Behavioral eco lect 5: Intertemporal choice part 5

Variation

Which option do you prefer?

A: Italian restaurant today, Thai tomorrow

B: Italian restaurant today, Italian tomorrow

Which option do you prefer?

C: Thai restaurant today, Thai tomorrow

D: Thai restaurant today, Italian tomorrow

DU(D) = D(0)u(Th) + D(1)u(It)

DU(A) = D(0)u(It) + D(1)u(Th)

DU(B) = D(0)u(It) + D(1)u(It)

DU(C) = D(0)u(Th) + D(1)u(Th)

Spread

SLIDE 43/50

Can we predict future utilities

Underprediction of adaptation: we underestimate the extent to which we will adapt to new circumstances.

Diversification bias: we overestimate our future preference for variety over time (see Lecture 1)

In order to transform an outcome stream into a utility stream, we need to predict the utility we will derive in the future from obtaining an outcome in the future.

Projection bias: we tend to overestimate the extent to which our future selves will have the same preferences as our current selves. (see Lecture 1)

Overview

Exponential vs. hyperbolic discounting

Violations of discounted utility in general

Discounted utility

3 no-longer-puzzling phenomena

Setting the alarm

Smoking

Subscription to the gym

We are time-inconsistent: we make plans for the future that we fail to carry out

it can be caused by hyperbolic discounting

it can also be caused by failure to predict future utilities