Money vs Happiness: Understanding the Diminishing Returns of Wealth

Economists use the concept of utility to explain what rational individuals seek to maximize in their lives. In economic theory, homo oeconomicus—the rational economic man—aims to make choices that increase utility, an abstract measurement of satisfaction or benefit derived from goods and decisions.

Utility is not something you can see or hold, but it's a useful framework to evaluate decisions. For instance, buying a brand-new Porsche brings some amount of utility, or satisfaction, to the buyer. The beauty of utility is that it’s universal—it applies to all decisions and can grow without any limits. Double the utility means twice the happiness or satisfaction. This is why economists often use utility as a guiding principle to understand human behavior, asking whether a decision increases or decreases someone’s utility.

Now, if we think about which thing in our society comes closest to this concept of universal utility, many of us would probably think of money. After all, money is often seen as the key to a better life, full of opportunities, material goods, and comfort. But, crucially, money and utility do not align perfectly.

Twice the Money, Not Twice the Utility

One of the most important distinctions between money and utility is that doubling your money doesn’t necessarily mean doubling your happiness or satisfaction. Imagine giving someone with zero net worth $5 million. That amount would change their life completely—they could buy a house, travel the world, secure financial freedom, and experience tremendous utility. But now, imagine giving that same person $10 million instead of $5 million. Sure, they would have more money, but the additional benefit or satisfaction—the extra utility—wouldn’t be twice as great.

This diminishing return is a crucial insight into how we value money as a society. When someone’s basic needs and financial security are met, the impact of additional wealth becomes less profound. The first millions may unlock a world of possibilities, but each extra million after that brings diminishing levels of satisfaction.

How Diminishing Returns Guide Our Life Choices

These theoretical ideas may sound abstract, but they offer powerful guidance for how we approach life decisions. If money doesn’t guarantee infinite satisfaction, then once you’ve achieved financial stability, it might be wise to shift your focus to other areas that can increase your overall well-being. For instance, health, relationships, personal development, or even physical fitness (muscles, for example) are all aspects of life that money can’t buy directly.

If wealth were the ultimate source of utility, focusing solely on money would be the perfect strategy to maximize happiness. However, many of the most important things in life—physical and mental well-being, meaningful relationships, and personal fulfillment—aren’t for sale. These are things we need to work on outside the realm of financial wealth.

Money and Happiness: What Does the Research Say?

There’s been significant research on how money affects happiness and well-being. Many studies suggest that once people reach a certain income level that covers their basic needs, the additional happiness derived from more money diminishes. For example, the famous $75,000-per-year threshold study suggested that after reaching this level of income, people's day-to-day happiness plateaus, even if their income continues to rise. In other words, earning more after that point doesn’t have a major effect on day-to-day emotions or overall happiness.

However, other studies provide a slightly different view. Some research shows that utility can still increase with more money, even if you’re already earning a significant amount. The key lies in how you use that money. For instance, spending on experiences rather than material goods, or using wealth to help others, can bring more lasting happiness.

Conclusion: The Limits of Wealth

Understanding the diminishing utility of money helps frame how we approach our goals. Wealth can undoubtedly improve life, especially in lifting people out of poverty or financial insecurity. But after a certain point, chasing ever-larger sums of money may not be the best route to a fulfilling life.

Instead, focusing on non-financial aspects—health, personal growth, relationships, and meaningful experiences—can often lead to greater satisfaction. So, while money is essential and can bring a certain level of happiness, it’s important to recognize its limits and to invest in areas of life that offer more enduring forms of utility.

In the end, wealth should be viewed as a tool, not an end in itself. When we understand the diminishing utility of money, we can make better decisions about how to lead a truly fulfilling life.