The Economics Book

130

I

n the 19th century a group of

British philosophers known as

the utilitarians introduced the

idea that the happiness of individuals

can be measured and added up,

or aggregated. Italian economist

Vilfredo Pareto disagreed. In his

Manual of Political Economy, he

introduced a weaker definition of

social welfare that has come to

dominate modern economics. His

argument is based on a ranking

of relative happiness known as

“ordinal utility,” rather than an

absolute measurement of happiness

(“cardinal utility”).

Pareto said that individuals

know their own preferences and

will do what suits them best. If

everyone follows their own tastes,

A government wants

to improve the welfare

of its people...

... where each individual

trades to improve their

own welfare...

... but individual welfare

is unmeasurable in absolute

(not relative) terms.

A reasonable aim

would be to reach a state

of Pareto efficiency...

... until they reach a

compromise, or equilibrium, where

you can’t make one person better off

without hurting the others.

MAKE ONE PERSON

BETTER OFF WITHOUT

HURTING THE OTHERS

EFFICIENCY AND FAIRNESS

IN CONTEXT

FOCUS

Welfare economics

KEY THINKER

Vilfredo Pareto (1848–1923)

BEFORE

1776 Adam Smith’s The

Wealth of Nations relates

self-interest to social welfare.

1871 British economist

William Jevons says that value

depends entirely on utility.

1874 French economist Léon

Walras uses equations to

determine the overall

equilibrium of an economy.

AFTER

1930–50 John Hicks, Paul

Samuelson, and others use

Pareto optimality as the basis

of modern welfare economics.

1954 US economist Kenneth

Arrow and French economist

Gérard Debreu use

mathematics to show a

connection between free

markets and Pareto optimality.