Hyperbolic Discounting
The article so far has considered cases where individuals make intertemporal choices by considering the present discounted value of their consumption and income. Every period in the future is exponentially discounted with the same interest rate. A different class of economists, however, argue that individuals are often affected by what is called the temporal myopia. The consumer's typical response to uncertainty in this case is to sharply reduce the importance of the future of their decision making.This effect is called hyperbolic discounting. In the common tongue it reflects the sentiment “Eat, drink and be merry, for tomorrow we may die.”
Mathematically, it may be represented as follows:
where,
f(D):discount factor, D: delay in the reward, k:parameter governing the degree of discounting
When choosing between $100 or $110 a day later,individuals may want to wait a day for an extra $10. Yet after a month passes, many of these people will reverse their preferences and now choose the immediate $100 rather than wait the month for an additional $10.
Read more about this topic: Intertemporal Choice