utility from A. It is in this way that his welfare increases.

(4) According to Professor Robbins, Pigou’s assumption of man’s equal capacity for satisfaction does not make his notion of welfare a positive study. In his words, “This assumption rests on ethical principle rather than upon scientific demonstration; it is not a judgement of value.”

(5) Pigou does not clarify the ethical relation of welfare:

Welfare economics is closely related to ethics but Pigou does not clarify it. Welfare economics is essentially a normative study in which value judgements and interpersonal comparisons are made. By not relating these concepts with his notion of welfare, Pigou s economics of welfare is not considered as an objective study of the causes of welfare.

Conclusion:

These drawbacks in the Pigovian analysis have led modern economists to expound the ‘compensation principle’ and the ‘social welfare function’ which are attempts at giving a new tinge to welfare economics.