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Hyperbolic discounting is rational: Valuing the far future with uncertain discount rates

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  • J. Doyne Farmer
  • John Geanakoplos

Abstract

Conventional economics supposes that agents value the present vs. the future using an exponential discounting function. In contrast, experiments with animals and humans suggest that agents are better described as hyperbolic discounters, whose discount function decays much more slowly at large times, as a power law. This is generally regarded as being time inconsistent or irrational. We show that when agents cannot be sure of their own future one-period discount rates, then hyperbolic discounting can become rational and exponential discounting irrational. This has important implications for environmental economics, as it implies a much larger weight for the far future.

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Paper provided by David K. Levine in its series Levine's Working Paper Archive with number 814577000000000356.

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Date of creation: 25 Sep 2009
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Handle: RePEc:cla:levarc:814577000000000356

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  1. Matthew Rabin & Ted O'Donoghue, 1999. "Doing It Now or Later," American Economic Review, American Economic Association, American Economic Association, vol. 89(1), pages 103-124, March.
  2. Weitzman, Martin L., 1998. "Why the Far-Distant Future Should Be Discounted at Its Lowest Possible Rate," Journal of Environmental Economics and Management, Elsevier, vol. 36(3), pages 201-208, November.
  3. Pizer, William & Newell, Richard, 2000. "Discounting the Distant Future: How Much Do Uncertain Rates Increase Valuations?," Discussion Papers, Resources For the Future dp-00-45, Resources For the Future.
  4. Ho, Thomas S Y & Lee, Sang-bin, 1986. " Term Structure Movements and Pricing Interest Rate Contingent Claims," Journal of Finance, American Finance Association, American Finance Association, vol. 41(5), pages 1011-29, December.
  5. Tjalling C. Koopmans, 1959. "Stationary Ordinal Utility and Impatience," Cowles Foundation Discussion Papers, Cowles Foundation for Research in Economics, Yale University 81, Cowles Foundation for Research in Economics, Yale University.
  6. Loewenstein, George & Prelec, Drazen, 1992. "Anomalies in Intertemporal Choice: Evidence and an Interpretation," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 107(2), pages 573-97, May.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Is hyperbolic discounting rational?
    by Economic Logician in Economic Logic on 2009-09-21 14:54:00
  2. The sickness of short-term-ism -- it's everywhere
    by Mark Buchanan in The Physics of Finance on 2011-07-06 12:36:00
  3. Deep Discounting Errors?
    by Mark Buchanan in The Physics of Finance on 2011-05-28 10:42:00
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Cited by:
  1. Gaël Giraud & Céline Rochon, 2010. "Transition to Equilibrium in International Trades," Documents de travail du Centre d'Economie de la Sorbonne, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne 10012, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne.
  2. Boyarchenko, Svetlana & Levendorskii, Sergei, 2010. "Discounting when income is stochastic and climate change policies," MPRA Paper 27998, University Library of Munich, Germany.
  3. Gaël Giraud & Céline Rochon, 2010. "Transition to Equilibrium in International Trades," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-00657038, HAL.
  4. Eric Crampton & Matt Burgess & Brad Taylor, 2011. "The Cost of Cost Studies," Working Papers in Economics, University of Canterbury, Department of Economics and Finance 11/29, University of Canterbury, Department of Economics and Finance.
  5. J. Doyne Farmer & John Geanakoplos & Jaume Masoliver & Miquel Montero & Josep Perello, 2014. "Discounting the Distant Future," Cowles Foundation Discussion Papers, Cowles Foundation for Research in Economics, Yale University 1951, Cowles Foundation for Research in Economics, Yale University.

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