A fundamental prediction of economic theory is that greater wealth causes greater well-being. This paper tests that prediction. It uses a natural experiment to estimate the causal effect of income on subjective well-being. Among a population of indebted farmers in rural India, the marginal effect of income on life satisfaction is found to be positive. However, the source of income appears to exert an important and independent effect. In this study the source is debt relief, which features a positive marginal effect but also a countervailing negative effect (perhaps due to stigma).
While economists have tended to focus on moral hazard, it is the opposite problem of moral hindrance that is far more likely to plague low-income credit markets. This is the central argument of this paper, supported by a rather straightforward application of economic theory. The total cost of default borne by borrowers, including social, psychological, and other non-appropriable forms of sanction, is likely to be excessive, giving rise to sub-optimal risk-taking and excessive effort on the part of borrowers. Because non-appropriable forms of sanction are strictly less efficient than pledged collateral, sanctions that induce first-best effort are already too high. Unfortunately, public and policy focus on minimizing interest rates has the effect of ratcheting up these sanctions, doing much harm to borrower welfare in the process. Policy should rather promote competition among lenders, encourage broader use of collateral, and allow interest rates to rise as necessary to meet borrower demand for varying loan conditions.
Policy analyses frequently clash. Their disagreements stem from many sources, including models, empirical estimates, and values such as who should have standing and how different criteria should be weighted. We provide a simple taxonomy of disagreement, identifying distinct categories within both the positive and values domains of normative policy analysis. Using disagreements in climate policy to illustrate, we demonstrate how illuminating the structure of disagreement helps to clarify the way forward. We conclude by suggesting a structure for policy analysis that can facilitate assessment, comparison, and debate by laying bare the most likely sources of disagreement.