The Swiss Employers Association recently expressed concerns that the growing willingness to work part time could impair Swiss prosperity. Should we be concerned about an increased appetite for leisure? Economic analysis shows that this is not the case, even if it results in a decline in GDP. It should be kept in mind that the purpose of economic activity is not production per se, but the well-being to which it contributes, which also depends on other factors.
What do we learn from a standard economic model?
The impact of a change in work supply, as well as other changes, can be analyzed in a standard model (detailed analysis). Specifically, we consider an economy with a representative household and an infinite time horizon. The household has a consumption basket that includes goods, services, and leisure, and allocates its resources to maximize its welfare.
The economy produces services and goods, the latter of which can be used as productive capital rather than consumed. To keep things simple, the production of services and goods uses the same technology involving labor and capital.
As a starting point, the figures below illustrate the impact over time of a persistent 10% decline in productivity affecting goods and services in the same way.
The left-hand side of the figure shows that the production of services falls (green line), and that of goods even more (blue line). The stronger effect for goods reflects a sharp decline in their use as investment, as low productivity makes capital production less attractive, leading to an erosion of capital (red line).
The right-hand side focuses on the variables affecting the household. The consumption of goods and services decreases identically for both (blue line), while the consumption of leisure increases somewhat (green line). This is in fact a «forced vacation» as the fall in productivity causes the wage to fall and makes employment less attractive. We also illustrate the welfare measure that the household seeks to maximize (red line), and clearly see that the productivity decline hurts. In the end, the household sees a deterioration in its standard of living equivalent to a 9% decline in consumption after 50 quarters. The adverse consequences of a decline in productivity are a well-known conclusion of economic analysis.
The impact of changes in preferences
What happens if the household starts to value services more highly, relative to goods? The figure below shows the effect of a 10 percentage point increase in the weight of services in the consumption basket.
This change in preference has no impact on the level GDP, but affects its composition. The production of goods falls (blue line on the left) while the production of services increases (green line). Since the productivity of capital has not changed, there is no reason to produce more or less of it.
The change in the production structure is reflected in consumption (right-hand side). The household reduces its consumption of goods (blue line) and increases its consumption of services (orange line, the difference in magnitude with respect to goods reflects the fact that initially services represent a larger part of the basket than goods). Since the change is in the preference between goods and services, but not in the preference between goods and services together and leisure, the household does not change its working time (green line).
In the end, the household's welfare increases (red line) because its consumption is now redirected towards a category that provides more benefits. In fact, no one would worry about this change, as the economy adapts to best satisfy preferences that have changed. Note that the increase in welfare would also be present if household preferences had shifted in favor of goods, because while we would then have an inverse effect on the composition of GDP, it would still represent a shift back to the most valued categories.
Why then be concerned when the shift in preferences is not between goods and services, but between goods and leisure? The figure below shows the impact of a 10 percentage point increase in the weight of leisure in the consumption basket (goods, services and leisure).
The left panel clearly shows that the economy is experiencing a sustained decline in GDP, with a contraction in the production of services (green line) and goods (blue line). The figure is in fact almost identical to the one in the case of a decline in productivity. As in that case, the production of goods falls more sharply because the reduction in demand for goods and services makes capital less necessary, which leads to a reduction in capital (red line). Looking at this part of the figure, one could draw an alarmist conclusion.
But this conclusion would be wrong, because we have to consider the right panel. We see that the reorientation of preferences towards leisure leads to a similar decrease in the consumption of goods and services (blue line), while the consumption of leisure increases strongly (green line). The household's welfare is higher as it adjusts its economic behavior towards the most beneficial activities.
In fact, the right-hand side of the figure is similar to the one for the change in preference between goods and services. Note that the increase in welfare is particularly pronounced in the short run. This is because the capital stock remains high initially, allowing for the production of goods and services that remain valued, and then declines, leading to reduced consumption of goods and services. Nonetheless, welfare is increased over the entire time horizon.
Do not confuse production and well-being
Our analysis illustrates the general principle in economic analysis that economic activity is not about market production per se, but about household welfare. While production certainly has an important impact on welfare, it is not the only cause.
We must therefore be careful not to treat GDP and welfare as identical. A decline in GDP is bad news if it reflects a deterioration in fundamentals such as productivity. But this is not the case if it reflects a conscious choice by households to take more leisure. Just as there is no alarm about a shift in preferences between goods and services, there is no reason to be alarmed about a similar shift between market and non-market consumption.
