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Viewing the future through a warped lens: why uncertainty generates hyperbolic discounting

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  • Thomas Epper
  • Helga Fehr-Duda
  • Adrian Bruhin

Abstract

A large body of experimental research has demonstrated that, on average, people violate the axioms of expected utility theory as well as of discounted utility theory. In particular, aggregate behavior is best characterized by probability distortions and hyperbolic discounting. But is it the same people who are prone to these behaviors? Based on an experiment with salient monetary incentives we demonstrate that there is a strong and significant relationship between greater departures from linear probability weighting and the degree of decreasing discount rates at the level of individual behavior. We argue that this relationship can be rationalized by the uncertainty inherent in any future event, linking discounting behavior directly to risk preferences. Consequently, decreasing discount rates may be generated by people's proneness to probability distortions.

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Bibliographic Info

Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 510.

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Date of creation: Sep 2010
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Handle: RePEc:zur:iewwpx:510

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Keywords: Time preferences; risk preferences; hyperbolic discounting; probability weighting; institutionally generated uncertainty;

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Citations

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Cited by:
  1. Helga Fehr-Duda & Thomas Epper, 2012. "Probability and Risk: Foundations and Economic Implications of Probability-Dependent Risk Preferences," Annual Review of Economics, Annual Reviews, vol. 4(1), pages 567-593, 07.
  2. Halevy, Yoram, 2012. "Time Consistency: Stationarity and Time Invariance," Micro Theory Working Papers yoram_halevy-2012-19, Microeconomics.ca Website, revised 24 Jun 2012.
  3. Thomas Epper & Helga Fehr-Duda & Renate Schubert, 2011. "Energy-Using Durables: The Role of Time Discounting in Investment Decisions," IED Working paper 11-16, IED Institute for Environmental Decisions, ETH Zurich.

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