From the Wealth to the Living Standards of Nations: Internalizing the Social Contract in Macroeconomic Theory and Policy

This chapter proposes a reformulation and rebalancing of the standard liberal economic growth and development model by integrating key institutional dimensions of the social contract into the heart of macroeconomic theory. Specifically, it defines an extensive ecosystem of policy and institutional features that have an important bearing on the rate and breadth of progress in household living standards, categorizing them in five principal policy domains. These are represented as an economy’s “factors of distribution” and modelled as a system—an aggregate distribution function analogous to the aggregate production function. This model of the main channels by which rising living standards propagate in an economy is accompanied by a map of related domains of enabling policy and institutional strength. This policy and institutional ecosystem is the practical manifestation of a country’s social contract—how it translates its values with respect to inclusion, sustainability and resilience into the rules of the game within its economy. The aggregate distribution function is the de facto income distribution system or “living standards diffusion mechanism” of modern market economies. It is the combination and indeed interaction of the aggregate distribution and production functions of an economy that determine its progress in median household living standards. Macroeconomic theory and policy should be refocused on the goal of increasing the aggregate social welfare, or living standards, of nations rather than solely their GDP, or wealth, by placing equal and parallel emphasis on strengthening the aggregate production and distribution functions of economies. This is the golden rule of human-centred economics.