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Option exercise with temptation

  • Jianjun Miao


This paper analyzes an agent's option exercise decision under uncertainty. The agent decides whether and when to do an irreversible activity. He is tempted by immediate grati¯cation and su®ers from self-control problems. This paper adopts the Gul and Pensendorfer self- control utility model. Unlike the time inconsistent hyperbolic discounting model, it provides an explanation of procrastination and preproperation based on time consistency. When applied to the investment and exit problems, it is shown that (i) if the project value is immediate, an investor may invest in negative NPV projects; (ii) if the production cost is immediate, a ¯rm may exit even if it makes positive net pro¯ts; and (iii) if both rewards and costs are immediate, an agent may simply follow the myopic rule which compares only the current period bene¯t and cost.

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Article provided by Springer in its journal Economic Theory.

Volume (Year): 34 (2008)
Issue (Month): 3 (March)
Pages: 473-501

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Handle: RePEc:spr:joecth:v:34:y:2008:i:3:p:473-501
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  1. W. Pesendorfer & F. Gul, 1999. "Temptation and Self-Control," Princeton Economic Theory Papers 99f1, Economics Department, Princeton University.
  2. W. Pesendorfer & F. Gul, 1999. "Self-Control and the Theory of Consumption," Princeton Economic Theory Papers 99f2, Economics Department, Princeton University.
  3. Per Krusell & Anthony A Smith, Jr., 2001. "Consumption Savings Decisions with Quasi-Geometric Discounting," NajEcon Working Paper Reviews 625018000000000251,
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  8. Ted O'Donoghue & Matthew Rabin, 1999. "Incentives For Procrastinators," The Quarterly Journal of Economics, MIT Press, vol. 114(3), pages 769-816, August.
  9. Laibson, David, 1997. "Golden Eggs and Hyperbolic Discounting," The Quarterly Journal of Economics, MIT Press, vol. 112(2), pages 443-77, May.
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  11. DeJong, David N. & Ripoll, Marla, 2007. "Do self-control preferences help explain the puzzling behavior of asset prices?," Journal of Monetary Economics, Elsevier, vol. 54(4), pages 1035-1050, May.
  12. Per Krusell & Burhanettin Kuruşçu & Anthony A. Smith Jr., 2010. "Temptation and Taxation," Econometrica, Econometric Society, vol. 78(6), pages 2063-2084, November.
  13. Ayse Imrohoroglu & Selahattin Imrohoroglu & Douglas H. Joines, 2000. "Time inconsistent preferences and Social Security," Discussion Paper / Institute for Empirical Macroeconomics 136, Federal Reserve Bank of Minneapolis.
  14. Fudenberg, Drew & Levine, David, 2006. "A Dual-Self Model of Impulse Control," Scholarly Articles 3196335, Harvard University Department of Economics.
  15. Esteban, Susanna & Miyagawa, Eiichi & Shum, Matthew, 2007. "Nonlinear pricing with self-control preferences," Journal of Economic Theory, Elsevier, vol. 135(1), pages 306-338, July.
  16. Per Krusell & Burhanettin Kuruscu & Anthony A. Smith, Jr., . "Time Orientation and Asset Prices," GSIA Working Papers 2001-13, Carnegie Mellon University, Tepper School of Business.
  17. Brocas, Isabelle & Carrillo, Juan D., 2005. "A theory of haste," Journal of Economic Behavior & Organization, Elsevier, vol. 56(1), pages 1-23, January.
  18. Rook, Dennis W, 1987. " The Buying Impulse," Journal of Consumer Research, University of Chicago Press, vol. 14(2), pages 189-99, September.
  19. Brocas, Isabelle & Carrillo, Juan D, 2001. " Rush and Procrastination under Hyperbolic Discounting and Interdependent Activities," Journal of Risk and Uncertainty, Springer, vol. 22(2), pages 141-64, March.
  20. Akerlof, George A, 1991. "Procrastination and Obedience," American Economic Review, American Economic Association, vol. 81(2), pages 1-19, May.
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