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

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Listed author(s):
  • 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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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
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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Find related papers by JEL classification:
  • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles
  • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
  • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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