Ted O'Donoghue

Projection Bias in Predicting Future Utility

People underappreciate how their own behavior and exogenous factors affect their future utility, and thus exaggerate the degree to which their future preferences resemble their current preferences. We present evidence which demonstrates the prevalence of such projection bias, and develop a formal model that draws out both descriptive and welfare implications of the bias. The model helps interpret established behavioral anomalies such as the endowment effect, and helps to explain commonly observed suboptimal patterns of behavior such as addiction and excessive pursuit of a high material standard of living. The model also suggests potentially welfare-improving policies, such as mandatory cooling-off periods for certain types of consumer decisions.

Regulation for Conservatives: Behavioral Economics and the Case for 'Asymmetric Paternalism'

Regulation by the state can take a variety of forms. Some regulations are aimed entirely at redistribution, such as when we tax the rich and give to the poor. Other regulations seek to counteract externalities by restricting behavior in a way that imposes harm on an individual basis but yields net societal benefits. A good example is taxation to fund public goods such as roads. In such situations, an individual would be better off if she alone were exempt from the tax; she benefits when everyone (including herself) must pay the tax.

Incentives for Procrastinators

We examine how principals should design incentives to induce time-inconsistent procrastinating agents to complete tasks efficiently. Delay is costly to the principal, but the agent faces stochastic costs of completing the task, and efficiency requires waiting when costs are high. If the principal knows the task-cost distribution, she can always achieve first-best efficiency. If the agent has private information, the principal can induce first-best efficiency for time-consistent agents, but often cannot for procrastinators. We show that second-best optimal incentives for procrastinators typically involve an increasing punishment for delay as time passes.

Studying Optimal Paternalism, Illustrated by a Model of Sin Taxes

The classical economic approach to policy analysis assumes that people always respond optimally to the costs and benefits of their available choices. A great deal of evidence suggests, however, that in some contexts people make errors that lead them not to behave in their own best interests. Economic policy prescriptions might change once we recognize that humans are humanly rational rather than superhumanly rational, and in particular it may be fruitful for economists to study the possible advantages of paternalistic policies that help people make better choices. We propose an approach for studying optimal paternalism that follows naturally from standard assumptions and methods of economic theory: Write down assumptions about the distribution of rational and irrational types of agents, about the available policy instruments, and about the government’s information about agents, and then investigate which policies achieve the most efficient outcomes. In other words, economists ought to treat the analysis of optimal paternalism as a mechanism-design problem when some agents might be boundedly rational. This approach has many advantages. First and foremost, by explicitly addressing when and how people do and don’t pursue their own best interests, economists will be better able to contribute to policy debates. To contribute to debates over regulating private financial decisions, we must study whether financial decisions are based on fallacious statistical reasoning and whether self-control problems lead people to borrow too heavily; to contribute to debates over teenage smoking, we must study whether teenagers become smokers against their long-run best interest. Economists will and should be ignored if we continue to insist that it is axiomatic that constantly trading stocks or accumulating consumer debt or becoming a heroin addict must be optimal for the people doing these things merely because they have chosen to do it. A second advantage of our approach is that it forces us to look for the best feasible policy. Our

The economics of immediate gratification

People have self-control problems: We pursue immediate gratification in a way that we ourselves do not appreciate in the long run. Only recently have economists considered the behavioral and welfare implications of such time-inconsistent preferences. This paper outlines a simple formal model of self-control problems, applies this model to some specific economic applications, and discusses some general lessons and open questions in the economic analysis of immediate gratification. We emphasize the importance of the timing of the rewards and costs of an activity, as well as a persons awareness of future self-control problems. We identify situations where knowing about self-control problems helps a person and situations where it hurts her, and also identify situations where even mild self-control problems can severely damage a person. In the process, we describe specific implications of self-control problems for addiction, incentive theory, and consumer choice and marketing. Copyright

A Patentability Requirement for Sequential Innovation

This paper investigates patent protection when there is a long sequence of innovations and firms repeatedly supersede each other. There can be insufficient incentives for R&D if successful firms earn market profit only until competitors achieve something better. To solve this problem, patents must provide protection against future innovators. This paper proposes using a patentability requirement aminimuminnovation size required to get a patent toserve this purpose. I showthat a patentability requirement can stimulate R&D investment and increase dynamic efficiency. Intuitively, requiring firms to pursue larger innovations can prolong market incumbency because larger innovations are harder to achieve. Longer market incumbency then implies an increased reward to innovation, stimulating R&D investment.

Age differences in temporal discounting: the role of dispositional affect and anticipated emotions.

We examined age differences in temporal discounting, the tendency to devalue delayed outcomes relative to immediate ones, with particular emphasis on the role of affective responses. A life-span sample completed an incentive-compatible temporal discounting task involving both monetary gains and losses. Covariates included demographic characteristics, cognitive functioning, personality traits, affective responses, and subjective health. Advanced age was associated with a lower tendency to discount the future, but this effect reached statistical significance only for the discounting of delayed gains. An examination of covariates suggested that age effects were associated with age differences in mental health and affective responses rather than demographic or cognitive variables.

Dread sensitivity in decisions about real and imagined electrical shocks does not vary by age.

Previous research has found age differences in intertemporal choices that involve trade-offs among events or outcomes that occur at different points in time, but these findings were mostly limited to hypothetical financial and consumer choices. We examined whether age effects extend to unpleasant physical experiences that elicit states of dread which lead participants to speed up the outcomes just to get them over with. We asked participants of different ages to choose among electrical shocks that varied in timing and intensity. We also assessed affective responses as a potential mechanism behind age effects and considered other potential covariates. In Study 1, the choice task involved real outcomes and the sample consisted of younger and older adults. In Study 2, the choice task was hypothetical and the sample was an adult life span sample. Across both studies, there was no evidence of age differences in the preferred timing of shocks. Instead, dread-sensitive choices were associated with higher conscientiousness. Age effects in dread-sensitive choices remained nonsignificant even after controlling for a range of age-associated covariates. We discuss possible explanations for the lack of age effects and consider implications for applied and clinical settings. (PsycINFO Database Record

Distinguishing Probability Weighting from Risk Misperceptions in Field Data

We outline a strategy for distinguishing rank-dependent probability weighting from systematic risk misperceptions in field data. Our strategy relies on singling out a field environment with two key properties: (i) the objects of choice are money lotteries with more than two outcomes; and (ii) the ranking of outcomes differs across lotteries. We first present an abstract model of risky choice that elucidates the identification problem and our strategy. The model has numerous applications, including insurance choices and gambling. We then consider the application of insurance deductible choices and illustrate our strategy using simulated data.

Paying more for less: why don't households in Tanzania take advantage of bulk discounts?

Do poor households shop in a way that leaves money on the table? A simple way to maximize consumption, conditional on available cash, is to avoid regularly purchasing small amounts of nonperishable goods when bulk discounts are available at modestly larger quantities. Using two-week transaction diaries covering 48,501 purchases by 1,493 households in Tanzania, this paper finds that through bulk purchasing the average household could spend 8.7 percent less without reducing purchasing quantities. Several explanations for this pattern are investigated, and the most likely mechanisms are found to be worries about over-consumption of stocks and avoidance of social taxation. Contrary to prior work, there is little indication that liquidity constraints prevent poorer households in the sample from buying in bulk, possibly because the bulk quantities under examination are not very large.