Hyperbolic Discounting Explained

Hyperbolic discounting refers to the preference people have to accept smaller payoffs sooner rather than larger payoffs in the future. This means that in terms of an individual saving for retirement, the individual is much more inclined typically to spend the money now rather than have a larger amount later to spend, say on retirement. This might create a problem later for the public in that people may spend excess amount in the current time rather than save enough for later.

This means that they may underestimate how much money is actually needed for retirement and when the time comes, the individuals are typically at an age to which they can not sufficiently make large amounts of money again and therefore may rely on social programs that puts a burden on the working generation. An externality effect may be that if too many people do this, the economy may suffer due to the fact that there are too many dependencies in the form of liabilities, thus causing the economy to grow less quickly because the money spent on retirees could have been re-invested in the economy instead.

One comment

  1. You are correct, but what should the government do about it? Is it better to have programs like Social Security in the U.S. or let individuals save? The reality is that people don’t save as much as they should. The government needs to have some sort of forced savings. It’s probably not the best solution but it’s the real one with human nature.

Leave a Reply