Economics and the mid-life crisis have much in common: Both dwell on foregone opportunities

C'est la vie; c'est la guerre; c'est la pomme de terre . . . . . . . . . . . . . email: jpalmer at uwo dot ca

. . . . . . . . . . .Richard Posner should be awarded the next Nobel Prize in Economics . . . . . . . . . . . .

Thursday, May 12, 2005

Are Children an Inferior Good?

An inferior good is one for which the demand declines as income rises, ceteris paribus. Does the demand for children decline as incomes increase? It is impossible to answer this question by looking directly at cross-sectional data because higher income families also tend to have lots of other differences from lower income families. Also, the demand for children, as related to household income, exposes the importance of looking at both income and substitution effects. [link via Tyler Cowen at Marginal Revolution]:

The story told here attributes the secular decline in fertility to the tenfold rise in real wages that occurred over this time period. This increased the cost, in terms of foregone consumption, of raising children.
The presumption behind this argument is that as real wages increase, parents have to give up more money to stay home to raise children or to hire child care, thus raising the opportunity cost of "purchasing and maintaining" children vis a vis other consumer goods and services. Hence, what appears to be an income effect is really a substitution effect: if the effective price of purchasing and maintaining children rises, potential parents will substitute away from children and purchase more of other things, like R.Vs or travel or home entertainment systems or....

This analysis suggests that the recent proposals of the Canadian gubmnt to increase subsidies for day care will reduce the cost of purchasing and maintaining children, and thus increase fertility if potential parents view the plan as an entitlement: something likely to last indefinitely, which it almost surely will, if passed. As I wrote when the budget was first proposed:

The big mistake: federal gubmnt funding for child care, which has likely created yet another costly entitlement programme. This is almost a moral hazard problem in that guaranteeing young couples that the gubmnt will pick up the day-care tab will induce more of them to have more children...; I don't see any reason to subsidize this activity any more than subsidizing the purchase of big recreational vehicles (Phil Miller refers to his children as "the durables").
So why was there a post-war baby boom if incomes were rising and if parents substitute away from consuming children as a result?
The baby boom is accounted for by the invention of labor-saving household capital or other labor-saving household products and management techniques, which occurred during the middle of the last century...the increase in the efficiency of the household sector needed to explain the baby boom is not that large.
Suggestion to parents. Don't tell your children they're inferior goods. Emphasize the substitution effect. But even then, don't tell them it was a toss up between them and a new car.
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