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Intertemporal Choice Ec 101 Prof. Camerer. Time preference: Preferences for earlier vs later rewards Important choices involve time longer time horizon  more irreversibility careers, children, retirement Likely to be difficult the brain is not evolved for long-term reward

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intertemporal choice ec 101 prof camerer

Intertemporal ChoiceEc 101 Prof. Camerer

Time preference:

Preferences for earlier vs later rewards

Important choices involve time

longer time horizon  more irreversibility

careers, children, retirement

Likely to be difficult

the brain is not evolved for long-term reward

self-control: addiction, obesity, procrastination

Institutions may help or hurt

”No money down!” vs expert advice & external self-control (Soc. Security)

1 Some history of intertemporal choice
  • 2 Anomalies from discounted utility theory (LFR review)
    • Field tests
  • 3 Projection bias
  • 4 Life-cycle savings
    • Mental accounting puzzles
    • Calibration exercise (Angeletos et al)
    • Experimental data
  • 5 Research frontiers:
    • Practical lessons
    • Sophistication vs naivete
1. Some history of intertemporal choice (see Loewenstein, ch 1 L-Elster Choice Over Time)
  • Adam Smith (1776)
    • ”impartial spectator” (cingulate, PFC?)
  • John Rae (1834)
  • Eugen von Böhm-Bawerk (1889)
  • Irving Fisher (1930)
  • Paul Samuelson (1937)
  • Robert Strotz (1956)
  • Phelps and Pollak (1968)
    • Β- δ used to explain discounting of self and children (“future selves”)
  • David Laibson (1994,97) adapted PP 68
e g fisher
E.g., Fisher
  • Personal determinants of time preference
    • Foresight
    • Risk of future
    • Self-control
    • Habit
    • Life-expectancy
    • Concern for lives of other persons
    • Fashion: “In whatever direction the leaders of fashion first chance to move, the crowd will follow in mad pursuit…”
    • Was critical of econ-psych divide:
      • The fact that there are two schools, the productivity school and the psychological school, constantly crossing swords on this subject is a scandal in economic science and a reflection on the inadequate methods employed by these would-be destroyers of each other
Discounted Utility Model
  • Discount factor compresses many Fisherian forces into one term
  • Now accepted as normative and descriptive
    • ”It is completely arbitrary to assume that the individual behaves so as to maximize an integral of the form evisaged in [DU]. (Samuelson 1937)
  • Utility and consumption independence
  • Exponential  time consistency
2. Anomalies from DU (LFR)
  • Measured discount factors are not constant
    • Over time
    • Across type of intertemporal choices
  • Sign effect (gains vs. losses)
    • Neural substitution of ”loss” and ”delay”?
  • Magnitude effect (small vs. large amounts)
  • Sequence effect (preference for upward-sloping profiles)
  • Speedup-delay asymmetry (temporal loss-aversion).
magnitude and hyperbolic effects
Magnitude and hyperbolic effects
  • $15 now is same as ___ in a month. ___ in a year. ___ in 10 years.
    • Thaler (1981) $20 in a month (demand 345% interest), $50 in a year (120%), $100 in 10 years (19% interest)
    • Show discount rates decrease over time…
  • Students asked:
    • $150 vs. $x in 1 month, 1 year, 10 years
    • $5000 vs $x ….
Results of class survey







discounting is important in other domains
Discounting is important in other domains
  • Education (Duckworth, Seligman 05 Psych Sci): Predicts 14-yr olds’ grades
  • “Not the will to win…the will to practice”
role of attention cognition exposure and distractions very powerful walter mischel et al
Role of attention & cognition: Exposure and ‘distractions’ very powerful (Walter Mischel et al)
  • Delay-of-gratification in children (ring bell when they can’t wait any longer for better snack)
  • Fun thoughts, covering snacks enhances patience…except if they are thinking about the snacks! (see Fig 6.1)
  • Thoughts about “arousing” features versus “cognitive re-appraisal” creates impatience
field test front loaded buyouts for soldiers warner pleeter aer 01
Field test: Front-loaded buyouts for soldiers (Warner-Pleeter AER 01)
  • After the Gulf War in the early 1990s the military enticed soldiers into retirement
  • Choose between a lump sum payment (on the order of $20K) and an annuity (worth around $40K in PV @ r=10%)
  • Officers: 50% took lump sum
  • Enlisted: 90% took lump sum


Can estimate discount rates from large n=55,000 sample (enlisted results)
    • Male +.01
    • Black +.035
    • College -.048
    • Test scores: high (-.016), medium (-.01)
    • Size of lump sum (-.059/$10k) (largest fx)
general model estimation
General model estimation
  • Benhabib, Bisin, Schotter (04)
  • Θ=1 exponential =x*exp(-rt)
  • Θ=2 hyperbolic =x/(1+rt)
  • Graph for Θ=1,2,5 (r=.13)
  • BBS est. Θ (2.62,4.14), r (6.37, 33.64)
  • Vietnam villages: Θ=5.19, r=13, α=.88
    • ROSCA participants have higher α (+.15), lower r (-.04)
  • Can also add fixed cost (-b) and variable cost (α multiplier)
    • Highly variable estimates
projection bias loewenstein read rabin
Projection bias (Loewenstein, Read, Rabin )
  • Overestimate duration of state-dependence

is estimated utility in s’ from state s

α=0 rational

  • Examples:
    • Shopping while hungry
    • Childbirth: Lamaze versus epidural painkiller during labor
    • Cannibalism
    • Interpersonal: Difficult to imagine what people will do in different emotional states...(looting, lynchmobs, corporate scandals, crimes of passion, heroic acts...)
    • Wilson-Gilbert ”affective forecasting” mistakes (fail to appreciate ’emotional immune system’)
empirics catalog sales for winter clothes items
Empirics: Catalog sales for winter clothes items
  • Winter-item catalog sales (Conlin, O’Donoghue, Vogelsang AER in press)
    • 2.4 million observations 95-99. One 1 day to process, 3-7 days to ship
    • Theory predicts returns will depend + on temperature on return day R

- on temperature on order day O

intuition: lower temp(O)  ”surprised” at ”high” temp(R) and then return


temp (R)

Structural estimates of α from .01-.64

4. Lifecycle savings
  • ”Golden eggs and hyperbolic discounting”
  • Hyperbolics are tempted
  • Illiquid assets provide commitment
  • Two-thirds of US wealth illiquid (real estate)
    • Not counting human capital
  • Access to credit reduces commitment
    • Explain decline in savings rate 1980s?
borrowing credit card facts
Borrowing: Credit card facts
  • Average debt outstanding by income quintile (IQ)
  • Rates (APR, red) have

fallen as interest rates fall (blue). Blue is “spread”

Angeletos et al calibration
  • Model features
    • Quasi-hyperbolic sophisticated preferences
    • uncertain future labor income
    • liquidity constraint
    • allow to borrow on credit cards - limit
    • hyperbolic discounting – implications
    • labor income autocorrelated – shocks
    • hold liquid and illiquid assets
  • Calibration strategy:
      • Fix some parameters, simulate behavior, compare properties with data
habit formation spending
Habit formation Spending
  • “The hedonic treadmill”
habit formation spending33
Habit formation Spending
  • “The hedonic treadmill”
5 research frontiers sophistication vs naivete
5. Research frontiers: Sophistication vs naivete
  • Are hyperbolics “sophisticated”? or “naïve”?
  • Sophisticated hyperbolics will prefer pre-commitment
    • IRS refunds
    • Deadlines (Blockbuster vs Netflix)
    • Ulysses and the sirens
    • “Arrest me” list on riverboat casinos
    • Wertenbroch:
      • Smaller package sizes of “vices” than “virtues”
      • Cigarettes by the pack, gym contracts (Malmendier-Della Vigna AER 06, $19/visit vs $10 visit fee)
  • Q: Will markets work? Or does government have special legal power to enforce these contracts? (e.g. Army AWOL)
80% of respondents have negative discount rates! voluntary “forced saving”(Shapiro JPubEc 03; cf. Ashraf et al QJE in press)
frontiers practical value of behavioral econ save more tomorrow benartzi thaler jpe 04
Frontiers: Practical value of behavioral econ:Save More Tomorrow™(Benartzi-Thaler JPE 04)
  • Exploit power of inertia and desire to avoid a nominal decrease in pay
  • Commit 1/3 of future raise to 401(k)
swedish privatization c 2000 cronqvist thaler aer 04
Swedish privatization c 2000: (Cronqvist-Thaler AER 04)
  • Driven by desire for investor autonomy
    • 456 funds, could advertise & set fees
    • Information (fees, performance, risk) in book form
    • Big ad campaign: Investors encouraged to choose their own fund (57% of young did)
    • What happened?
swedish privatization cronqvist thaler aer 04
Swedish privatization: (Cronqvist-Thaler AER 04)
  • Autonomous investors
    • “home biased”
    • high fees
    • Poor performance
    • 03: 92% of young choose default
Neural evidence: (McClure et al Sci 04):u(x0,x1,…)/ β = (1/β)u(x0) + [δu(x1) + δ2u(x2) +…] Impulsive β↓ long-term planning δ↓
Problem: Measured δ system is all stimulus activity…use difficulty to separate δ (bottom left), δ more active in late decisions with immediacy…but is it δ or complexity?
Other aspects of time in econ
  • Other models and phenomena
    • Habit formation (common in macro)
    • Visceral influence (emotion-cognition)
    • Temptation preferences (Gul-Pesendorfer 01 Emetrica)

w{w,t}t iff U(S)=maxxS[u(x)+v(x)] –maxy S v(y)

    • Anxiety/savoring/memory as consumption (Caplin-Leahy; e.g. wedding planning)
    • Multiple selves/dual process models
types of anticipation preferences
Types of anticipation preferences
  • Reference-dependent preferences (K-Rabin 04)
    • Belief about choice changes reference point
    • Endowment effects/”auction fever”
    • Explains experience effects (experienced traders expect to lose objects, doesn’t enter endowment/ f1)
  • Emotions and self-regulation
    • E.g. depression. Focusses attention on bad outcomes, causes further depression
  • Intimidating decisions
    • f1 may increase stress about future choices
    • health care, marriage, job market, etc.
    • Better to pretend future choice=status quo
  • Q: When are these effects economically large?’
    • Avoid the doctor late cancer diagnosis
    • Supply side determination of endowment effects (marketing)
three interesting patterns
Three interesting patterns
  • Self-fulfilling beliefs
    • u2(δz,z)>u2(δz,z’) u2(δz’,z’)> u2(δz’,z)
    • prefer z if you expect(ed) z, z’ if you expect(ed) z’
    • Cognitive dissonance, encoding bias
      • “If I could change the way/I live my life today/I wouldn’t change/a single thing”– Lisa Stansfield
      • Undermines learning from mistakes
  • Time inconsistency
    • Self 2 prefers z’ given beliefs u2(f1,z’)>u2(f1,z)
    • but self 1 preferred to believe and pick z u1(x,δz,z)>u1(x,δz’,z’)
    • Problem: Beliefs occur after self 1 picks
  • Informational preferences
    • Resolution-loving: Likes to know actual period 2 choice ahead of time
    • Information-neutral: Doesn’t care about knowing choice ahead of time (“go with the flow”)
    • Information-loving: Prefers more information to less (convex utility in f1)
    • Disappointment-averse (prefers correct to incorrect guesses):
      • u1(x,δz,z)+u1(x,δz’,z’)> u1(x,δz’,z)+u1(x,δ
  • Surprising fact: If none of above hold, then personal equilibrium iff u* max’s E(u1(z1,z2) I.e. only way beliefs can matter is through these three
koszegi utility from anticipation and personal equilibrium
Koszegi, “Utility from anticipation and personal equilibrium”
  • Framework: Two selves, 1 and 2
    • Choices z1,z2 , belief about z2 is f1
    • u1(z1,f1,z2)
    • anticipation function Φ(z1,d2)=f1 (d2 is period 2 decision problem)
    • personal equilibrium:
      • each self optimizes
      • Φ(z1,d2)=s2(z1,Φ(z1,d2),d2) anticipate s2(.) choice
    • Beliefs are both a source of utility and constraint
  • Timeline:
    • Choose from z1 X d2.
    • Choose f1 from Φ.
    • Choose z2