Discounting, Diversity, and Investment

Abstract

Within the classical real option setting, we show that disagreement or uncertainty about what discount rate to use leads to delayed investment and more risk-taking. We connect with the behavioral economics literature and present the most comprehensive analysis of the impact of time preferences on investment decisions to date. Contrary to existing results, we show that time-inconsistency arising from behavioral time preferences leads to delayed rather than premature investment. We also find that, for these non-standard time preferences, the option value from investment may be zero.

Keywords: diversity, hyperbolic discounting, investment, parameter uncertainty, time inconsistency, weighted discounting

JEL Classification: G02, G11, D91