Hyperbolic Discounting is Rational: Valuing the Far Future with Uncertain Discount Rates

18 Pages Posted: 15 Aug 2009  

J. Doyne Farmer

Institute for New Economic Thinking; Santa Fe Institute

John Geanakoplos

Yale University - Cowles Foundation

Date Written: August 13, 2009

Abstract

Conventional economics supposes that agents value the present vs. the future using an exponential discounting function. In contrast, experiments with animals and humans suggest that agents are better described as hyperbolic discounters, whose discount function decays much more slowly at large times, as a power law. This is generally regarded as being time inconsistent or irrational. We show that when agents cannot be sure of their own future one-period discount rates, then hyperbolic discounting can become rational and exponential discounting irrational. This has important implications for environmental economics, as it implies a much larger weight for the far future.

Keywords: Hyperbolic discounting, Environment, Time consistent, Exponential discounting, Geometric random walk, Term structure of interest rates

JEL Classification: D91, G12

Suggested Citation

Farmer, J. Doyne and Geanakoplos, John, Hyperbolic Discounting is Rational: Valuing the Far Future with Uncertain Discount Rates (August 13, 2009). Cowles Foundation Discussion Paper No. 1719. Available at SSRN: https://ssrn.com/abstract=1448811 or http://dx.doi.org/10.2139/ssrn.1448811

J. Doyne Farmer

Institute for New Economic Thinking ( email )

Eagle House
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Oxford, OX2 6ED
United Kingdom

HOME PAGE: http://www.inet.ox.ac.uk/people/view/4

Santa Fe Institute ( email )

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Santa Fe, NM 87501
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505-982-0565 (Fax)

HOME PAGE: http://www.santafe.edu/~jdf/

John D Geanakoplos (Contact Author)

Yale University - Cowles Foundation ( email )

Box 208281
New Haven, CT 06520-8281
United States
203-432-3397 (Phone)
203-432-6167 (Fax)

HOME PAGE: http://cowles.econ.yale.edu/P/au/d_gean.htm

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