Wednesday, January 30, 2013

Applications of Time Inconsistency

My colleague Douglas Bernheim just has a new NBER working paper that came out: "Poverty and Self-Control" by B. Douglas Bernheim, Debraj Ray, Sevin Yeltekin.
The abstract reads:
"The absence of self-control is often viewed as an important correlate of persistent poverty. Using a standard intertemporal allocation problem with credit constraints faced by an individual with quasi- hyperbolic preferences, we argue that poverty damages the ability to exercise self-control. Our theory invokes George Ainslie’s notion of “personal rules,” interpreted as subgame-perfect equilibria of an intrapersonal game played by a time-inconsistent decision maker. Our main result pertains to situations in which the individual is neither so patient that accumulation is possible from every asset level, nor so impatient that decumulation is unavoidable from every asset level. Such cases always possess a threshold level of assets above which personal rules support unbounded accumulation, and a second threshold below which there is a “poverty trap”: no personal rule permits the individual to avoid depleting all liquid wealth. In short, poverty perpetuates itself by undermining the ability to exercise self-control. Thus even temporary policies designed to help the poor accumulate assets may be highly effective. We also explore the implications for saving with easier access to credit, the demand for commitment devices, the design of accounts to promote saving, and the variation of the marginal propensity to consume across classes of resource claims."

This reminds me of two more papers that show the impact of time inconsistent preferences coauthored by Leeat Yariv.

In "Government Policy with Time Inconsistent Voters"  Alberto Bisin, Alessandro Lizzeri, and Leeat Yariv look at:
"Behavioral economics presents a “paternalistic”rationale for government intervention. Current literature focuses on benevolent government. This paper introduces politicians who may indulge/exploit these behavioral biases. We present an analysis of the novel features that arise when the political process is populated by voters who may be time inconsistent, a’la Phelps and Polak (1968) and Laibson (1997). Time inconsistent voters exhibit demand for commitment. We show that electorally accountable politicians may choose policies that interfere with individuals’desire to commit, and that government may not be very effective in satisfying the demand for commitment."

The abstract "Collective Self-Control" by Alessandro Lizzeri and Leeat Yariv reads:
"Behavioral economics presents a “paternalistic” rationale for intervention by a benevolent government. This paper studies the desirability of various forms of collective action when government decisions are determined via the political process in response to votes by time inconsistent voters. We consider an economy where the only “distortion” is the agents’time inconsistency. We fi…rst examine a fully decentralized economy where agents can make private “investments”in a commitment technology. We show that the demand for commitment is non monotone with the degree of time inconsistency, with agents with intermediate intensity of present bias exhibiting the highest value of commitment. We then study several forms of collective action. If only commitment decisions are centralized, commitment investment is often more moderate than if all decisions are centralized. Welfare consequences of full centralization (of both commitment and consumption decisions) are ambiguous and depend on the distribution of time inconstistency in the population."

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