Viewing the future through a warped lens: Why uncertainty generates hyperbolic discounting

Abstract

A large body of experimental research has demonstrated that, on
average, people violate the axioms of expected utility theory as well as of
discounted utility theory. In particular, aggregate behavior is best characterized
by probability distortions and hyperbolic discounting. But is it the
same people who are prone to these behaviors? Based on an experiment
with salient monetary incentives we demonstrate that there is a strong and
significant relationship between greater departures from linear probability
weighting and the degree of decreasing discount rates at the level of individual
behavior.We argue that this relationship can be rationalized by the uncertainty
inherent in any future event, linking discounting behavior directly to risk
preferences. Consequently, decreasing discount rates may be generated by
people’s proneness to probability distortions.