The Role of Time Preferences and Exponential-Growth Bias in Retirement Savings

95 Pages Posted: 25 Aug 2015

See all articles by Gopi Shah Goda

Gopi Shah Goda

Stanford University

Matthew Levy

London School of Economics & Political Science (LSE) - Department of Economics

Colleen Flaherty Manchester

University of Minnesota

Aaron Sojourner

University of Minnesota; IZA Institute of Labor Economics

Joshua Tasoff

Claremont Colleges - Claremont Graduate University

Date Written: August 2015

Abstract

There is considerable variation in retirement savings within income, age, and educational categories. Using a broad sample of the U.S. population, we elicit time preference parameters from a quasi-hyperbolic discounting model, and perceptions of exponential growth. We find that present bias (PB), the tendency to value utility in the present over the future in a dynamically inconsistent way, and exponential-growth bias (EGB), the tendency to neglect compounding, are prevalent and distinct latent variables. PB, EGB, and the long-run discount factor are all highly significant in predicting retirement savings, even while controlling for measures of IQ and general financial literacy as well as a rich set of demographic controls. We find that lack of self-awareness of these biases has an additional independent negative impact on retirement savings. We assess potential threats to a causal interpretation of our results with a hypothetical choice experiment and several robustness exercises. Finally, we explore potential mechanisms for our findings. If the relationship we estimate is causal, our estimates suggest that eliminating PB and EGB would be associated with an increase in retirement savings of 12%, or as high as 70% using estimates that account for classical measurement error.

Suggested Citation

Goda, Gopi Shah and Levy, Matthew and Manchester, Colleen Flaherty and Sojourner, Aaron J. and Tasoff, Joshua, The Role of Time Preferences and Exponential-Growth Bias in Retirement Savings (August 2015). NBER Working Paper No. w21482. Available at SSRN: https://ssrn.com/abstract=2649750

Gopi Shah Goda (Contact Author)

Stanford University ( email )

SIEPR
366 Galvez St.
Stanford, CA 94305
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6507360480 (Phone)

Matthew Levy

London School of Economics & Political Science (LSE) - Department of Economics ( email )

Houghton Street
London WC2A 2AE
United Kingdom

Colleen Flaherty Manchester

University of Minnesota ( email )

3-300R CarlSMgmt
Minneapolis, MN 55455
United States
612 625-9667 (Phone)

Aaron J. Sojourner

University of Minnesota ( email )

Carlson School of Management
321 19th Ave S, 3-300
Minneapolis, MN 55455
United States
6126249521 (Phone)

IZA Institute of Labor Economics ( email )

P.O. Box 7240
Bonn, D-53072
Germany

Joshua Tasoff

Claremont Colleges - Claremont Graduate University ( email )

150 E. Tenth Street
Claremont, CA 91711
United States

HOME PAGE: http://sites.cgu.edu/tasoffj/

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