Clusters and Equivalence Scales

Equivalence scales (S) are difficult to estimate: even apparently solid microeconomic foundations do not necessarily lead to consistent results. We contend that this depends on “style” effects: households with the same economic resources and identical “needs” (e.g. same number of members) may spend differently, following unobservable inclinations (“style” or “taste”). We submit that these style effects must be kept under control if one wants to obtain unbiased estimates of S. One way of doing this is to create clusters of households, with different resources (income), different demographic characteristics (number of members) but similar “economic profile”, in terms of both standard of living and “style”. Cluster-specific scales, and the general S that derives from their average, prove defensible on theoretical grounds and are empirically reasonable and consistent.