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How good is the Exponential Function discounting Formula? An Experimental Study

  • Uri Benzion


    (The Technion-Israel Institute of Technology and Department of Economics, Ben-Gurion University)

  • Yochanan Shachmurove


    (Department of Economics, University of Pennsylvania and City College of the City University of New York)

  • Joseph Yagil


    (The Graduate School of Business, Haifa University and Columbia University)

This paper estimates the degree of the exponential-function misvaluation, its variation with given product price level, and its expected growth rate. The paper examines whether other mathematical functions, such as linear, quadratic and cubic functions, conform to the discounting and compounding processes of individual decision makers. Using subjects familiar with the exponential function discounting formula, this study finds that individuals undervalue the compound interest discounting formula given by the exponential function and overvalue the simple interest discounting formula given by the linear function. These findings can be attributed to the overreaction, overconfidence, mental accounting and narrow-framing behaviors discussed in psychology.

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Paper provided by Penn Institute for Economic Research, Department of Economics, University of Pennsylvania in its series PIER Working Paper Archive with number 03-015.

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Length: 44 pages
Date of creation: 01 Jun 2003
Date of revision:
Handle: RePEc:pen:papers:03-015
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  1. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
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  8. Laibson, David, 1998. "Life-cycle consumption and hyperbolic discount functions," European Economic Review, Elsevier, vol. 42(3-5), pages 861-871, May.
  9. Matthew Rabin & Ted O'Donoghue, 1999. "Doing It Now or Later," American Economic Review, American Economic Association, vol. 89(1), pages 103-124, March.
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  14. repec:tpr:qjecon:v:112:y:1997:i:2:p:443-77 is not listed on IDEAS
  15. Thaler, Richard H, 1990. "Saving, Fungibility, and Mental Accounts," Journal of Economic Perspectives, American Economic Association, vol. 4(1), pages 193-205, Winter.
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