Relative Income and Social Comparison

Why people judge their income partly against others around them, how positional goods fuel spending races, and what this means for happiness and policy.

Would you rather earn 50,000 dollars a year while everyone around you earns 25,000, or earn 100,000 dollars while everyone around you earns 200,000? In surveys, a surprising number of people choose the first option, even though it means having less money. This reveals the importance of relative income - how your income compares with that of other people - as distinct from absolute income, the actual amount you earn.

Your reference group

Everyone judges their situation against some reference group: the people they naturally compare themselves with. It might be neighbours, coworkers, classmates, relatives, or people seen online. The economist James Duesenberry argued as early as 1949 that people’s spending depends partly on what others around them spend.

Later research supports this. A well-known 2005 study by the economist Erzo Luttmer, using United States survey data, found that people reported lower happiness when their neighbours’ earnings were higher, even after accounting for their own income. Other studies find similar effects when people compare themselves with coworkers or with people of the same age and education. Social media may widen the reference group dramatically, exposing people to carefully selected glimpses of others’ lives.

Positional goods and spending races

Some goods are valued largely because of how they compare with what others have. The economist Fred Hirsch called these positional goods. The best house on the street, the most prestigious school, or the most fashionable phone all have value partly because they are scarce or ranked above others. When everyone buys more of them, their positional value does not rise, because the ranking stays the same.

This can create a spending race sometimes called keeping up with the Joneses. Each household spends more to keep pace with others, but because everyone does the same thing, no one ends up better placed. The economist Robert Frank has compared this to spectators at a stadium standing up to see better: once everyone stands, nobody’s view improves, and everyone is less comfortable.

A wedding spending race

Imagine a community where families traditionally hold weddings of a similar size. One family spends 10 lakh rupees on a much grander celebration. Other families, not wanting to appear less generous or successful, begin spending 10 or 12 lakh rupees on their own. After a few years, the typical wedding costs far more, many families have taken on debt, and yet no family feels more honoured than before, because the standard has simply moved up for everyone.

Why it matters

Relative income helps explain the Easterlin paradox: if happiness depends partly on rank, then when everyone gets richer together, rankings stay the same and average happiness rises less than expected. It also shows that one person’s spending can impose a cost on others by raising the standard they are measured against, similar to an externality in economics.

Some economists argue this could justify policies such as progressive consumption taxes on luxury spending, which might slow wasteful status races. Others caution that comparison can also motivate people to work, learn and improve, and that governments should be careful about judging which spending is wasteful.

At a personal level, being aware of your reference group, and choosing it thoughtfully, can protect your wellbeing.

Assuming only absolute income matters

Standard economic models often assume people care only about their own income and consumption. Wellbeing research suggests that is incomplete: the same salary can feel generous or disappointing depending on what people around you earn. Ignoring relative income can lead to overestimating how much happiness general income growth will bring.

Key takeaways

Relative income, how your income compares with others', affects wellbeing alongside absolute income.
People compare themselves against a reference group such as neighbours, coworkers or peers.
Positional goods are valued for their rank, which can fuel spending races that leave no one better off.
Social comparison helps explain why growing richer together raises happiness less than expected.