Behavioral Economics Lesson Four – Why Are We So Impatient?

COMPELLING QUESTION: Why do people tend to procrastinate when it comes to doing things that are good for them?

Students observe a “mind” that tries to decide whether to exercise or not. They see how discounting can change a person’s intended choices and actual choices. Students learn how present bias can lead to procrastination. After the activity, students apply what they have learned and measure their own level of discounting. Finally, students discuss ways to overcome present bias and procrastination when making important financial decisions like saving for retirement.

Introduction

The value people place on costs and benefits that occur in the future is lower than if the costs and benefits are incurred today.  To compare future values to present ones, economists discount anything occurring in the future.  The more impatient a person is, the more the future values must be discounted.  One problem people have is that they are too impatient and therefore tend to choose options in which benefits are received today and costs are pushed off into the future.  This tendency to procrastinate can cause problems when people must make decisions about things that have future benefits but involve current costs, such as saving for retirement, going to the dentist, or studying for an exam. 

Another outcome that behavioral economists have observed is that people sometimes make inconsistent choices.  For example, a student might decide to go to a party tonight and promise to study for an important exam tomorrow night, but then when tomorrow night comes, the student decides to go to another party instead of studying as planned.

Present bias is a term used to explain the behavior in which intended and actual choices change over time and result in procrastination that continues until no more procrastination is possible.  Present bias implies that the rate at which something is discounted from the present to the immediate future is higher than between two future periods.  This implies that when a cost is incurred to receive a future benefit, a person is more likely to judge the discounted benefit higher than the discounted cost when both occur in the future.  However, when the time comes to incur the cost, their undiscounted value compares poorly to the future benefit, representing the present bias that people can exhibit.

Learning Objectives

  • Describe how people make decisions when a cost or benefit of a decision is in the future.
  • Explain why people say they will do something in the future but then fail to do so.
  • Explain why discounting may lead people to save too little, eat too much, exercise too little, study too little, and party too much.

Resource List

  • Slides 1-11 (ppt or pdf)
  • Activity 1, one copy per student.
  • Three red cards each with a large number written on them (12, 6, and 3).
  • Three green cards each with a large number written on them (16, 8, and 4).
  • Access to one of the following websites:

The Marshmallow Test  (video on ignitermedia.com)
The Marshmallow Test  (video on youtube.com)
The Marshmallow Test: Stanford University Experiment that Claims to Predict a Child's Future Successes  (video on telegraph.co.uk)

Process

  1. Tell students that

    • Traditional economics teaches that people make decisions based on the costs and benefits of the alternatives.
    • Economists have noticed through observation and experiments that people do not always make economically rational decisions.
    • Behavioral economics study why people may behave in ways not predicted by traditional economic theory. Define behavioral economics as using “variants of traditional economic assumptions (often with a psychological motivation) to explain and predict behavior, and to provide policy prescriptions” (Laibson & List, 2015).  Behavioral economists have noticed that people may have a hard time weighing the costs and benefits of their alternatives
       
  2. Tell students that some behavioral economists like to use the terms “Econ” and “Human” to refer to the different ways people make decisions.  Econs weigh the costs and benefits of alternatives before making their choices.  Humans also use costs and benefits but can be influenced by other factors when making choices. [Teacher Note: If you have completed previous lessons in the Behavioral Economics Topic, ask students for definitions of Econs and Humans.]
     
  3. Tell students that today’s lesson will focus on an important factor that influences decisions in practice beyond the traditional costs and benefits. Ask students if they tend to procrastinate doing things like homework. (Answers will vary, but probably tend toward yes.) Tell students that today’s lesson will be about how people behave when the costs and benefits associated with a decision happen at different points in time. In particular, when one of them occurs today and the other occurs at some point in the future.
     
  4. Tell students that a famous experiment in behavioral economics demonstrates the problem people have with making these choices. Tell students that the Marshmallow Test asks small children to make a choice. Tell students that the following video demonstrates the experiment. Show https://www.ignitermedia.com/products/1350-the-marshmallow-test or https://www.youtube.com/watch?v=QX_oy9614HQ or http://www.telegraph.co.uk/news/features/11117560/The-marshmallow-test-Stanford-University-experiment-that-claims-to-predict-a-childs-future-successes.html. (A second video by CNN includes a discussion with Walter Mischel, the creator of the experiment http://www.cnn.com/2014/12/22/us/marshmallow-test/.)
     
  5. After the video, ask students why every child does not wait so they get two marshmallows?  (The children are impatient and value the one marshmallow now more than the two given later.)  Ask students to specifically describe the difference in the experiment between having one marshmallow and having two marshmallows.  (The difference is time – the two marshmallows are in the future.)
     
  6. Tell students you would like three volunteers to demonstrate how the human mind works when making decisions like in the marshmallow video. Have the three volunteers come to the front of the classroom. Give one student the set of red cards (with numbers 12, 6, 3) and another student the set of green cards (with numbers 16, 8, 4). Tell the students with the cards that their cards represent costs and benefits of an activity; the green cards represent happiness points (or utils), in other words, the benefits of doing something and the red cards represent unhappiness points (or negative utils), in other words, the costs of doing something. Tell the card-holders that based on the story they are told, they are to raise the appropriate card representing the benefits and costs of doing something. Tell the third student that they are the decider – they will decide what to do by comparing the benefits and the costs of the activity.
     
  7. Tell the class that they will now see how decisions are made by the human mind. The decision is the following:
     
  8. You are thinking of working out. Working out is hard, so its cost to you is 12 points of happiness (or utils). However, the day after you work out, your body is very happy, so the benefit is 16 points of happiness.
     
  9. Remind the students that the person with the red cards will show the costs of working out and the person with the green cards will show the benefits. The last student is the decider and will decide whether to work out by weighing the costs and benefits. Tell the students that three questions will need to be answered:

    • Will the person exercise today?
    • Will the person plan to exercise tomorrow?
    • When tomorrow arrives, will the person actually exercise?
       
  10. Tell the students that one way to decide is to simply weight the costs versus the benefits no matter when they occur. Tell the card-holders to raise a card that shows the cost or benefit when you ask each question. The decider can decide if they will exercise by comparing the two numbers and then jumping or yawning as appropriate. Ask the questions:

    • Will the person exercise today? (Yes, cost of 12, benefit of 16.)
    • Will the person plan to exercise tomorrow? (Yes, cost of 12, benefit of 16.)
    • When tomorrow arrives, will the person actually exercise? (Yes, cost of 12, benefit of 16.)
       
  11. Display  Slide 1 which shows the results.  Tell the students that based on merely weighing the costs and benefits it looks like this person will be in great shape!  Ask the students if they think that is what will really happen.  (Accept a variety of answers, but some students should note that they don’t like to exercise now even if they know it is good for them later.)  
     
  12. Tell students that economists have long understood that people tend to value things less if they occur in the future, just as was seen in the Marshmallow Test.  Tell the students that for the next example, assume that the value of any cost or benefit in the future is reduced by ½ for each day in the future it is received.  Tell the students that valuing things in the future less than today is referred to as discounting. For example, if $10 is received tomorrow, it would be worth $5 to you today. If you received $10 two days from now, it would be worth $2.50 to you today.  There are many different ways that someone could discount the future. The type of discounting in this particular example is referred to as exponential discounting (refer to Slide 2).  Note to the students that the value of $10 received in the future diminishes.
     
  13. Optional: Tell students that the term exponential discounting comes from the way in which this type of discounting can be represented mathematically. The value today of something t days in the future is discounted by (½)t. Tell the students that ½ is a very low value, but it helps illustrate the concept while keeping the math easy (when economists use this type of discounting they typically work with values closer to 0.9 than ½).
     
  14. Emphasize to the students that people typically discount things that occur in the future.  Test to see if the students understand the idea of discounting by asking the following questions, reminding them to assume a discount of ½ for every day in the future:

    • If someone had a choice of $10 today or $15 tomorrow, what would they choose? ($10 today, sine the $15 is valued at $7.50.)
    • If someone had a choice of $10 today or $20 two days from now, what would they choose (based on 1/2 discounting)? ($10 today since $20 two days from now is valued at $5.)
    • How much would you have to give someone in two days to be equivalent to $10 today? ($40)
       
  15. Tell students that you are ready for the human mind (the students with cards) to make their decisions, this time with discounting by ½ for each day something occurs in the future.  Ask the students to raise the appropriate cards and the decision maker to indicate the decision by jumping or yawning as you go through the questions:

    • Will you exercise today? (No, since the cost of 12 is greater than the discounted benefit of only 8.)
    • Will you plan to exercise tomorrow? [You might have to remind the students with the cards that the benefit is received two days in the future and the cost is one day in the future.] (No, since the discounted cost of 6 is greater than the "twice" discounted benefit of only 4.)
    • When tomorrow arrives, will you exercise? (No, since the cost of 12 is greater than discounted benefit of only 8.)
       
  16. Display Slide 3.  Tell the students that it looks like the person won’t be in good shape after all.  It looks like the person will never exercise! 
     
  17. Ask students students if they have ever thought about exercising but put it off until the next day, only to put it off again.  (Accept any answers.)  Tell the students that behavioral economists have noticed that people do not always behave consistently. People will intend to do one thing in the future, but then change their minds when the time arrives.  Tell the students that to see this, instead of discounting as previously described, assume that people discount anything in the future by ½ – no matter when in the future it occurs.  Tell the students you will call this type of discounting present bias, which refers to the tendency that people have to uniformly discount anything that happens in the future, whether the future is a day from now, a week from now, or a year from now. Tell the students that ½ is also a very low value for this type of discounting, but it helps illustrate the concept while keeping the math easy (when economists work with this type of discounting they typically assume values closer to 0.7 than ½).
     
  18. Display Slide 4.  Tell the students that this graph shows the value of $10 received in the future when discounting using present bias.  Note to the students that the value is always 1/2 of the dollar amount no matter when in the future it is received, so the graph drops on the first day but then is constant thereafter!
     
  19. Review with the card-holders the concept that any cost or benefit in the future is discounted by ½ no matter when in the future it occurs.  Once again, ask the questions with the card-holders showing the values and the decider showing the decision with jumping or yawning.  Ask the questions again:

    • Will you exercise today? (No, since the cost of 12 is greater than discounted benefit of only 8.)
    • Will you plan to exercise tomorrow? [The student with the green card may need to be reminded that the benefit is discounted by 1/2, not 1/4, since it does not matter how far in the future the benefit is received.] (Yes, since the discounted cost of 6 is less than the discounted benefit of only 8.)
    • When tomorrow arrives, will you exercise? (No, since the now-not-discounted cost of 12 is greater than discounted benefit of only 8.)
       
  20. Explain that planning to exercise tomorrow and then following through is inconsistent behavior.  Note that individuals were consistent in following through on their future decisions to exercise (or not) when we assumed no discounting or exponential discounting. This type of inconsistent behavior happens when individuals have present bias in the way that they discount the future.
     
  21. Tell the students that this inconsistent behavior, having good intentions to do something but then not following through, is something we have all experienced.  Display Slide 5 and tell the students that decisions made over time depend a lot on how people value things received in the future.
     
  22. Tell the students that behavioral economists can measure discounting.  Hand out Activity 1.  Display Slide 6.  Ask the students to write their response to part A on their sheet.  After a minute, display Slide 7 and ask the students to write their answers to part B on their sheet.
     
  23. Ask the students if the numbers they wrote for part A and part B are larger than $300.  (Almost everyone will say yes.)  Ask the students why they wanted more than $300 for things that happen in the future.  (Students will say they do not want to wait; they prefer things now than in the future.)
     
  24. Ask the students to find out how impatient they are by having the students complete the two calculations on the sheet and asking them to graph the two points.  Have the students compare their graphs with their neighbors.  Ask:

    • How much did you discount for the first 6 months? (Answers will vary, but note who is the most impatient and who is the most patient of the class.)
    • How much did you discount for the 1 year? (Answers will vary, but note who is the most impatient — lowest number — and who is the most patient of the class — highest number.)
    • Who discounted more for the first six months than they did for the second six months? (Answers will vary, but many will.)
       
  25. Tell the students that often people discount at a higher rate for the first six months than the second six months.  The reason is that as soon as something is pushed into the future, people discount it. Present bias refers to the fact that people discount anything that happens in the future.  In addition to present bias, people also discount as the time in the future becomes further out.  Tell the students that the sample graph gives an example of how discounting might look like with present bias.  Tell students that the behavioral economists try to measure how impatient we are by measuring how we discount things in the future.
     
  26. Ask students if they have ever planned to study for a test well in advance but waited until an hour before the test to do so.  (Yes, some will have admitted to procrastinating.)  Tell students that people have trouble weighing costs and benefits that occur over time.  Tell them that, as they have seen, people tend to have a present bias – they weigh any cost or benefit that occurs in the future less.  Ask the students to discuss why this bias explains their study behavior.  (The students should note that the benefit of studying occurs in the future, and so is discounted (weighted less).  The cost of studying occurs now, so it is not discounted.  Weighing the perceived costs against the perceived benefits results in less studying now.  When the test is only an hour away, the student no longer discounts the benefit, so are more likely to study because the benefits are higher.)
     
  27. Ask the students to use the concepts just discussed to explain why some students tend to study for a test at the last minute.  (The students will note studying is a cost.  The benefit is doing well on a test in the future.  Since the future benefit is discounted, the benefits of studying do not outweigh the costs when the benefits are in the future.  This may explain why some students study only on the day of the test!)
     
  28. Display Slide 8.  Discuss with the students the two ways that people discount the value of things that occur in the future:

    • Exponential discounting: people value things less the further into the future they occur. Some people may discount the value of the future by a lot. We say that these people are impatient.
    • Present bias: people discount anything received in the future relative to today by a constant amount. This type of discounting can result in people planning to do something in the future but changing their mind when the time arises.
    • Evidence suggests that in practice both types of discounting are observed and help explain human behavior.

SOURCES

Kahneman, Daniel.  2011.  Thinking, Fast and Slow.  New York:  Farrar, Straus and Giroux.

Read, D., Loewenstein, G., and S. Kalyanaraman.  1999.  “Mixing Virtue and Vice:  Combining the Immediacy Effect and the Diversification Heuristic,”  Journal of Behavioral Decision Making, 12:  257-273.

Ruth Helman, Craig Copeland, and Jack VanDerhei, “The 2015 Retirement Confidence Survey: Having a Retirement Savings Plan a Key Factor in Americans’ Retirement Confidence,” EBRI Issue Brief, no. 413 (Employee Benefit Research Institute, April 2015).

Thaler, Richard H.  2015.  Misbehaving.  W. W. Norton and Company.  Pg. 318.

Conclusion

  1. Tell the students that one reason discounting can be a problem for people is that discounting means people tend not to save a lot for things like retirement.  Display Slides 9 and 10, which give information on how many people in the United States have saved for retirement.  Ask:  Why have so many people saved so little for their retirement – in particular young people, one-third of whom have saved virtually nothing?  (People discount things received in the future.  Saving money for retirement means giving up consumption today in exchange for getting something many years in the future, so the value of a good retirement is heavily discounted relative to the cost of giving up consumption today.)
     
  2. Display Slide 11.  Tell the students it shows the results from an experiment.  The experiment involved trying to get people to save more in retirement.  The table shows the percentage of income people decided to save.  In the experiment, people were offered financial advice about retirement.  Some declined the advice.  Some people listened to the advice, which was to increase their savings rate by 5% immediately.  Some listened, but declined to increase their savings immediately.  These people were offered the “Save More Tomorrow” program, which increased their savings rate by 3% whenever they received a raise.  The table shows the results.  Ask the students why the Save More Tomorrow program worked.  (The pain of saving is pushed into the future, so it is discounted.  People are more likely to agree to save in the future because of this.)  
     
  3. Ask the students: what might be ways to get young people to save for retirement? (People may not want to start saving today because doing so requires consuming less, a cost today, but the benefit from saving comes in the future and is discounted.  One approach is to get people to agree today to automatic withdrawals for retirement, but with the first withdrawal not starting until some time in the future. If they agree today to automatic future withdrawals, they have imposed a cost on themselves to changing their mind in the future – the cost of stopping the automatic future withdrawals.)
     
  4. Is it necessarily a bad thing to want things now?  (No, but people should be aware that as humans we discount future rewards and that the amount by which we discount these rewards may be very high and lead to procrastination.)
     
  5. Display Slide 12, which displays comparisons of Econs and Humans.  Note to students that both Econs and Humans make decisions by weighing costs and benefits.  However, Humans have a hard time weighing costs and benefits that occur in the future, leading to procrastination and other problems like not saving for the future.

Extension Activity

Not available for this lesson.

Assessment

Multiple Choice

1. A particularly  impatient person discounts things in the future by ½ for every year in the future they occur.  In addition, anything in the future is given an extra discount of ½ no matter when in the future it happens.  Suppose the person is offered a chance to invest $100 today to earn $640 in two years.   The person ________________ invest today.  The person ______________ agree today to begin investing a year from now.  The person ___________ invest when a year has passed.

a. will not, will not, will not
b. will, will, will
c. will not, will, will not?
d, will not, will, will

Constructed Response / Activity

  1. Today is Monday.  You have a test on Friday.  You want to study tonight but have decided to put off studying as you have three more nights to do so.  Using the idea of present bias, explain (a) why you don’t want to study tonight, (b) why you are willing tonight to call a friend to meet and study on Tuesday, and (c) why calling a friend is a good way to prevent you from waiting until Friday morning to study.  (You do not want to study tonight because the cost of studying is not discounted, but the benefit of studying – doing well on the test – is discounted because it occurs in the future.  You are willing to call a friend and agree to study tomorrow because both the cost and benefit of studying are both discounted, so the benefit is more likely to outweigh the costs.  Calling a friend commits you to studying, so that when Tuesday arrives, you study instead of procrastinating because even though you probably don’t want to study, the cost of backing out on a friend outweighs the costs of studying.)
     
  2. Using the idea of discounting, explain why people are willing to stay up late to party with friends even though they are very tired the next day.  (In this case, the benefit is not discounted but the cost of partying is.  This means we are more likely to judge the benefits of partying to outweigh the costs.)