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Non-Exponential Discounting: A Direct Test


  • Richard Startz
  • Kwok Ping Tsang

    (Virginia Tech)


Standard models of intertemporal utility maximization under uncertainty assume that agents discount future utility flows at a constant compounded rate—exponential discounting. Euler equations estimated over different time horizons should have equal discount rates. They do not. Rising term yield premia on safe nominal bonds imply discount rates that rise with longer horizons, as uncertainty is much too small to account for the difference in interest rates. Five-year discount rates are roughly triple one-quarter discount rates. Such deviations from exponential discounting are large enough to make a large difference in consumption choices over long horizons. Our rejection of exponential discounting raises doubts about dynamic consistency in consumer choice, and therefore calls into question an underpinning of many intertemporal models.

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  • Richard Startz & Kwok Ping Tsang, 2008. "Non-Exponential Discounting: A Direct Test," Working Papers UWEC-2008-25, University of Washington, Department of Economics.
  • Handle: RePEc:udb:wpaper:uwec-2008-25

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    1. David H. Autor, 2001. "Why Do Temporary Help Firms Provide Free General Skills Training?," The Quarterly Journal of Economics, Oxford University Press, vol. 116(4), pages 1409-1448.
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    3. Bharat N. Anand & Alexander Galetovic, 2000. "Weak Property Rights and Holdup in R&D," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 9(4), pages 615-642, December.
    4. Bontems, Philippe & Bourgeon, Jean-Marc, 2000. "Creating countervailing incentives through the choice of instruments," Journal of Public Economics, Elsevier, vol. 76(2), pages 181-202, May.
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