The Economics of Self-Destructive Choices Advances in Japanese Business and Economics Volume 10

Advances in Japanese Business and Economics 10

Shinsuke Ikeda The Economics of Self-Destructive Choices Advances in Japanese Business and Economics Volume 10

Editor in Chief RYUZO SATO C.V. Starr Professor Emeritus of Economics, Stern School of Business, New York University Senior Editor KAZUO MINO Professor, Kyoto University Managing Editors HAJIME HORI Professor Emeritus, Tohoku University KUNIO ITO Professor, Hitotsubashi University HIROSHIYOSHIKAWA Professor, The University of Tokyo Editorial Board Members TAKAHIRO FUJIMOTO Professor, The University of Tokyo YUZO HONDA Professor Emeritus, Osaka University; Professor, Kansai University TOSHIHIRO IHORI Professor, The University of Tokyo TAKENORI INOKI Professor Emeritus, Osaka University Special University Professor, Aoyama Gakuin University JOTA ISHIKAWA Professor, Hitotsubashi University KATSUHITO IWAI Professor Emeritus, The University of Tokyo Visiting Professor, International Christian University MASAHIRO MATSUSHITA Professor Emeritus, Aoyama Gakuin University TAKASHI NEGISHI Professor Emeritus, The University of Tokyo; The Japan Academy KIYOHIKO NISHIMURA Professor, The University of Tokyo TETSUJI OKAZAKI Professor, The University of Tokyo YOSHIYASU ONO Professor, Osaka University JUNJIRO SHINTAKU Professor, The University of Tokyo KOTARO SUZUMURA Professor Emeritus, Hitotsubashi University; The Japan Academy Advances in Japanese Business and Economics show cases the research of Japanese scholars. Published in English, the series highlights for a global readership the unique perspectives of Japan’s most distinguished and emerging scholars of business and economics. It covers research of either theoretical or empirical nature, in both authored and edited volumes, regardless of the sub-discipline or geographical coverage, including, but not limited to, such topics as macroeconomics, microeco- nomics, industrial relations, innovation, regional development, entrepreneurship, international trade, globalization, ﬁnancial markets, technology management, and business strategy. At the same time, as a series of volumes written by Japanese scholars, it includes research on the issues of the Japanese economy, industry, management practice and policy, such as the economic policies and business innovations before and after the Japanese “bubble” burst in the 1990s. Overseen by a panel of renowned scholars led by Editor-in-Chief Professor Ryuzo Sato, the series endeavors to overcome a historical deﬁcit in the dissemina- tion of Japanese economic theory, research methodology, and analysis. The volumes in the series contribute not only to a deeper understanding of Japanese business and economics but to revealing underlying universal principles.

More information about this series at http://www.springer.com/series/11682 Shinsuke Ikeda

The Economics of Self-Destructive Choices Shinsuke Ikeda Institute of Social and Economic Research Osaka University Ibaraki, Osaka Japan

ISSN 2197-8859 ISSN 2197-8867 (electronic) Advances in Japanese Business and Economics ISBN 978-4-431-55792-0 ISBN 978-4-431-55793-7 (eBook) DOI 10.1007/978-4-431-55793-7

Library of Congress Control Number: 2015953009

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Springer Japan KK is part of Springer Science+Business Media (www.springer.com) To Keiko. ThiS is a FM Blank Page Preface

This book addresses decision makings that harm the decision makers themselves in the long run. I refer to such paradoxical behavior as “self-destructive” choices. Many pathological behaviors that are prevalent in modern society, such as undersaving, overborrowing, lifestyle-related diseases (obesity, diabetes, etc.), and various kinds of addictive behaviors (smoking, drug abuse, gambling, etc.), are all thought of as closely related to the self-destructive nature of people’s decision makings. Why do people make such self-destructive choices? How can they avoid them? Understanding the mechanism of self-destructive behaviors would help us not only to improve our own decisions and behaviors, but also to reform the structures of organizations, from family to nations, and design the whole society in desirable forms. By incorporating insights from recent contributions in economics, behavioral economics, and psychology, this book attempts to elucidate the mechanisms that underlie self-destructive decision makings and propose possible prescriptions to cope with the resulting harmful behaviors. In particular, I focus on critical inﬂu- ences of an intertemporal decision bias, called hyperbolic discounting, whereby decision makers have ambivalent dual personalities in discounting the near future intensely while evaluating the distant future highly. With the resulting self-control problem, they are exposed to temptations to make myopic decisions by breaking their long-run plans in a time-inconsistent way. I would like to show how hyperbolic discounting really relates to people’s self-destructive irrational behavior in the various forms that are mentioned above. I wrote a book in Japanese for general readers in 2012 (自滅する選択 Jimetsu Suru Sentaku [Self-Destructive Choices]. Tokyo: Toyo Keizai Shinpo Sha). Fortu- nately, the book gathered the attention of many readers in various ﬁelds and was awarded the 55th Nikkei Prize for Economics Books. The Korean-translated version was also published in June 2013 (왜 살찐 사람은 빚을 지는가 Wae Saljji-n Saram-eun Bij-eul Ji-neunga [Why Do Obese People Borrow Money?] Seoul: Mirae N Co. Ltd., translated by Kim Yungyeong). I have written this present book by revising the content of the Japanese book in English and adding new

vii viii Preface contents, e.g., discussions on generalized discount function, the function of willpower, and the formal description of hyperbolic consumers. The book is composed of six chapters. Chapter 1 provides introductory discussions on self-destructive behaviors. Starting with recalling various self-harming behaviors in our daily lives, I briefly explain how the harmful behaviors are caused by decision biases in intertemporal choices especially with respect to time discounting. This chapter is organized in a way that readers can understand roughly the entire picture of what I would like to address in the book. In this sense, the chapter is a grand summary of the book. Chapter 2 discusses a variety of anomalous intertemporal decision makings that are called “the discounted utility anomalies.” In so doing, I deal with how and why time discounting and hence intertemporal choices depend on the condition and frame in which the intertemporal choices are made. Chapter 3 introduces the notion of hyperbolic discounting, wherein decision makers are less patient for intertemporal choices involving more immediate gratification. Hyperbolic discounting is featured as reflecting human dual personality to discount tomorrow’s gratification intensely on the one hand, and on the other to highly evaluate distant future gratification. Based on macro and micro data, I show empirical evidence that hyperbolic discounting in fact relates to various kinds of self-destructive behavior. Under hyperbolic discounting, when the benefit of a choice is near at hand, people become less patient and are motivated to prioritize the immediate benefit and revise the original plan. Chapter 4 discusses how this self-control problem is associated with self-destructive choices to procrastinate onerous tasks/saving and instead preproperate (i.e., accelerate the schedule of) joyful leisure/consumption. In doing so, I pay special attention to three related issues. First, I clarify how the harmful effect of the self-control problem depends on whether the decision maker is so “naı¨ve” as to be unaware of his or her own self-control problem or “sophisticated (smart)” enough to be aware of it. Second, I discuss how sophisticated individuals can improve their decision makings by limiting their future decisions by means of pre-commitment devices. Third, I address how willpower, a depletable mental resource, plays critical roles in decision makings. Chapter 5 presents a variety of data to show that the self-control problems that arise under hyperbolic discounting actually lead to suboptimal behaviors in economic decision making, health-related decision making, and decisions that relate to addictive consumption. Examples include non-smoothed income–consumption cycles, excessive debt through the use of credit cards and unsecured consumer loans, overeating that results in obesity, and addictive gambling and smoking. The association is shown to be strong particularly when decision makers are naı¨ve in the sense that they put too much faith in their own perseverance. Based on empirical insights that are provided in the foregoing chapters, Chap. 6 addresses how we can cope with the self-control problem so as to avoid self- destructive behaviors. Policy implications are discussed for decision makers as well as various system organizers who design organizations, from families to states. Preface ix

As seen from the rough summary above, this book may be useful not only for general readers who seek to learn how to attain better self-regulation under the self- control problem, but also for researchers who want to overview positive and normative implications of hyperbolic discounting and to reconstruct economic theory to better understand actual human behavior and the resulting economic dynamics. I thank Professors Kazuo Mino, Yoshiyasu Ono, and Sato Ryuzo, who have encouraged me to publish my research output as a volume of the Advance in Japanese Business and Economics book series. I also thank Professors Yoshiro Tsutsui and Fumio Ohtake, who took initiatives to conduct nationwide questionnaire surveys as projects of the Osaka University COE Program and Osaka Uni- versity Global COE Program, on which the studies underlying this book are based. I am also grateful to Kang Myon-Il and Fumihiko Hiruma, who are joint researchers of several related articles. English editing by Editage was helpful. I would like to acknowledge that the underlying research received ﬁnancial support from the Joint Usage/Research Center Project of ISER from the Ministry of Education, Culture, Sports, Science and Technology and the Grants-in-Aid for Scientiﬁc Research (C No. 26380239) from the Japan Society for the Promotion of Science.

Ibaraki, Osaka, Japan Shinsuke Ikeda June 2015 ThiS is a FM Blank Page Contents

1 The Paradox of Self-Destructive Choices ...... 1 1.1 What Are Self-Destructive Behaviors? ...... 1 1.1.1 Harmful Choices ...... 1 1.1.2 Associated Self-Destructive Behaviors ...... 2 1.2 Comparing Present and Future Rewards ...... 4 1.2.1 Present or Future? Choices over Time ...... 4 1.2.2 Present-Oriented Inclination: Subjective Discount Rates . . . 7 1.2.3 Bankers’ Way of Time Discounting ...... 9 1.3 Hyperbolic Discounting and Inconsistent Decisions ...... 11 1.3.1 Being Swayed by the Temptation of Immediate Rewards ...... 11 1.3.2 Self-Destructive Procrastination ...... 12 1.3.3 The Self-Control Problem ...... 14 1.3.4 “Sophisticated” People and “Naive” People ...... 15 1.4 Binding Future Selves’ Hands ...... 16 1.4.1 Binding Loose Selves ...... 16 1.4.2 Freezing Assets ...... 17 1.5 Coping with Self-Destructive Behaviors ...... 17 1.5.1 Knowing Oneself: Self Signaling ...... 18 1.5.2 How to Improve Decisions and Behaviors ...... 18 1.5.3 Behavioral Economics Policy Recommendations ...... 19 Supplement A: Monkeys and Cho¯san-Boshi?...... 21 Supplement B: Measuring Personal Discount Rates ...... 22 2 Varying Impatience ...... 25 2.1 Anomalies in Intertemporal Choices ...... 25 2.2 Smaller Amounts Are Discounted More ...... 26 2.2.1 The Magnitude Effect ...... 26

xi xii Contents

2.2.2 Increasing Proportionate Sensitivity ...... 26 2.2.3 Mental Fixed Costs for Waiting ...... 27 2.2.4 Mental Accounting ...... 28 2.3 Gains Are Discounted More Than Losses ...... 29 2.3.1 The Sign Effect ...... 29 2.3.2 Decreasing Marginal Utility ...... 29 2.3.3 Loss Bias ...... 30 2.3.4 The Sign Effect and Borrowing Aversion ...... 31 2.3.5 Delay/Speed-Up Asymmetry ...... 32 2.3.6 The Framing Effect ...... 33 2.4 Choosing Improving Sequences ...... 35 2.4.1 Choice of Gratification Sequences ...... 35 2.4.2 Choosing the Smaller Lifetime Income ...... 36 2.4.3 The Seniority-Based Wage Puzzle ...... 38 2.4.4 Improvements Yield Gratification ...... 39 2.4.5 Savoring and Habituation ...... 39 2.4.6 Sequence as Context ...... 41 2.5 Conclusions ...... 42 3 Hyperbolic Discounting and Self-Destructive Behaviors ...... 43 3.1 Introduction ...... 43 3.2 More Impatient for More Immediate Gratification ...... 43 3.2.1 Proximal Future Choice and Distal Future Choice ...... 43 3.2.2 Exponential Discounting and Hyperbolic Discounting .... 45 3.2.3 The Matching Law ...... 49 3.3 Inconsistent Choices ...... 50 3.3.1 Dual Personality ...... 50 3.3.2 Patient Plan with Impatient Behavior ...... 51 3.3.3 Procrastinating Tasks and Preproperating Leisure ...... 55 3.3.4 Too Much Consumption and Too Little Accumulation . . . 57 3.4 Mechanism of Hyperbolic Discounting ...... 57 3.4.1 Today Is Long: Distortion in Psychological Time ...... 57 3.4.2 The Certainty Effect ...... 59 3.4.3 The Ant and the Grasshopper in the Brain ...... 62 3.5 Conclusions ...... 64 4 Self-Control Problems of the Dual Self ...... 67 4.1 Introduction ...... 67 4.2 Problems of the Dual Self ...... 67 4.2.1 The Self-Control Problem ...... 67 4.2.2 Pessimistic or Optimistic About Their Future Selves? . . . . 68 4.2.3 When to Clean?: Sophistication Mitigates Procrastination ...... 70 4.2.4 Overly Abstentious Decision-Making ...... 73 4.2.5 When to See a Movie?: Sophistication Reinforces Preproperation ...... 75 Contents xiii

4.3 Excessive Abstinence and Indulgence ...... 77 4.3.1 Self-Restraining Smart Choice to See the Grand-Prize Winning Movie ...... 77 4.3.2 Excessive Abstinence and Indulgence Due to Sophisticated Decisions ...... 79 4.3.3 Does Sophisticated Decision-Making Increase or Reduce One’s Savings? ...... 81 4.4 Pitfalls of “Pursuing Larger Work” ...... 82 4.4.1 “Which Task to Work on” and “When to Work” ...... 82 4.4.2 Procrastination Caused by Pursuing Larger Tasks ...... 83 4.5 Benefit of Self-Trapping ...... 84 4.5.1 Precommitment ...... 84 4.5.2 Illiquid Assets and Education as Commitment Devices . . . 86 4.6 Theory of the “Golden Eggs” ...... 87 4.6.1 The Goose That Lays the Golden Eggs ...... 87 4.6.2 The Invalidity of the Permanent Income Hypothesis ..... 88 4.6.3 Consumption Propensity from Income Higher than That from Assets ...... 92 4.6.4 The Debt Puzzle ...... 93 4.6.5 The Ricardian Equivalence Theorem Does Not Hold ..... 95 4.6.6 Financial Innovation: Flexibility Versus Precommitment . . . 96 4.7 Naı¨ve or Sophisticated? ...... 97 4.7.1 Partially Naı¨ve...... 98 4.7.2 Deadlines and Efficiency ...... 99 4.7.3 When to Start Studying for an Examination ...... 100 4.8 Willpower and Self-Control ...... 102 4.8.1 What Is Willpower? ...... 102 4.8.2 Willpower and Present-Oriented Tendency ...... 103 4.8.3 Willpower Budget and Efficient Self-Control ...... 105 4.8.4 Crowded Out Self-Control ...... 106 4.8.5 Depletion and Reproduction of Poverty ...... 107 4.8.6 Poverty and Adversity During Childhood ...... 109 4.9 Conclusions ...... 110 Supplement C: The Tsushima Family’s Precommitment ...... 111 5 Overborrowing, Overeating, and Addictive Behavior ...... 113 5.1 Introduction ...... 113 5.2 Naı¨ve Income-Consumption Cycles ...... 114 5.2.1 Allowance Cycle ...... 114 5.2.2 The Food-Stamp Nutrition Cycle ...... 115 5.2.3 The Pension-Consumption Cycle ...... 115 5.3 Hyperbolic Discounting and Debt Behavior ...... 116 5.3.1 Credit Card Loans ...... 116 5.3.2 Swayed by a Teaser Rate But End Up Paying a Higher Interest Rate ...... 118 5.3.3 Self-Destructive Behavior of Payday Loan Borrowers . . . . 121 xiv Contents

5.3.4 Hyperbolic Discounting and Debt: The Case of Japan . . . . 123 5.3.5 Hyperbolic Discounting and Multiple Debts ...... 128 5.3.6 The Sign Effect and Borrowing Aversion ...... 129 5.4 Obesity and Underweight ...... 131 5.4.1 Choosing One’s Body Weight Status ...... 131 5.4.2 Obese People Tend to Be Indebted ...... 133 5.4.3 Obesity as Self-Destruction ...... 135 5.4.4 Choosing Being Underweight ...... 138 5.5 Gambling, Smoking, and Drinking ...... 140 5.6 Conclusions ...... 142 Appendix: An Illustrative Model of Hyperbolic Consumers ...... 143 Supplement D: Obesity Criteria: Japan and the WHO ...... 146 Supplement E: “Super Size Me”: The State of Obesity in the United States and Europe ...... 147 Supplement F: Reporting One’s Own Weight as Lighter ...... 149 6 Coping with Self-Destructive Behavior ...... 153 6.1 Introduction ...... 153 6.2 Means of Avoiding Self-Destructive Choices ...... 154 6.2.1 Taking into Account the Lenient Future Self ...... 154 6.2.2 The Self-Control Problem and Willpower That You Can Realize Only by Being Inconsistent ...... 155 6.2.3 Addressing Willpower Depletion ...... 157 6.2.4 Two Types of Commitment Device ...... 158 6.2.5 Soft Commitment Devices ...... 158 6.2.6 Personal Rules ...... 159 6.2.7 Dividing Planning Horizon into Shorter Sub-periods ..... 161 6.2.8 Rounding Up the Troops While the Enemy Is Still Weak . . . 162 6.2.9 Hard to Be Sophisticated ...... 163 6.3 Interventions That Allow Choices ...... 164 6.3.1 Libertarian Paternalism ...... 164 6.3.2 “Nudging” Decision-Makers by Changing the Default .... 165 6.3.3 Nudging Hyperbolic People ...... 166 6.3.4 Making People Commit to Future Savings ...... 168 6.3.5 Reverse Thinking: Asymmetric Paternalism ...... 169 6.3.6 Putting It into Practice ...... 170 6.4 Considering Policies ...... 171 6.4.1 Interventions for Smoking Cessation ...... 171 6.4.2 Reducing Obesity ...... 174 6.4.3 Intervention in the Consumer Credit Market ...... 176 6.5 Issues and Future Tasks ...... 178 6.6 Conclusions ...... 180

References ...... 181

Index ...... 187 About the Author

Shinsuke Ikeda is a professor at the Institute of Social and Economic Research (ISER), Osaka University, and serves as the director of the Research Centre of Behavioral Economics in ISER. He received a B.Com. at Kobe University in 1980 and a Ph.D. (economics) at Osaka University in 1997. He is the former president of the Association of Behavioral Economics and Finance. Dr. Ikeda has published articles on behavioral economics, macroeconomic dynamics, and asset pricing in the Journal of Finance, Journal of Health Economics, Journal of International Economics, Journal of Monetary Economics, and the International Economic Review, among others. With H. Kato, F. Ohtake, and Y. Tsutsui, he has jointly edited two volumes on behavioral economics: Behavioral interactions, markets, and economic dynamics: Topics in behavioral economics (Springer, 2015); and Behavioral economics of preferences, choices, and happiness (Springer, 2016, forthcoming).

xv Chapter 1 The Paradox of Self-Destructive Choices

1.1 What Are Self-Destructive Behaviors?

1.1.1 Harmful Choices

Many pathological problems that are prevalent in modern society, such as undersaving, overborrowing, credit-card bankruptcy, and lifestyle-related diseases (obesity, smoking, drug abuse, and gambling addiction), are all closely related to the choices made by the people who constitute the society. People sometimes overborrow money in order to spend it on leisure and/or luxury items, overeat, spend indulgent times, smoke, and gamble to the point of destitution. In all of these situations, the results of the choice to engage in such behaviors have adverse effects on the individual’s future. Moreover, self-harmful behavior is not always limited to the extreme cases described above. For example, on occasion, we sometimes stay up drinking until late at night even though we have a meeting early the next morning. As another example, rather than completing an important task with an impending deadline, we often engage in trivial tasks such as cleaning our work desk, checking e-mails, and self-grooming. Humans have long been aware that their choices are often impulsive and lead to self-destructive behavior. The Greek philosophers coined the term “Akrasia” to represent weak willpower that is vulnerable to temptation of immoral activities which people have to work to overcome. The concept of Akrasia need not be limited to immoral behavior. For example, it can also be applied to questions such as, “In what ways have people been weak when faced with a behavior that results in immediate but temporary gratiﬁcations and also in adverse but delayed consequences?” and “Why do people choose unhappiness rather than happiness?” These questions have long been the theme in areas such as the arts and movie entertainment. In this book, I term decisions or choices that we make that result in harm to ourselves as “self-destructive” choices. Why do we make self-destructive

© Springer Japan 2016 1 S. Ikeda, The Economics of Self-Destructive Choices, Advances in Japanese Business and Economics 10, DOI 10.1007/978-4-431-55793-7_1 2 1 The Paradox of Self-Destructive Choices decisions? How can we avoid them? It is of particular importance to solve these problems not only to improve our own decisions and behavior but also to reform the structures of organizations such as the family and to move society as a whole in desirable directions. The theme of this book is to elucidate the mechanisms underlying self- destructive decision-making and the prescriptions to cope with those mechanisms by incorporating new insights from recent contributions in economics, behavioral economics, and psychology. In addition, I explain the various kinds of self- destructive behavior from a uniﬁed viewpoint. Such a uniﬁed approach is reasonable when one sees that there are often non-negligible associations between different types of self-destructive behavior. In other words, a person who tends to engage in self-destructive behavior “A” with some frequency is also likely to engage in self-destructive behavior “B.”

1.1.2 Associated Self-Destructive Behaviors

The association between obesity and increased debt is a typical example of individuals engaging in different types of self-destructive behavior. Obese people are more likely to be indebted than the non-obese. Based on the data of a nationwide Internet survey conducted in Japan in 2010, Fig. 1.1 compares the obesity rates between debtors and non-debtors (the indicated debt does not include housing loans). In both the male and female samples, the group with debt exhibited a higher obesity rate than the group without debt, and this difference is too large to attribute solely to statistical errors. A similar association can be observed between obesity

Obesity rate 35%

30% 28.6%

25% 22.1%

20% 18.9%

15% 12.9%

10%

0% Males Females Debtors Non-Debtors

Fig. 1.1 Debtors are more likely to be obese than non-debtors (%). Source: The Japan Internet Survey on Preferences Relating to Time and Risk 2010. N ¼ 2,870 1.1 What Are Self-Destructive Behaviors? 3 and undersaving. As will be shown in Chap. 5, cross-country macro data indicate that lower saving countries tend to have higher obesity rates. The association among self-destructive activities can also be found in the habits of smokers and gamblers. Using data from the same 2010 Internet survey, Fig. 1.2 compares the rates of habitual gambling, debt, and obesity between smokers (i.e., people who have a habit of smoking) and non-smokers in both male and female samples. In the ﬁgure, smokers are more likely to have a gambling habit and debts than non-smokers. Although the association between smoking and obesity is not as strong as the associations between smoking and gambling and smoking and debt, it is positive for males. All associations between the various self-destructive activities are statistically signiﬁcant, except for that between smoking and obesity in females. One reason that the smoking-obesity association is not as high for females as the associations between other self-destructive behaviors may be because smoking has a direct negative effect on the smoker’s weight. In particular, females often smoke as a dietary aid in keeping weight down. More precisely, it seems strange that, given the weight-reducing effects of smoking, the obesity rate for smokers is not lower than that for non-smokers. This suggests a common factor that causes both habitual

Male

Smoker sample Non-smoker sample

34.9% 30.3% 25.2% 23.4% 20.4%

13.2%

Debtor rates Gambler rates Obesity rates

Female

Smoker sample Non-smoker sample 27.9%

13.6%

9.3% 9.6% 9.3%

4.4%

Debtor rates Gambler rates Obesity rates

Fig. 1.2 Association between smoking and other self-destructive behaviors. Source: The Japan Internet Survey on Preferences Relating to Time and Risk 2010. N ¼ 2,386 4 1 The Paradox of Self-Destructive Choices smoking and overeating and generates the positive association between smoking and obesity. It is important to point out, however, that the presence of positive associations between various self-destructive activities does not imply a causal relation. In other words, it is a misunderstanding to think that people gain weight because they borrow more money than they can afford or that habitual smoking makes people give in to the temptation to gamble. My viewpoint in this book is that people have certain biases when they make decisions, and these biases cause the various self- destructive activities and generate the associations between them (i.e., a “unified viewpoint”). It is noteworthy that a unified viewpoint does not ignore the reality that there are specific determinants for each type of self-destructive activity that people tend to make. In many cases, disease and unemployment cause people to borrow significant sums of money. Moreover, twin studies suggest that genetic factors account for several tens of percent of the probability of being obese. For example, a famous twin study in the USA (the Minnesota twin study) reports that approximately 72 % of interpersonal differences in body mass index (a measure of the degree of obesity) could be explained by genetic factors (Cutler and Glaeser 2005). Whether one has a habit of smoking and/or gambling also depends crucially on his or her social and home environments. However, insofar as these specific individual factors are not likely to occur at the same time for each person, the correlations among the various self-destructive activities cannot be explained by these individual specific factors. It is incorrect to posit that an obese person with a gambling habit must have strong genetic factors causing the obesity and gambling addiction. Correlations among the self-destructive activities imply that some common factors underlie all of them.

1.2 Comparing Present and Future Rewards

1.2.1 Present or Future? Choices over Time

To understand various kinds of self-destructive behavior, it is helpful to realize that these types of behaviors occur only in situations in which the choice is made over a time period. These types of choices are termed “intertemporal choices” in the field of economics and refer to situations in which one is to choose between a present and a future reward (or gratification). Below are some concrete examples of intertemporal choices. A choice between two options: (A) Getting one apple today and (B) Getting two apples tomorrow 1.2 Comparing Present and Future Rewards 5 reflects a typical intertemporal choice between a present reward (A) and a future reward (B). A similar example can be seen in a choice between (A) receiving USD 100 today and (B) receiving USD 200 in 5 years. People who prefer an immediate reward (e.g., one apple or USD 100 immediately) will choose option (A) and give up the opportunity for a larger reward later (e.g., two apples tomorrow or USD 200 in 5 years), whereas people who are patient will choose to wait for the larger, delayed reward (B). Thus, an intertemporal choice is one that is based on a comparison between an immediate (e.g., today) versus delayed (e.g., tomorrow) gratification. In the Chinese classical books “Liezi” and “Zhuangzi,” there is a fable from which the proverb “three in the morning, four in the evening” originated. A monkey keeper proposed that his monkeys eat three chestnuts in the morning and four in the evening. The monkeys would not accept this proposal, but they were willing to accept an alternative: to eat four chestnuts in the morning and three in the evening. The fable is used to admonish readers not to be preoccupied with immediate differences to the point where they fail to recognize that there are no differences in substance (see Supplement A). However, from the perspective of the monkeys, eating three chestnuts in the morning and four in the evening is not the same as eating four in the morning and three in the evening. Rather, it is an intertemporal choice. The problem of choosing between (A) three chestnuts in the morning and four in the evening and (B) four chestnuts in the morning and three in the evening can be viewed as a sort of savings-consumption problem. Provided that the monkeys are given four chestnuts in the morning and three in the evening, choosing between (A) and (B) is equivalent to choosing between (A0) saving one of the four chestnuts for the evening and (B0) eating all four in the morning. Indeed, deciding how much to save and how much to spend from a monthly income is one of the most common intertemporal choices faced by a majority of the population. Because savings represent future consumption, determining the saving-spending ratio is a typical intertemporal choice; individuals must decide how much present and future gratification to buy within a limited budget. Examples of intertemporal choices are not limited to fables. Rather, they cut across all facets of modern society. Several examples of these sorts of choices are illustrated below. One example involves the shape of a wage-time profile: A worker may have to choose between (1) a senior-based wage contract in which the wage rate begins at a low level and increases with seniority and (2) a performance-based wage contract in which the wage profile is relatively flat. People who prefer future gratification to present gratification will choose the senior-based wage contract, whereas people who prefer present gratification to future gratification will choose the performance-based wage contract. Similarly, an intertemporal choice is exem- plified in choosing between an inexpensive but energy-inefficient air conditioner and a more costly but energy-efficient air conditioner: By purchasing the less expensive model, consumers can save money today and thereby enhance present gratification at the cost of higher electricity charges in the future. The recent rapid increase in the market share of hybrid cars, compared to that of gasoline-powered 6 1 The Paradox of Self-Destructive Choices cars, can be seen as a change in consumers’ intertemporal choice patterns—a shift to choosing the delayed (but better) reward. Another fairly ubiquitous example of an intertemporal choice problem involves task completion. Imagine that a student is assigned a homework that needs to be completed over a vacation. In this case, the choice is between completing the assignment early at the beginning of the vacation (i.e., choosing a delayed reward of free time for the rest of the vacation) and completing it on the final night of the vacation (i.e., choosing the immediate reward of free time even though that means work will have to be completed at the end of the vacation). Thus, the decision regarding when to enjoy leisure time is similar in structure to the other examples described above: a choice between enjoying pleasure early with enduring suffering later on and bearing the burden of homework early and thereafter enjoying leisure. Similarly, various decisions related to health involve a temporal difference between the time the choice is made and when the effects of the choice on overall health are realized. For example, consuming a healthy diet in order to maintain a low body weight involves bearing mental costs in refraining from snacks at present for future health. Thus, daily behaviors such as eating vegetables now for future health or exercising now for future improvement in physical ability are the results of intertemporal choices. How many cigarettes to smoke is another version of an intertemporal choice. Smokers know that smoking can harm their future health (e.g., the development of lung cancer) when they choose to smoke a cigarette, and yet they frequently choose the immediate reward of having it (e.g., relaxation). Furthermore, people may take into account the effect of nicotine addiction in smoking decisions: One may not smoke because once addiction occurs, it is hard to quit in the future. Similarly, decisions over drinking, gambling, and drug abuse can be viewed as intertemporal choices. Self-destructive behavior is specific to intertemporal choices because it is a self- contradictory behavior that harms the decision-maker at a later point. In this sense, self-destructive behavior is a dynamic phenomenon that occurs over time. For example, choosing to overeat leads to the immediate benefits of feeling satisfied but also leads to the delayed harm of being overweight. Alternatively, although smoking provides immediate relaxation, its cumulative effects also harm health after several years of making that same choice. In this way, self-destructive behavior is a consequence of self-injuring intertemporal decisions related to how one allocates gratification over time. This point can be clearly seen when intertemporal decisions are compared with intratemporal decisions (or atemporal choices). An example of an intratemporal choice is a choice between (1) getting one apple now and (2) getting two apples now. When both rewards are available simultaneously, people tend to choose the larger or better quality reward. If the options involve a temporal factor, however, the decision is not so simple. For example, when asked to choose between “good health” and “poor health,” people may well prefer “good health.” However, when a delay is inserted between the two choices, people tend to opt for the smaller reward if it is given immediately: When asked to choose between “an (unhealthy) 1.2 Comparing Present and Future Rewards 7 pleasure of today” and “good health in five years,” many people are likely to choose the pleasure of today (e.g., they eat a large slice of cake rather than just having a bite or two). Thus, people often choose smaller rewards that they would never select in intratemporal decisions, and this leads to self-destructive behavior. Note, however, that I said “will lead.” Although the mechanism of self- destructive behavior can be explained by the temporal structure of some choices, choosing a small reward today (and “throwing away” a larger reward in the future) may be a matter of taste regarding orientation toward the present and not necessarily “irrational” self-destructive behavior. As I shall explain more fully below, to see the mechanism underlying self-destructive behavior, a deeper understanding of people’s present orientation as a taste and how it affects their choices is needed.

1.2.2 Present-Oriented Inclination: Subjective Discount Rates

Intertemporal decision making depends on how present-oriented, or how impatient, the decision-maker is. People who tend to consider the future when making a life plan will pick a delayed reward if it is better (e.g., “two apples in one year”) rather than the lesser by immediate reward (e.g., “an apple today”), while people who tend to make decisions for the moment will be satisfied with immediate reward (e.g., “an apple today”) rather than waiting for a more delayed reward (e.g., “two apples in one year”). Thus, if there were a way to measure the degree of present orientation, there would be a way to account for behavioral tendencies relating to intertemporal decisions. The field of economics has devised the concept of the “subjective time discount rate” or simply the “discount rate” in order to measure the degree of a person’s present orientation and hence their degree of impatience. The discount rate is defined as the percentage rate of discounting that one applies when evaluating future gratification in terms of present gratification. To put it differently, it captures the relative weight that one places on present satisfaction, compared with the weight placed on future satisfaction, when an intertemporal decision is made. A person with a high discount rate can be labeled as “impatient” because he or she tends to value present gratification over future gratification. By contrast, a person with a low discount rate can be labeled as “patient” because he or she is willing to delay gratification to the future. A personal discount rate can be measured by determining willingness to accept a delay in receiving a certain amount of money. For example, if an individual is supposed to receive USD 100 today but is then asked to wait a year, how high an interest rate is requested as a result can be measured. The interest rate requested at that time represents the discount rate (see Supplement B). Thus, a discount rate of 10 % indicates less patience than a discount rate of 5 %: The rate of 10 % indicates 8 1 The Paradox of Self-Destructive Choices that the individual requires a larger delayed reward in order to tolerate the delay, whereas the rate of 5 % indicates that the individual is more patient and can tolerate a delay associated with a lower reward. The subjective discount rate can be thought of as a preference parameter that captures a person’s degree of impatience (or present orientation) and determines how the individual will behave when faced with an intertemporal decision. Indi- viduals with higher discount rates are more likely to prefer immediate rewards (“an apple today”) than delayed rewards (“two apples in one year”), and vice versa. Because people with higher discount rates give a higher priority to present rather than future gratification, they also should display a higher propensity to consume material goods (or a lower propensity to save money) and a higher inclination toward borrowing money. Furthermore, the influence of the discount rate does not only apply to economic decisions but rather is also pervasive across all types of behavior that relate to intertemporal decisions. Thus, people with higher discount rates are more likely to overeat (i.e., continue to enjoy eating tasty food even when sated) rather than eat less in order to improve overall future health; hence, these people are expected to exhibit a higher degree of obesity than those with lower discount rates. The same pattern is seen when the consumption of addictive goods and services, such as cigarettes, illegal drug use, and gambling, is studied: People with higher discount rates form such consumption habits more readily, without regarding the serious long-term losses. This pattern even extends to the tendency to engage in extramarital sexual relations. Recent empirical research in the fields of economics and psychology has confirmed that the level of the personal discount rate influences people’s intertemporal decisions, including those related to self-destructive behavior. For example, our 2005 questionnaire survey indicated that as the degree of impatience, measured by discount rate, rose from the mean by 1 standard deviation, the probability of being a debtor increased by 8.5 percentage points (Ikeda et al. 2010b), the probability of being obese rose by 3.7 percentage points (Ikeda et al. 2010a), and the number of cigarettes smoked per day increased by 0.39 (Kang and Ikeda 2014). Despite the clear relationship between a high discount rate and a high present orientation, the cause of self-destructive behavior is not straightforward. The subjective discount rate represents a taste parameter that captures how much a person prefers present gratification to future gratification. A high discount rate simply means that the person relatively prefers the present to the future and, thus, may be viewed as simply a difference in taste across individuals, for example, in the same way that a person may prefer an apple to a banana. This is a different issue than the irrationality of engaging in self-destructive behavior. As will be explained in detail below, self-destructive behavior as irrational behavior occurs because the subjective discount rate is not constant. This anomalous trait exerts a heavy influence over making shortsighted, self-destructive decisions even though there may be an alternative far-sighted long-term plan. 1.2 Comparing Present and Future Rewards 9

1.2.3 Bankers’ Way of Time Discounting

The concept of time discounting has been discussed since the nineteenth century as a psychological determinant of people’s propensity to save in relation to the mechanisms of economic growth and the distribution of national wealth. Due to the limited ability of computational technology and restricted data availability, the discussion was limited to the mathematical model of the so-called exponential discounting for a long time. In exponential discounting, the value of a period-T delayed reward is converted into its present value by multiplying the objective value of the delayed reward with a fraction of the discount rate. For example, if the period-T delayed reward is USD 100 in 10 years and the discount rate is 10 %, the present value under exponential discounting is expressed as USD 100* [1/(1 þ 10 %)10]. Because the fraction is less than 1 (in the present example, 0.386), multiplying it with the amount of USD 100 results in “discounting” the amount into the present value. It is called exponential discounting because the fraction to discount, 1/(1 þ 10 %)T, is expressed as an exponential function of the time “delay” T of value realization. Note that the denominator (1 þ 10 %)T represents the sum of the principal and interest in T years when USD 1 is invested with compound operations at a 10 % annual rate. Exponential discounting can be taken as the banker’s way of discounting to calculate present values by using an inversely compound computation to calculate future sums of interest and principal (see Fig. 1.3). This banker’s formula is a helpful method of converting a stream of values that accrue at different points in the future into a present value and thereby making a consistent long-term plan. In the field of economics, it has been assumed that people behave in a way so as to maximize the sum of present-valued utilities that are calculated using exponential discounting. This is called the “discounted utility model,” which was originally developed in 1937 by Paul Samuelson, the second Nobel laureate in economics (Samuelson 1937). Since that time, the discounted utility model has become standard in economic dynamic theory. However, as research on behavioral economics gradually progressed during the 1970s under the influences of psychology and cognitive science, it was learned that the simple model of exponential discounting does not fit the actual data and hence cannot explain people’s actual intertemporal choice behavior. In particular, many economic experiments and questionnaire surveys have reported that a personal discount rate, which was considered to be constant for each person, actually varies depending on the frame and conditions of intertemporal choices. If the observed fluctuations in discount rates were random and could be averaged, this would not be a serious problem. However, the observed personal discount rates exhibit systematic biases that are dependent on various choice conditions such as the magnitude of the delayed reward and the length of time to realization of the reward. These biases cannot be explained by exponential discounting. The observed biases in the subjective discount rates are called “the discounted utility anomalies” or “the intertemporal choice anomalies” to characterize them as anomalous phenomena 10 1 The Paradox of Self-Destructive Choices

Fig. 1.3 Exponential discounting that cannot be explained by the standard exponential discounting model (Frederick et al. 2002). For example, the discount rate tends to be higher as the magnitude of the value of the delayed reward becomes smaller. In our 2005 questionnaire survey, the average annual discount rate was 6.70 % when the delayed reward was USD 100 but only 1.16 % when the delayed reward was USD 10,000. This so-called magnitude effect is consistent with the tendency of people to accept unreasonably high interest rates when borrowing a small amount of money in consumer loan markets (e.g., the payday loan market). The degree of impatience (measured by the discount rate) is higher when the delay represents waiting for future satisfaction (i.e., a reward of certain value) than when it represents future dissatisfaction (i.e., the loss of a certain value). For example, in terms of interest rates, the discount rate for a delayed loss (or dissatisfaction) is an acceptable interest rate so as to delay the timing of suffering the loss. In our 2005 survey, the discount rate that was applied to receiving USD 10,000 in 1 year was 1.16 %, whereas the discount rate for paying USD 10,000 in 1 year later was only 0.22 %. Future payments and losses are not discounted as much as future receipts and rewards and are evaluated seriously as if the damages were taking place immediately. As this tendency implies that the discount rate depends on whether the value to be discounted is positive or negative, the anomaly is called the “sign effect.” The sign effect is related to preferences toward loss aversion and makes people adverse to behavior that leads to future loss and suffering (e.g., overeating, overborrowing, etc.). On the contrary, people who do 1.3 Hyperbolic Discounting and Inconsistent Decisions 11 not exhibit the sign effect will borrow without seriously regarding future repayments or will choose to overeat despite the risk of obesity. In Chaps. 2 and 3, I shall discuss in detail the possible reasons why the discounted utility anomalies occur and their implications for actual behavior. Hyperbolic discounting, explained in the next section, is particularly important for understanding self-destructive decisions.

1.3 Hyperbolic Discounting and Inconsistent Decisions

1.3.1 Being Swayed by the Temptation of Immediate Rewards

One of the most troublesome natures of personal discount rates is that discount rates tend to be higher for decisions related to more immediate rewards or losses. In other words, people are more impatient when they face more immediate rewards and losses. For example, in our 2005 questionnaire survey, when people were asked how high an interest rate they would request when asked to delay by another week receiving USD 100 that is scheduled to be received in 90 days, the mean response was 47.4 % (approximately USD 0.91 of interest). This can be contrasted with a situation in which they were asked to postpone receiving for another week the amount of USD 100 that was scheduled to be receive in 2 days, in which the same people demanded an interest rate of 52.8 %, on average (about USD 1.01 of interest) (Ikeda et al. 2005). The tendency for the discount rate to be higher for near-future discounting than for distant-future discounting is called hyperbolic discounting or a present bias. As explained in Fig. 1.3, with exponential discounting, the multiplicative fraction to discount a reward of T years in the future is an exponential function of delay (time distance), but for hyperbolic discounting, the fraction is a hyperbolic function of delay. In other words, for hyperbolic discounting, the function is a fraction with T appearing as part of the denominator. Figure 1.4 summarizes hyperbolic discounting. The hyperbolic discounting formula was originally developed as “the matching law” by Richard Herrnstein, a psychologist at Harvard University. By conducting experiments with pigeons, he showed that behavior was strongly biased toward immediate rewards. Speciﬁcally, he demonstrated an inverse relation between the value of a reward and the delay to the reward (Herrnstein 1961). In the standard economic theory based on exponential discounting, people are presupposed to discount future gratiﬁcation at a constant rate in the same way that bankers do and regardless of the duration of the delay. However, in actuality and similarly to Herrnstein’s pigeons, people’s intertemporal choices are likely to be swayed by the temptation of immediate rewards. Thus, hyperbolic discounting is better at describing the actual behavioral features of discounting. 12 1 The Paradox of Self-Destructive Choices

Fig. 1.4 Hyperbolic discounting

In Chap. 3, I shall more fully explain why the hyperbolic discounting model is better at describing intertemporal decisions. At this stage, it is important to note that hyperbolic discounting can cause self-destructive postponing of decisions and procrastination, which harms the long-term welfare of the decision-maker. This idea is further explained in the following section.

1.3.2 Self-Destructive Procrastination

The most serious influence of hyperbolic discounting on behavior is that it makes it difficult for people to carry out plans or decisions that were previously made with long-term benefits in mind. The reason is that as time passes, our degree of patience while we wait for future gratification becomes lower, so that previous plans or decisions that were made from the perspective of the long-term goal become suboptimal at the moment they are performed. As previously mentioned, the results of our 2005 survey indicated that people who can wait an additional week to receive a 3-month delayed reward of USD 100 with an interest of USD 0.91 become unable to wait that additional week unless USD 1.01 or greater amounts are offered for interest. In this way, hyperbolic 1.3 Hyperbolic Discounting and Inconsistent Decisions 13 discounters are patient with waiting for distant-future rewards, whereas they are not, for near-future rewards. Thus, hyperbolic discounting has a serious impact on our behavior. Even though we may have carefully made a good, long-term plan, our discount rate increases at the point in which we need to carry out the plan, such that we are unable to follow through with it and instead pursue smaller but sooner gratifications. For example, as many people experience in dieting or smoking cessation programs, it is easy to succumb to the temptation of the immediate rewards of eating an unhealthy food or smoking a cigarette right now in favor of beginning the program the next day. Postponing or procrastinating original plans is a typical behavioral pattern of hyperbolic discounters. Similarly, putting off certain judgments or decisions that should be made soon is another type of self-destructive behavior caused by hyperbolic discounting. The predilection toward procrastination causes people to scrap long-term saving plans and instead put a higher priority on current consumption. In fact, recent empirical studies report that “hyperbolic people” (those who discount the future hyperbolically) exhibit a strong inclination to undersave and overconsume. For example, in our 2004 economic experiment (N ¼ 63), 16.7 % of the subjects in the hyperbolic group were debt holders whereas only 7.5 % of the subjects in the non-hyperbolic group were. This suggests that hyperbolic discounters are more likely to borrow than non-hyperbolic discounters (Ikeda et al. 2005). In our 2010 Internet questionnaire survey (N ¼ 2,389), hyperbolic discounters had a 3.8 percentage-point higher probability of being a debtor and a 3.1 percentage-point higher probability of being a credit-card borrower than exponential discounters (Ikeda and Kang 2015). Since debtors and credit-card borrowers occupy 20.2 % and 8.6 %, of all the respondents, respectively, the impact of hyperbolic discounting on borrowing propensity is relatively large. The impact of hyperbolic discounting on people’s inclination to incur credit-card loans is observed clearly in the USA, a typical card society. For example, an empirical study reported that hyperbolic discounters displayed a 16 percentage-point higher probability of being a credit- card debtor (Meier and Sprenger 2010). Thus, hyperbolic discounting has important implications for the multiple debtor problem. For example, the research group at Osaka and Waseda Universities (led by Prof. Y. Tsutsui) conducted an Internet-based questionnaire survey of 2853 people, including those who had experiences of borrowing unsecured consumer loans, and showed that people who had ever borrowed unsecured consumer loans and especially those who had engaged in (out-of-court) debt restructuring had higher hyperbolic discounting rates than did people who had not (Tsutsui et al. 2007). Hyperbolic discounting also has detrimental effects on our health-related behavior. Figure 1.5 compares the proportions of debtors, obese persons, habitual smokers, habitual gamblers, and habitual drinkers between hyperbolic and non-hyperbolic respondent groups. Here, hyperbolic discounters were identified by asking respondents whether they tended to procrastinate doing homework assignments in their school days. The figure shows that hyperbolic discounting had harmful effects on both human health and financial wealth. 14 1 The Paradox of Self-Destructive Choices

Strong procrastinators (strongly hyperbolic discounters) Weak procrastinators (weakly hyperbolic discounters)

34.9%

30.3% 30.5%

24.1% 24.6% 22.9% 21.7% 19.2% 15.5%

10.6%

Debtors Obese people Habitual smokers Habitual gamblers Habitual drinkers

Fig. 1.5 Procrastinating predilection (hyperbolic discounting) and self-destructive behaviors. Note: The differences between strong and weak procrastinators are all signiﬁcant at the 0.5 % signiﬁcance level. Source: The Japan Household Panel Survey on Consumer Preferences and Satisfaction, 2005. N ¼ 2,870

Chapter 5 discusses the empirical data indicating how hyperbolic discounting and other preference biases actually relate to people’s self-destructive behavior in areas of overborrowing, obesity, and addictive behaviors (e.g., smoking etc.).

1.3.3 The Self-Control Problem

Under hyperbolic discounting, there are different selves at different points in time. Because each one of these selves tends to be most interested in its own immediate profit, a conflict of interest takes place. If the selves’ behavior is not organized, each of them will pursue its own immediate gratification preferentially. Consequently, long-term plans promoting moderation are broken gradually and cause serious harm to the decision-maker over time. In other words, hyperbolic discounting conceives the self-control problem as a conflict between a long-term and a short-term self. Both of these selves reside inside one person: a long-term self (angel) who considers the person’s long-term benefits, a short-term self (devil) who considers the person’s short-term benefits. The angel makes a wonderful long-term action plan with a low discount rate, but it is the devil that carries out the plan each day. With a higher degree of impatience, the devil breaks the future-oriented long-term plan that the angel made, and thereby the individual falls into the intemperance and self-indulgence of pursuing his or her own short-term benefits. 1.3 Hyperbolic Discounting and Inconsistent Decisions 15

This situation is analogous to “an agency problem.” Just like a business manager who acts against the stockholders’ interests to pursue his or her own, an agent to whom his or her principal entrusted the power to make decisions may act against the principal’s interest; this loss is called “the agency costs.” Hyperbolic discounting causes a sort of an agency problem inside a decision-maker between the “principal” who makes plans for long-term beneﬁts and the “agent” who carries out the plan every day. Due to these agency costs, behavior under hyperbolic discounting is suboptimal and hence self-harming.

1.3.4 “Sophisticated” People and “Naive” People

However, hyperbolic people are not always such simple self-destructive decision- makers. Some hyperbolic people can complete onerous work without putting it off until just before the deadline, even though they are strongly tempted toward procrastination. These people are able to recognize the devil lurking inside them and that, if they succumb to the devil’s temptation to put off completing tasks, they will continue to choose such easy ways in the future. I call these sorts of people “sophisticated” decision-makers and those who optimistically entrust their future selves with future decisions “naı¨ve.” I have said that hyperbolic people are more likely to put off finishing onerous tasks in order to enjoy amusements sooner than are exponential people. This is especially true for naı¨ve people. By contrast, a sophisticated person knows that even though he or she may put off a task today, the task will continue to be postponed each day by his or her impatient future self. Hence, he or she will plan his or her working schedule by incorporating the fact that it is infeasible to participate in a drinking bout by leaving the task in the hands of tomorrow’s self. Such a schedule will be practicable even for tomorrow’s impatient self, and indeed, he or she will carry it out consistently. A sophisticate is a consistent executor, while a naı¨ve is a fluctuating decision-maker. A person who often changes plans or cancels promises is not a sophisticated planner or decision-maker but a naı¨ve one who has overconfidence in his or her impatient future self. However, even when hyperbolic discounters are sophisticated, they will not always make better decisions than naı¨ve people. Of course, as sophisticated people are correctly skeptical about their future willpower, they tend not to make as many self-destructive choices that involve procrastinating in completing troublesome work. Instead, they may make another type of self-destructive choice as a result of fear of being late for the deadline: they complete the task too early. For example, completing homework assignments by the second day of the first month of summer vacation is better than having to rush to complete it on the last day. However, from the viewpoint of efficiency and performance, it would better to finish the work over the course of the first 2 weeks or so of the vacation by smoothing time and effort during the period. In this way, as a demerit of being sophisticated, it would lead 16 1 The Paradox of Self-Destructive Choices people to behave in excessively moderate ways. That behavior, too, is self- destructive in the sense that it is suboptimal. Moreover, being sophisticated has a paradoxical effect on decisions involving when to enjoy a pleasant event or to take a profit during a certain period. With hyperbolic discounting, naı¨ve people tend to accelerate the schedule of pleasant events. Paradoxically, the same schedule could become even more accelerated for a sophisticated person: The current “self” of the sophisticate would choose, for example, to eat an unripe apple today because that self foresees that waiting to eat the apple until it ripens the day after tomorrow will result in a tomorrow “self” eating it. Thus, a ripe apple would not be a feasible choice to the sophisticate and he or she might choose to eat a less ripe apple (i.e., eat the apple today) compared to a naı¨ve person, who would plan to eat a ripe apple the day after tomorrow but end up eating the apple next day. This illustrates the possible greater risk of making self- harmful choices that sophisticated people have compared to naı¨ve people. In Chap. 4, I will discuss more fully the behavioral differences between sophisticated and naı¨ve persons.

1.4 Binding Future Selves’ Hands

1.4.1 Binding Loose Selves

In the previous section, I discussed the possibility that the self-destructive features of our choices could be mitigated or enhanced by recognizing that our future selves are more lax and impatient than expected. However, even though a sophisticated person may make a smarter decision than a naı¨ve one (e.g., sticking to a diet plan), the decision will not be better than it would be in the absence of the self-control problem. Insofar as people are hyperbolic, there will be inefficiency in making decisions even for sophisticated people. Acting under the influence of hyperbolic discounting is just like doing something with a uncooperative partner who will pursue his or her own benefit unless watched carefully: No matter how smart you might be in incorporating the selfishness and impatience of your partner into action plans, the performance of the team’s activity may well be much inferior to that which would be attained when your partner is willing to contribute patiently to the team. One possible means of coping with the self-control problem is to bind the hands of your loose partner or your impatient future self. For example, a student may study in the library so as not to get distracted, people may avoid overspending by not carrying extra money when they shop, and people may avoid becoming “hooked” on a television drama by skipping the first episode. Attempts to restrict the future self’s options in this way are called a precommitment or more simply a commitment. A precommitment is a prior determination to restrict one’s own freedom so as to ensure in advance that an intertemporal choice does not lead to 1.5 Coping with Self-Destructive Behaviors 17 impulsive behavior that harms long-term welfare. One famous example of a precommitment strategy can be found in book 12 of the famous Greek mythology Odyssey: Before setting sail on the ocean, Odysseus told his comrades to tie down his body to the mast during the voyage, so as not to run aground lured by the Sirens’ fascinating singing (Homer “ODYSSEY”). Thus, Odysseus could foresee that at some point in the future, he would be tempted into an impulsive decision, and so he made a commitment to avoid the temptation by asking his comrades to physically prevent him from engaging in the harmful behavior.

1.4.2 Freezing Assets

Low-liquidity assets could be used as a (pre)commitment devise for saving. An illiquid asset prevents people with high hyperbolic rates from overspending and undersaving. Low-liquidity assets include land and other real estate and deposit or saving contracts with large penalty charges for cancellation and early withdrawal. By transferring wealth to the future self in the form of an illiquid asset, the present self prevents the future self from overspending from the wealth. In Aesop’s fables, there is a story of a goose that laid golden eggs. The man who kept the goose was too impatient to wait for the eggs and finally cut open the goose’s belly in an attempt to get the eggs (and their associated wealth) more quickly. By comparing illiquid assets as a commitment devise to the goose, David Laibson, a professor in Harvard University, proposed a “golden egg model” that describes the sophisticated behavior of hyperbolic consumers when they use illiquid assets (i.e., the goose), so as to overcome the problem of overspending and undersaving (Laibson 1997). In Chap. 4, I shall deal with the golden egg model in greater detail. Specifically, I will focus on the following questions that have not so far been explained in standard economics. Why are there many illiquid assets in actual markets despite that they are inconvenient to liquidate for consumption? Why do we change monthly expenditures in accordance with income fluctuation?

1.5 Coping with Self-Destructive Behaviors

If people were always rational decision-makers, there would be only limited room to improve behavior or intervene in the decision-making process. However, people do not always make rational decisions because they are frequently confronted with the self-control problem. As a result, they tend to make harmful long-term decisions. Thus, it is of the utmost importance to develop strategies to avert or mitigate the self-control problem. 18 1 The Paradox of Self-Destructive Choices

1.5.1 Knowing Oneself: Self Signaling

To improve our own behavior, it is important, first, to be sophisticated decision- makers by understanding the structure of the devil-to-angel conflict under hyperbolic discounting and thereby incorporating loose behavior of the impatient future self into the decision (i.e., the devil with a high discount rate). This problem is more daunting for naı¨ve people than for sophisticated people. However, as will be shown later, recent empirical studies report that many people are naı¨ve decision-makers, who are not aware of their own self-control problems completely. Thus, they could greatly improve the quality of their decisions by recognizing the existence of the devil inside themselves and incorporating that knowledge into their action plans. In order to incorporate knowledge of the self-control problem into decisions, people have to learn how hyperbolic they are by checking their own choices and behavior in their daily lives. Decisions made each day, for example, in school or in society, can be used to examine and test their own willpower. For example, one could ask whether plans of temperance were actually carried out as planned, whether promises to friends were kept, and whether they have been punctual for appointments. By examining everyday how well they have performed in these large and small tests, people can gradually learn how hyperbolic they are and hence how serious their self-control problems are. In economics, this is called self-signaling. As explained previously, the self-control problem is an agency problem inside a decision-maker that occurs between a principal, who makes a plan for long-term benefits, and an agent, who pursues short-term benefits exclusively. By letting your agency work tentatively, you can learn from his signaling how uncontrollable the agent is.

1.5.2 How to Improve Decisions and Behaviors

Even though a person may be aware of his or her self-control problem, a high cognitive ability and strong willpower is needed to overcome the devil’s temptation and thereby adhere to future-oriented behavior. Indeed, it is a highly cognitive and intellectual work to give up immediate and visible gratifications and instead wait for more abstract and invisible long-term gratifications. To perform the hard work for delayed gratification, three devices are helpful. The first is to make use of precommitment strategies to ensure that future-oriented behavior will still occur at the point when the discounting rate changes. This strategy is advantageous because it does not rely heavily on cognitive ability or willpower. For example, you can commit to dieting by joining dieting and/or fasting clubs in which other dieters remind you of your goals. To keep physically healthy, you may take out a health insurance policy that requires you to have health examinations at regular intervals. You could build wealth by saving money in the form of an installment-term deposit with high penalty charges for early withdrawal. 1.5 Coping with Self-Destructive Behaviors 19

Similarly, you may regulate yourself by making rules such as “Never eat sweets” or “Never eat after 8:00 P.M.” These rules can be regarded as a precommitment strategy in a broad sense. By imposing such rules on yourself, you commit yourself to future-oriented behavior. In contrast to the previous examples, these types of rules are “soft commitments” because they cannot be enforced, but they do promote voluntary self-regulation. Therefore, such a rule cannot work as a strong commitment unless you continue to observe it, and it is harder to keep some rules than others. For example, it is much more difficult to keep a rule of “No smoking” in the first week of a smoking cessation plan than it is after the plan has been successfully in effect for half a year. Once a rule has been successfully kept for a certain period, keeping it becomes habitual and, as a result, it can moderate behavior. However, strong willpower is needed before attaining such a situation. The second way to reduce the self-control problem is to divide a long-term period for planning into short-term periods. This can be best illustrated with an example. Imagine children who receive a monthly allowance; even when they plan to spend it over a month, they tend to spend it all within several days. Shortening the period for an allowance (1 month) will make it easier to induce planned behavior. A USD 5 weekly allowance may be more likely to be spent in a planned way than a USD 20 monthly allowance. The third strategy involves controlling the environment in which decisions are made such that cognitive judgment works well. As instinct and impulsive emotions are indispensable for our survival, once they are activated, it is extremely difficult to suppress them and make rational judgments. Thus, it is important to make choices before these switches are activated. For example, overeating can be avoided by beginning a meal early so that healthy decisions on what and how much to eat can be made before getting too hungry. Moreover, when behavior that tends to be impulsive needs to be controlled, cognitive power should not be engaged in other cognitive tasks (e.g., reading newspaper) at the time the decision is to be made. Splitting cognitive power between the two tasks increases the possibility that the behavior you want to be controlled will be managed by the devil’s hands.

1.5.3 Behavioral Economics Policy Recommendations

As seen from the previous discussion, it is difficult for hyperbolic people to avoid or mitigate self-destructive behavior by their own individual efforts. Thus, various organizations and societies such as governments, firms, schools, and families can all play critical roles in improving people’s behavior by intervening in their decisions. This can be contrasted with the assumptions of standard economics, in which people are presupposed to behave in ways that are rational and consistent and with their long-term welfare in mind. In traditional economics, interventions or regulations are theoretically desirable only when the costs of individuals’ activities have effects on society as a whole, but these effects are not incorporated into the 20 1 The Paradox of Self-Destructive Choices individual’s decisions (e.g., polluting smoke emitted from factory chimneys) or when information held by the individuals is imperfect for some reason. Moreover, based on the liberalistic thought, standard economics presupposes that each individual should have the freedom to choose and trade as a basic right and that any intervention that interferes with or harms this right is undesirable, even if the intervention is to improve behavior. The idea that people’s behavior/welfare can be improved by forcing them to obey certain regulations or rules (e.g., taxation) is called paternalism. Paternalism means correcting people’s behavior by intervening in such a way as to coerce them into making better decisions. From the standpoint of standard economics, which respects individual freedom, paternalistic intervention is never desirable. To improve each individual’s behavior and thereby enhance social welfare, behavioral economics proposes a new idea: to intervene in personal decisions by simply changing the framework of the choices instead of by forcing people to behave in a certain way. This view is called “libertarian paternalism,” and it recommends a liberalistic intervention that induces decision-makers to make better choices voluntarily without restricting their freedom to choose. As explained previously and as I shall discuss in the following chapters, decision biases due to hyperbolic discounting cause self-destructive behavior. Libertarian paternalism proposes to design a framework and options of choices such that people would be more likely to choose long-term benefits when their decisions are biased. For example, hyperbolic people tend to choose by inertia. They are likely to choose a default or preselected option automatically when no alternative is actively chosen. This tendency is called a default bias. The reason is that they tend to put off hard tasks that have to be completed when making active decisions, such as collecting information, comparing alternatives, and picking up the best option. To correct suboptimal behavior due to a default bias, libertarian paternalism proposes to set an optimal option for the default, such that people with a default bias would be likely to choose it. For example, it can be thought of as putting the right chairs where tired people are likely to sit. The automatic enrollment pension system is a typical example of strategies that manipulate the default bias. Under automatic enrollment, employees are, by default, enrolled unless they explicitly choose to opt out. By introducing the system, employees’ undersaving as a result of the self-control problem can be alleviated. Under standard enrollment, wherein employees are by default not enrolled and are required to make explicit decisions to choose to “opt-in,” many default-biased people do not make the explicit decision, are not enrolled, and do not consider the potential future poverty during retirement that may occur as a result. Actually, the 401 (k) defined-contribution pension system in the USA and the public pension systems in many countries successfully raise enrollment rates by introducing the automatic enrollment system. Note that the automatic enrollment system is a libertarian-paternalistic intervention because it does not enforce decision-makers (i.e., employees) to do something (i.e., to enroll) but does ensure the freedom to opt out. What it does do, however, is change the default, or the frame of the choice, without restricting the decision- Supplement A: Monkeys and Cho¯san-Boshi?21 makers’ opportunity or freedom. As I shall show in Chap. 6, such default policies have been proven to be effective in Japan, for example, in promoting the use of generic drugs. Another prominent example of a libertarian-paternalistic intervention is a policy to raise the saving propensity of hyperbolic people by making use of their present- biased predilection. Recall that hyperbolic people are more patient in making decisions when considering the costs and benefits of the distant future than those of the immediate future. Therefore, although hyperbolic people are reluctant to save immediately, they are willing to start saving a year later. Their saving rates could thus be raised by providing them with savings contracts that enable them to commit to future saving. This intervention policy has been producing successful results in raising employees’ saving rates in the US corporate pension system. In Chap. 6, based on recent contributions of behavioral economics, I shall discuss policies to prevent self-destructive behavior due to the self-control problem from the viewpoints of individual decision-makers as well as policy makers. In particular, policy implications are considered in detail for several important issues, including smoking cessation, obesity, and consumers’ overborrowing.

Supplement A: Monkeys and Cho¯san-Boshi?

Cho¯san-boshi (“three in the morning, four in the evening”) is a story that ridicules how monkeys become preoccupied with immediate rewards. There was actually a psychological experiment that used 11 monkeys consisting of different species— six cotton-top tamarins and five common marmosets—wherein their impatience was measured (Stevens et al. 2005). In this experiment, Jeffrey Stevens and his joint researchers at Harvard University measured the impatience of monkeys by offering the monkeys (A) two treats that they could eat immediately or (B) six treats for which they would have to wait before they could eat; they observed which option they would choose and repeated the procedure by changing the wait time for (B). The treats, weighing 45 mg each, were banana-flavored. The results showed that, on average, marmosets waited 14.4 s and tamarins waited 7.9 s. That is, even when the amount of treats is tripled, they could wait for only a moment that was as short as taking a few breaths. We can see that the impulsiveness and impatience of the subjects are not even close to that in cho¯san- boshi. However, that was not what caught Stevens and his colleagues’ attention. It was the fact that there was a large difference in impulsiveness between two species of monkeys whose longevity, body type, brain size, and ecology—including their social life—were not overly different. The difference in impulsiveness was much more significant when the individual monkeys were compared: even the most patient tamarin (who was able to wait for 9.8 s) was much more impatient than the most impatient marmoset (who was able to wait for 10.0 s). 22 1 The Paradox of Self-Destructive Choices

Stevens and his colleagues attribute this result to differences in the subjects’ staple diet, tree sap or insects. This is because, whereas patience is required to wait for tree sap to seep out, impulsiveness works well when hunting for insects. In fact, while marmosets obtain approximately 70 % of their diet from sap seeping from trees, in the case of tamarins, only about 14 % of their diet depends on tree sap; a vast majority of their nutrition comes from insects. Stevens and his colleagues speculate that natural selection worked under these differences in food ecology by improving the ability to self-control among marmosets, which are required to have patience, while depressing the ability to self-control among tamarins, which are required to have impulsiveness. As for problems relating to impulsiveness and self-control—an important subject in this book—I will discuss these in detail in Chap. 3.

Supplement B: Measuring Personal Discount Rates

As explained in the main text, one rarely asks “What interest rate do you want for waiting to receive the payment for one year?” to actually measure the time-discount rate; that is because it is difficult for people to respond to such a question by accurately stating the exact interest rate that they want. One would normally ask a series of two-choice questions, such as “Do you want (A) to receive JPY 10,000 today or (B) to receive JPY 10,191 one year later?”, and estimate through statistical methods the amount of money 1 year later that would have the same value as today’s JPY 10,000. Before proceeding to the next paragraph, please try to measure your own subjective discount rate by answering the question shown in Table 1.1. In the table, the interest rate for choosing (B) becomes larger as you go down. Because the interest rate increases as you make your choice one by one from the top line, you are likely to switch to (B) at some point, even if you had chosen (A) (i.e., receiving JPY 10,000 today) at the beginning. The point at which you make your switch is where you will find your subjective discount rate. The subjective discount rate is higher for those who are slow to switch. In an economic experiment, you would ask the subjects to choose from similar options, after promising to pay the amount of money that he or she chooses at the specified timing. However, because it is impossible to budget to pay all the subjects what they choose in each line, the payment is normally made in a drawing. In addition, since the responses could be biased based on the order, the lines may be listed randomly rather than in order as shown in this example. Supplement B: Measuring Personal Discount Rates 23

Table 1.1 Questionnaire to measure personal discount rates Option A (JPY) Option B (JPY) (receive Interest rate (receive today) 7 days later) (annualized %) Choose one option here 10,000 9,981 À10 % A B 10,000 10,000 0 % A B 10,000 10,019 10 % A B 10,000 10,076 40 % A B 10,000 10,191 100 % A B 10,000 10,383 200 % A B 10,000 10,574 300 % A B 10,000 11,917 1,000 % A B 10,000 19,589 5,000 % A B Question: Let us say you can choose between receiving JPY 10,000 today and another amount 7 days later. Please compare receiving JPY 10,000 today (shown as “A”) and receiving the amount speciﬁed on each line in the table below (shown as “B”) and encircle the option that you prefer. Please circle A or B on each of the nine lines Note: Prepared by revising some of the data from the Japan Household Survey on Consumer Preferences and Satisfaction 2005 Chapter 2 Varying Impatience

2.1 Anomalies in Intertemporal Choices

In standard economics, or “neo-classical economics,” discussions have been restricted to the paradigm of the “Discounted Utility Model.” This theory assumes that people maximize the discounted sum of the gratification flows at each point in time, where future gratifications are presupposed to be discounted at a constant rate in any situation and for any intertemporal-choice problem. However, as I discussed briefly in the previous chapter, 40 years of empirical research has shown that a decision-maker’s personal discount rate varies depending on choice conditions (e.g., differing amounts and/or delays) and the context in which the intertemporal-choice problem is framed. If this fluctuation only occurred in excep- tional situations and did not introduce biases into the decision-making process, it would not be a serious problem. However, as I illustrate below, the phenomenon is associated with many, and in some cases very serious, “irrational” behaviors and social phenomena in everyday life. In economics, a phenomenon that the existing standard theory (i.e., the paradigm) cannot explain without positing unrealistic assumptions is called an anomaly (Loewenstein and Thaler 1989). The phenomenon that personal discount rates vary greatly depending on intertemporal-choice conditions and the contexts of those choices is called an intertemporal-choice anomaly or a discounted utility anomaly. In this chapter, I deal with a variety of discounted utility anomalies and attempt to explain examples of erratic human behavior that have puzzled researchers in traditional standard economics. (Note: Self-destructive choices and hyperbolic discounting will be discussed in detail in the next chapter.)

2.2 Smaller Amounts Are Discounted More

2.2.1 The Magnitude Effect

Consider the relation between the magnitude of the value to be discounted and the corresponding subjective discount rate. In many cases, the subjective discount rate tends to be lower when the value to be discounted is higher. This tendency has been observed in several questionnaire surveys and economic experiments. For example, in our 2005 nationwide questionnaire survey, the mean discount rate for USD 100 that will be received in 1 year was 6.7 %, whereas the rate for USD 10,000 that will be received in 1 year was 1.16 %. Similarly, Richard Thaler, one of the founders of behavioral economics, asked undergraduate students at Oregon Uni- versity how high an interest rate they would require in order to wait for 1 year to receive varying amounts of money and found median discount rates of 139 %, 34 %, and 29 % for USD 15, USD 250, and USD 3,000, respectively (Thaler 1981). Uri Benzion estimates a 39.9 % mean discount rate for USD 40 to be received after a 1-year delay and a 20.3 % mean discount rate for USD 5,000 to be received with the same delay (Benzion et al. 1989). This phenomenon (i.e., greater discounting rates for lower amounts) is called the “amount (or magnitude) effect.” These findings show that people can patiently wait for large gratification whereas they cannot, for small gratification. The magnitude effect has been observed in everyday life. People are sometimes willing to pay a high interest rate in order to borrow a small amount of money, such as is often observed in the consumer loan market (this problem is also related to hyperbolic discounting, which is discussed in the next chapter). In addition, when people owe a small amount of money to friends, they often pay back more than is necessary (e.g., by paying more than their share for lunch).

2.2.2 Increasing Proportionate Sensitivity

Why are smaller amounts discounted more intensively? George Loewenstein and Drazen Prelec hypothesize that when people compare two amounts of money, they are interested not only in the relative magnitudes of the amounts but also in the difference (Loewenstein and Prelec 1992). For example, the difference between USD 100 received today and USD 110 received in 1 year is equal to just USD 10, but the difference between USD 1,000 today and USD 1,100 in 1 year is USD 100. Although there is a 10 % difference between the larger and smaller amounts in each case, people are more likely to wait 1 year to receive USD 1,100 than to receive USD 110 (i.e., they will elect to take USD 100 immediately but will wait for USD 1,100). In other words, people decide whether to wait to receive certain amounts of money based on both the rate of interest and the total amount. Yusuke Kinari and his colleagues have provided empirical support for this hypothesis, 2.2 Smaller Amounts Are Discounted More 27 showing that their subjects’ intertemporal choices depended on both the amount and the rate of interest. Moreover, when the amount of interest is experimentally controlled such that only reward magnitude can influence intertemporal choices, the size of the effect decreases by more than half (see Kinari et al. 2009). Results such as Kinari et al.’s raise the following question: Why are people interested in the amount as well as the rate of interest? One hypothesis is that as reward value increases, it has a greater proportional impact on an individual’s gratification. In the context of intertemporal choices, for example, the impact on gratification of a 10 % increase in the amount of interest would be greater when the principal is USD 10,000 than when it is USD 100. Originally described by Loewenstein and Prelec (1992), this property is called increasing proportionate sensitivity (Chapman and Winquist 1998). According to this property, if a decision- maker requests a constant rate of interest in terms of gratification or utility to accept a delay, the interest rate would be lower in monetary terms because the principal is greater, as is the case of the magnitude effect. Although this explanation appears to be plausible on its surface, it merely rationalizes the magnitude effect by presupposing that people’s evaluations are more elastic for greater rewards. In economic terms, this explanation can be restated as that the reward elasticity of the value function is an increasing function of the reward. Moreover, the empirical validity of the property has not been ascertained, and it may contradict “the law of decreasing marginal utility,” which has been empirically validated. This law states that the impact of a marginal increase in reward on one’s utility decreases with an increase in the magnitude of the reward itself. Thus, it may be difficult to construct a behavioral model that can reconcile the requirements of increasing proportionate sensitivity and decreasing marginal utility. Moreover, the increasing proportionate sensitivity of the magnitude effect is not specific to intertemporal choices. For instance, Gretchen Chapman and Jennifer Winquist have shown that the magnitude effect occurs in the domain of tipping for restaurant meals. Their subjects gave a larger percentage tip on small bills than that on large ones (Chapman and Winquist 1998). For findings such as these to be relevant, the same subjects should also display the magnitude effect in intertemporal monetary choice situations. However, the size of the effect is not significantly correlated between the two domains, suggesting that there is an additional mechanism (i.e., other than increasing proportionate sensitivity) that causes the magnitude effect.

2.2.3 Mental Fixed Costs for Waiting

Another reason for the occurrence of the magnitude effect may be that waiting entails a sort of mental fixed cost (Thaler 1981). To exercise self-control and wait for delayed gratification, people have to use mental resources, even when the waited-for reward is small. Unless the amount of interest is large enough to compensate for the mental fixed costs, “waiting” does not pay. In other words, 28 2 Varying Impatience people will choose the immediate gratification of receiving a small amount of money today rather than the delayed gratification of receiving a larger amount in the future because the mental cost of waiting is too high. Due to the fixed-cost nature of waiting, the interest rate that compensates for the waiting costs needs to increase when the amount of delayed money is smaller. The mental fixed-cost hypothesis is persuasive in its explanation of the magnitude effect as considered by Thaler (1981) and Benzion et al. (1989). However, the magnitude effect has also been observed in intertemporal choices when both rewards are received with delays, but there is a longer delay to receive the large reward. For example, in our economics experiments, people display a 19 % personal discount rate on average when asked to choose between USD 35 in 90 days or a certain larger amount in 97 days, whereas they exhibit a 51 % mean discount rate when the choice is between USD 10 and a larger amount. Note that the magnitude effect in this case cannot be explained by the mental fixed-cost hypothesis, because regardless of the option chosen, the decision-maker still incurs a mental fixed cost. In other words, the fixed cost for waiting does not pose an extra burden for the decision-maker when choosing between the larger reward with a longer delay and the smaller reward with a shorter delay. Thus, the mental fixed-cost hypothesis cannot completely explain the magnitude effect.

2.2.4 Mental Accounting

Proposed by Hersh Shefrin and Richard Thaler (1988), the mental accounting hypothesis can also partially explain the magnitude effect. According to this hypothesis, people have various accounts in their mental space, and they sort money into these accounts based on the amount and source of the money. Further- more, the same objective monetary value may be managed differently in different mental accounts. For example, loose change may be sorted into a mental checking account, whereas a big sum may be sorted into a mental savings account. As a result, the costs of delaying receipt of a certain amount of money may depend on how big is the money. In the case of small coins, which are managed in a mental checking account with a 0 % interest rate, the cost of waiting is denial of the gratiﬁcation that would be obtained by immediately spending the money. By contrast, a big sum of money is deposited into the mental savings account that is associated with an interest rate. Thus, the opportunity cost of waiting is the savings interest rate, which may be reasonably low. Accordingly, if spending small coins is attractive enough and hence the opportunity cost of delaying receipt of them is high, people will choose not to wait for a small amount of money even when there is a high interest rate. However, for sufﬁciently larger amounts of money, people will choose to wait under a reasonably low interest rate, as the occurrence of the magnitude effect indicates. 2.3 Gains Are Discounted More Than Losses 29

2.3 Gains Are Discounted More Than Losses

2.3.1 The Sign Effect

The degree of impatience, measured by the personal discount rate, differs between waiting for gains (i.e., positive rewards) and waiting for losses (i.e., negative outcomes). The “gain discount rate” is measured as an interest rate that a decision-maker requires in order to accept a reward delay, whereas the “loss discount rate,” as an interest rate that a decision-maker is willing to pay in order to delay incurring a loss. The gain discount rate tends to be higher than the loss discount rate. As explained in the previous chapter, in our 2005 questionnaire survey, the average personal gain discount rate that is estimated by directly asking people how high an interest rate they require to accept a 1-year delay to receive USD 100 is 1.16 %. In contrast, the corresponding average loss discount rate is just 0.22 %. This gain-loss asymmetry is called the “sign effect.” The empirical validity of the sign effect has been ascertained in both experimental and questionnaire survey studies and in many countries. Intuitively, the sign effect seems to represent people’s tendency to discount future gains more than future losses. In contrast, people tend to evaluate future losses as if they were realized without delay. This tendency is consistent with the observation that many people ﬁnish painful or disliked tasks early rather than engage in procrastination. The sign effect has been observed in health-related intertemporal choices. People tend to feel as serious about pains or ill-health states in the future as they do about current ones, whereas they evaluate the immediate recovery of health more highly than future recovery. In a questionnaire study, Gretchen Chapman reported that college students had a mean discount rate of 150 % when they were asked about waiting to recover over a 1-year period but only a 50 % mean discount rate when they were asked to consider the delay to becoming sick (Chapman 1996).

2.3.2 Decreasing Marginal Utility

In economics, the law of deceasing marginal utility states that the amount of gratification that occurs when there is a marginal increase in the quantity of a consumed good decreases as the overall amount of consumption increases. For example, the first sip of beer is more tasteful than a sip after drinking an entire can. By applying this law to monetary utility, the sign effect can be partially explained as follows. The utility increment that results from a marginal increase in a monetary reward decreases as the monetary reward becomes larger. In addition, the utility decrement that results from a marginal decrease in a monetary reward increases as the monetary reward becomes smaller. Thus, an increase in the monetary reward causes a less than proportionate increase in the decision-maker’s gratification, 30 2 Varying Impatience whereas a decrease in the monetary reward causes a greater than proportionate decrease in gratification. For example, when the receipt of USD 100 becomes USD 110 due to a 10 % interest rate, the corresponding rate of increase in gratification is not 10 %. Thus, a decision-maker who has a discount rate of 10 % in utility terms (i.e., one who demands a 10 % increment in utility when there is a 1-year delay to receive a reward) would ask for an interest rate higher than 10 % (e.g., 11 %) in monetary terms. In questionnaire research and economic experiments, this 11 % interest rate is termed a gain discount rate. The observed gain discount rate is an overestimate of the true discount rate in utility terms. However, when a USD 100 payment increases to USD 110 due to a 10 % interest rate, the corresponding rate of decrease in gratification is greater than 10 %. A decision-maker who has a discount rate of 10 % in utility terms would accept delay only at a lower interest rate (e.g., 9 %) in monetary terms. This loss discount rate (9 %) is an underestimate of the true discount rate in utility terms. In sum, under the law of decreasing marginal utility, the observed gain discount rate (in monetary terms) is an overestimate of the true personal discount rate (in utility terms), whereas the observed loss discount rate is an underestimate. It thus follows that the gain discount rate is higher than the loss discount rate, as in the sign effect. It is not clear, however, whether the law of decreasing marginal utility applies to small amounts of money (i.e., tens or hundreds of US dollars). In the case of everyday consumption goods (e.g., beer), as the quantity consumed becomes larger, the gratification from additional consumption decreases rapidly. However, a USD 1 increment in a monetary amount (in either direction) will not produce noticeable changes to marginal utility.1 Moreover, the sign effect tends to be more salient for smaller amounts of money, which contradicts the law of decreasing marginal utility.

2.3.3 Loss Bias

To explain the gain-loss asymmetry in discounting, one might assume that there is a systematic difference in the way gains and losses are evaluated. For example, people may be more sensitive to losses than to gains. If so, a decision-maker would evaluate a certain amount of interest more seriously when paying it versus when receiving it; thus, the loss discount rate would differ from the gain discount rate. To explain the sign effect, Loewenstein and Prelec assumed the following two biases in loss evaluation (Loewenstein and Prelec 1992):

1 Assuming that the marginal utility of money was constant, Alfred Marshall used it as the numeraire for the measure of value (Marshall 1890). Ono et al. (2004) empirically showed that there was a lower bound for the marginal utility of money, as hypothesized by Ono (1994). 2.3 Gains Are Discounted More Than Losses 31

(1) Loss aversion: The displeasure associated with incurring a loss or making a payment is greater in magnitude than the pleasure associated with receiving the same objective amount. (2) Excess sensitivity to losses: The loss elasticity of gratification is higher than the gain elasticity.2 In property (1), loss aversion is the preference bias proposed by Daniel Kahne- man and Amos Tversky in prospect theory (see Kahneman and Tversky 1979), the empirical validity of which is well established. Property (2) illustrates that the impact on gratification of a 1 % increase in the amount of a loss is greater than the impact of gain. The two properties capture gain-loss asymmetry in a decision- maker’s evaluation. I refer to them as the loss bias. Under the loss bias, a 1 % increase in a future loss due to having to pay interest has a greater impact on gratification than a 1 % increase of future gains due to receiving interest. The result is that the payable interest rate required to defer a loss is lower than the required interest rate to defer a gain, as is observed with sign effect. One important effect of the loss bias is that it reduces intertemporal resource re-allocation between present and future rewards by means of saving and borrowing. For example, saving requires one to forego consuming part of a present resource (i.e., a decrease in present consumption so that there can be an increase in future consumption). With the loss bias, people will evaluate the loss due to the present decrease in consumption as larger than the gain of the future increase in consumption. Thus, people should not be likely to save money for the future unless the interest rate for saving is sufficiently high. In contrast, borrowing is an increase in present consumption at the expense of future consumption. Due to the loss bias, the gain from the present decrease in consumption will be evaluated as lower than the loss of future consumption. Thus, people are not likely to borrow unless the interest rate is sufficiently low. Loewenstein and Prelec called this tendency “borrowing aversion.”

2.3.4 The Sign Effect and Borrowing Aversion

Is the sign effect really associated with borrowing aversion? Can we observe a similar relationship between the sign effect and health-related behavior, as Chap- man suggested, based on a questionnaire survey on hypothetical intertemporal choices related to illness and physical pain (Chapman 2000)? A tentative reply to these questions is shown in Fig. 2.1. Using our 2005 questionnaire survey data, the ﬁgure compares the debtor ratios, obesity rates, and habitual smoker rates between respondents who displayed the sign effect and those who did not. As predicted by

2 The loss (gain) elasticity of gratiﬁcation represents the percentage the gratiﬁcation level decreases (increases) in response to a 1 % increase in a loss (gain). 32 2 Varying Impatience

Sign-Effect Group Non-Sign-Effect Group

27.3% 27.8%

20.9% 21.2% 19.6%

16.2%

Debtor rate Obesity rate Smoker rate

Fig. 2.1 The sign effect and self-destructive choices. Note: the differences between the sign- effect group and the non-sign-effect group are all significant at 5 % significance levels. Source: The Japan Household Survey on Consumer Preferences and Satisfaction, 2005. N ¼ 2985 the theory, the sign-effect group included a smaller proportion of debtors, obese people, and habitual smokers compared with the non-sign-effect group. Particularly noteworthy, 20.7 % of the sign-effect group was debtors, which is nearly 7 percentage points lower than the percentage of the non-sign-effect group (27.3 %). This difference was statistically significant, indicating that the sign effect is indeed negatively associated with borrowing behavior. Although the data described do indicate a relationship between the sign effect and borrowing behavior, this relationship was detected by just examining a simple correlation between the two variables. A more precise analysis that considers additional factors (e.g., gender, age, income, etc.) is warranted. In Chap. 5, I present evidence that the sign effect suppresses behavior that leads to future losses or payments even when these additional variables are included in the analysis.

2.3.5 Delay/Speed-Up Asymmetry

Another anomaly that is thought to be caused by the loss bias described earlier is a behavioral tendency termed “delay/speed-up asymmetry.” This refers to the personal discount rate being differentially affected when the expected delivery time of a reward is changed due to an acceleration or a delay from some pre-scheduled date. 2.3 Gains Are Discounted More Than Losses 33

For instance, suppose that a consumer has ordered a special cellular phone that is scheduled to arrive in 2 months. If the consumer is then told that the phone’s delivery will be delayed by 1 month, he or she would request a price discount on the phone. This price reduction, required by the consumer as compensation for the delay in receiving the reward (the phone), is called the delay premium. In contrast, the consumer would be willing to pay a higher price for the phone if the arrival date is brought forward, for instance, from 3 months later to 2 months later. The cost that the consumer is willing to pay for a decrease in the delay to receiving the reward is called the speed-up cost. Research has indicated that the delay premium tends to be much higher than the speed-up cost. For example, in Loewenstein’s experiments (Loewenstein 1988), high school students exhibited a USD 1.08 delay premium to accept a 3-week delay for the delivery of a USD 7 disk voucher that was originally scheduled to be delivered in 1 week. In contrast, when the original delivery was scheduled for 4 weeks later, the subjects paid a USD 0.25 speed-up cost in order to receive the delivery in 1 week. That is, the speed-up cost was just a quarter of the delay premium. In both of these scenarios, the time span over which the delivery date changed was the same (3 weeks), yet the delay premium was much greater than the speed-up cost. These two values are the result of making a comparison between the subjective value of receiving the reward at the earlier date and that of the delayed date (in this example, after 1 or 4 weeks). According to standard economic theory, individuals will value receiving the reward after the delay (i.e., 4 weeks in this example) lower than they would value receiving the reward at the earlier time (i.e., 1 week) due to discounting of the 3-week longer delay. Thus, the decrement in the present value caused by the additional delay should equal the increment in the present value caused by the speed up. Differently from this prediction, however, the observed asymmetry between the delay premium and the speed-up cost (i.e., the delay/speed-up asymmetry) shows that the delay premium is usually several times larger than the speed-up cost.

2.3.6 The Framing Effect

The puzzling asymmetry between the delay premium and the speed-up cost can be resolved by applying what behavioral economists call the framing effect. When evaluating an item, people tend to compare it with a reference point that is determined by the context or frame that they are experiencing. New items are evaluated in terms of desirability relative to the reference. Thus, the evaluation and the resulting decision depend on the frame of the choice, even when the choice options are essentially the same. In the previous example, when evaluating the cost of the 3-week delay to receive the disk voucher originally scheduled to be delivered in 1 week, people would not simply compare the objective value of the voucher at 1 and 4 weeks. Instead, people would evaluate the net cost and benefit of delayed arrival in comparison to the 34 2 Varying Impatience respective reference values that would have been realized if the voucher arrived at the originally planned time. Figure 2.2a illustrates how the cost and benefit at each point in time are affected by the delay and speed-up of voucher delivery. The benefit flow that would be realized if the voucher had been delivered on the original date represents the reference (see the left flowchart). Given this reference, the voucher’s delay causes

(a)

Evaluated as smaller due to discounting. 1 week later 4 weeks later

1 week later delay 4 weeks later

Evaluated as larger due to the loss bias.

1 week later 4 weeks later

Large delay premium

(b) Small speed-up cost

1 week later 4 weeks later

4 weeks later speed up 1 week later

Evaluated as larger due to the loss bias, and as smaller due to discounting. 1 week later 4 weeks later

Fig. 2.2 The delay premium and the speed-up cost. (a) The delay effect. (b) The speed-up effect 2.4 Choosing Improving Sequences 35 the loss in 1 week but also generates the gain of receiving it in 4 weeks (see the right flowchart). For two reasons, the cost in 1 week would have a higher impact in the present than would the benefit in 4 weeks, which leads to the delay premium. First, because the cost occurs 3 weeks earlier than the gain, the cost is discounted less than the benefit. Second, due to the aforementioned loss bias, a USD 1 cost is evaluated as having a greater magnitude than a USD 1 benefit. Since both of these effects jointly operate to make the delay cost larger relative to the benefit, people cannot accept the delay of the voucher’s arrival without a sufficiently large compensation. This results in the delay premium. In contrast, when the disk voucher is re-scheduled to be delivered 3 weeks earlier, from 4 weeks later (the reference case) to just 1 week later, one gets the value flow of the gain in 1 week followed by a loss in 4 weeks (i.e., see the right panel of Fig. 2.2b). As the gain takes place 3 weeks earlier (hence, is discounted less) than the loss, the speed up of the voucher delivery produces a net gain and leads to the speed-up cost. However, the speed-up cost will not be as large as the delay premium because the gain is evaluated as smaller than the loss due to the loss bias. In sum, in the case of the speed-up cost, the effects of discounting and the loss bias cancel out each other, whereas the two enhance each other for the delay premium. It follows that the speed-up cost is much smaller than the delay premium. As demonstrated in Sect. 3.4, the interest rate for saving tends to be higher than that for borrowing. This phenomenon can be explained in terms of the delay/speed- up asymmetry. Although Fig. 2.2a is used to illustrate the effect of delaying the disk voucher delivery in the previous example, it can also illustrate the effect of delaying the timing of consumption by saving. The right panel can represent the changes to the flow of consumption when people save money a week later and thereby consume an item 4 weeks later (from now). Similarly, the right panel of Fig. 2.2b can illustrate the effect of accelerating the timing of consumption by borrowing. For the same reasons discussed in the voucher example, the savings interest rate (computed as the rate of the delay premium) will be higher than the borrowing interest rate (measured by the rate of the speed-up cost) due to the combined effects of discounting and the loss bias.

2.4 Choosing Improving Sequences

2.4.1 Choice of Gratiﬁcation Sequences

Thus far, we have implicitly assumed that future gratification is discounted compared to present gratification. This presupposes that personal discount rates are positive. However, people often behave in a manner that is inconsistent with this presupposition, as discussed below. Making intertemporal decisions often requires evaluating and comparing alternative sequences of gratifications over time. The chestnut problem faced by the 36 2 Varying Impatience monkeys in the classical Chinese story discussed in Chap. 1 is a typical example. The monkeys who were faced with the problem of choosing either “three chestnuts in the morning and four in the evening” or “four in the morning and three in the evening” have to compare the discounted sums of the two gratifications sequences. Similarly, when an employee chooses a time schedule to be paid a lifetime income, he or she has to evaluate and compare alternative sequences of annual incomes from the current viewpoint. Assuming that the personal discount rate is positive, it is an easy matter to arrange the optimal sequence to receive the fixed lifetime amount; the optimal choice is to receive the larger gratification at the earlier point in time. With respect to the monkey example, those who chose “four chestnuts in the morning and three in the evening” behaved optimally. Unfortunately, however, people often do not behave in such a way.

2.4.2 Choosing the Smaller Lifetime Income

Consider the following question: Q2-1 Suppose that the government provides you with what is required to live (e.g., residence, food, clothing, etc.) for 10 years. The sum of the value of the provided goods is fixed. From among the following three patterns, which would you choose? (A) A gradually increasing standard of living from the lowest level (B) A constant standard of living (C) A gradually decreasing standard of living from the highest level In this scenario, because the total amount of goods provided is the same regardless of the pattern chosen, a decision-maker cannot consume more later by saving over the first few years. Thus, the real interest rate is 0. A decision-maker who has a positive discount rate should choose option (C), in which higher standard of living can be enjoyed earlier. However, research suggests that many people choose options (A) or (B). For example, in our 2005 survey, 30 % and 65 % of the respondents chose options (A) and (B), respectively. In other words, only 5 % of the respondents indicated that they would behave in accordance with the theory’s predictions. George Loewenstein and Nachum Sicherman asked similar questions to 80 adults who visited the Museum of Science and Industry in Chicago, Illinois (Loewenstein and Sicherman 1991). The respondents were shown a figure similar to Fig. 2.3 and were asked to choose one of two wage-income profiles. Each profile covered a 6-year period, and the total wages earned were equated across the patterns (i.e., a 0 % interest rate). Pattern 1 depicted a decreasing wage profile, and pattern 2 depicted an increasing wage profile. If a respondent had a positive personal discount rate, then the discounted sum of wage flows in pattern 1 is larger than that in pattern 2. For example, with a 10 % discount rate, the discounted sum of wage flow is USD 120.8 thousand for pattern 1 and USD 118.7 thousand for 2.4 Choosing Improving Sequences 37

Wage (thausand USD) Wage (thausand USD) 27.0 27.0 26.2 26.2 25.4 25.4 24.6 24.6

23.8 23.8

23.0 23.0

Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Pattern 1 Pattern 2

Fig. 2.3 Choice of wage-income profiles (thousand USD). Note: Illustrated using the same data as in Loewenstein and Sicherman (1991) pattern 2.3 Although the present value of pattern 2 was USD 210 smaller than that of pattern 1, more than 80 % of the respondents chose pattern 2. People thus tend to choose the improving sequence of gratifications even when its total amount is somewhat smaller than in the alternative cases. For instance, in reference to the monkey example, if people had to choose the sequence of chestnut delivery for the monkeys in “Liezi,” they would choose “three in the morning and four in the evening” instead of “four in the morning and three in the evening.” With a positive discount rate, people would prefer a decreasing sequence of gratifications that is less discounted (i.e., one in which greater gratification comes earlier). Thus, the observed tendency for people to prefer the “improving sequence” suggests that the personal discount rate is negative. For this reason, I regard the issue as an intertemporal-choice anomaly. Note that I have used the term “improving sequences” instead of “increasing” or “upward-sloping” sequences. The reason is that when choosing sequences of displeasures such as physical pains and dissatisfactions, the same tendency to choose the sequence that improves the situation should be observed. Thus, the term “improving sequence” can accommodate both increasing and decreasing trends. For example, Chapman asked respondents to consider the unpleasant situation of having to contend with a headache for a period of time (Chapman 2000). The respondents were asked to choose between two options: one that involved a downward-sloping sequence (i.e., a gradual reduction in pain) and one that involved an upward-sloping sequence (i.e., a gradual increase in pain). For both options, the total duration and level of pain were equated. The results indicated that more than 80 % of the respondents preferred the downward-sloping sequence across a wide range of periods (e.g., an hour, a year, 5 years, or 20 years). If future headaches were discounted at a positive rate, then they should have preferred an upward-sloping sequence in which the stronger headache is experienced later. Thus, these results also imply that the respondents have negative personal discount rates.

3 The present values are computed as 27 þ 26:2 þ 25:4 þÁÁÁþ 23 ¼ 120:9 for pattern 1 and 1þ0:1 ðÞ1þ0:1 2 ðÞ1þ0:1 5 23 þ 23:8 þÁÁÁþ 27 ¼ 118:7 for pattern 2. 1þ0:1 ðÞ1þ0:1 5 38 2 Varying Impatience

2.4.3 The Seniority-Based Wage Puzzle

The tendency to prefer improving sequences of gratification is important in understanding why the seniority-based wage contract is widespread. In the seniority- based wage contract, the employee’s wage is contracted to go up as seniority at the firm increases, regardless of whether labor productivity increases. From the viewpoint of economic rationality, the wage rate should be equal to the value of the work produced. Thus, the seniority-based contract seems to contradict economic rationality. However, the use of this contract makes sense if considered from the perspective that employees prefer improving sequences related to their standard of living. Economics researchers have explained the prevalence of the seniority-based wage contract in two ways. The first is based on the firm-specific human capital hypothesis. By adopting the seniority-based wage contract, a firm can provide workers with an incentive to remain with the same firm long enough to learn the technologies of production and administration and thereby accumulates human capital that is specific to the firm’s activities. In this case, the human capital is firm-specific such that it does not benefit the employee to leave the firm. In contrast, general human capital can be applied non-exclusively to activities at other firms, giving workers an incentive to accumulate such human capital at their own costs. In this case, the firm cannot hold workers at the firm by offering the upward-wage profile. Only when the required human capital is firm-specific do firms have an incentive to incur the training cost for workers and find ways to keep them in their employ so as to recoup the initial training costs. The second explanation can be described as the agency-cost hypothesis. If young workers fail to produce a sufficient work product while under a seniority-based wage contract, they would lose their opportunity for higher future wages. By creating a contract in which senior workers can be paid higher than what productivity would dictate, firms can discourage junior workers from shirking their responsibilities. Although these two hypotheses have face validity, they cannot completely explain the widespread occurrence of the seniority-based wage contract. Robert Frank and Robert Hitchens used commercial airline pilots and intercity bus drivers as examples (Frank and Hutchens 1993). In these professions, the wage profiles are upward sloping but cannot be explained by either the firm-specific human capital hypothesis or the agency-cost hypothesis. The former does not apply because the human capital required to be pilots and bus drivers is not firm-specific. The latter also does not apply because carelessness (i.e., low productivity) has serious risks for pilots and bus drivers; in other words, even without an increasing-wage contract, they have an incentive to operate airplanes and buses safely. It follows that in these professions, the preference for the improving sequence of gratifications would be a predominant explanation of the seniority-based wage contract. 2.4 Choosing Improving Sequences 39

2.4.4 Improvements Yield Gratiﬁcation

Why do people prefer improving sequences? One reason may be that people savor the anticipation of future pleasure and avoid the anxiety associated with future displeasure. By scheduling an event associated with larger gratification at a delay, people can enjoy the happy feeling of anticipation. For instance, according to this idea, when planning a travel vacation, people would schedule a pleasurable event at a later part in the vacation rather than at the beginning. In contrast, for events associated with displeasure or pain, people would reduce their anxiety by scheduling the event earlier rather than later. The anticipation effects of future pleasure and anxiety on intertemporal choices have been considered by classical economists. In the seminal book Theory of Political Economy, William S. Jevons discusses why humans consider future outcomes even though they tend to be selfish and myopic in the present. He attributes this tendency to people’s inclination to pursue “pleasures from anticipation.” Another reason people prefer improving sequences may be that they incorporate the future effect of habituation. When an individual has habituated to a past pleasure or displeasure, a newly experienced pleasure or displeasure is felt at the habituated level. Thus, people may arrange the gratification time schedule by incorporating the effects of habituation. For example, in the case of the downward-sloping wage profile of pattern 1 in Fig. 2.3, each year, workers experience smaller gratifications than the habituation level that was formed by higher incomes in the previous years. By choosing pattern 2, more than 80 % of Loewenstein and Sicherman’s respondents indicated that they would prefer larger gratifications than the habituated reference level that was formed by lower wages in the previous years (Loewenstein and Sicherman 1991). Similarly, in Chapman’s survey (Chapman 2000), more than 80 % of the respondents indicated that they would reduce a headache each day by incorporating the habituation effect of the experiences of a stronger headache on the previous days.

2.4.5 Savoring and Habituation

To check whether the factors described above actually account for people’s preferences for improving sequences, we asked survey respondents how often they liked to delay gratiﬁcation so as to savor it and whether they were aware of the future habituating effect of their current standard of living. The survey respondents were asked to respond on a 5-point scale to indicate how precisely the following two statements described them: Q2-2 I like to keep pleasures for later enjoyment. Q2-3 Once I have experienced a high standard of living, it is painful to reduce it. Q2-2 was meant to elicit the respondents’ preference for savoring, and Q2-3 was used to estimate their level of awareness of habituation. 40 2 Varying Impatience

Panels (a) and (b) in Fig. 2.4 illustrate how the proportion of those who choose improving sequences in Question Q2-1 of Sect. 4.2 varies as the degree of preference for savoring rises and as the degree of awareness of habituation rises, respectively. The respondents who had stronger preferences for savoring and those who had higher awareness of the habituation effect were more likely to prefer the improving sequence, as predicted by the theory. Although these data indicate a simple association between the two variables, the results are robust even when the effects of other factors (e.g., age, the discount rate, and income) are considered (see the line graphs).

Fig. 2.4 Savoring, habituation, and preference for improving sequences. Note: (a)Savoringand preference for improving sequences. (b) Awareness of habituating effect and preference for improving sequences. Source: The Japan Household Survey on Consumer Preferences and Satisfaction, 2005 2.4 Choosing Improving Sequences 41

2.4.6 Sequence as Context

The preference for improving sequences implies that people apparently have negative discount rates. However, as seen from the discussions regarding Fig. 2.4, a more plausible account may be that although people have positive discount rates, they prefer improving sequences in order to savor anticipated gratifications and/or to enjoy increments in gratifications above the habituated level. If so, people should more strongly prefer earlier gratifications due to positive discounting in situations in which the decision is an independent choice between outcomes at two points in time and so that neither the effect of savoring nor habituation can operate. In this sense, the intertemporal choice will depend on whether the choice is framed over the sequence of outcomes or over outcomes at two independent points of time. For example, suppose an individual wants to watch a movie but has to return the DVD in 3 days. When will he or she watch it? If this person has nothing else to do, he or she may watch it today. However, if the person has to finish a task within 3 days, he or she is likely to first finish the task and then watch the movie. The choices could be described as follows. When the person considers only the timing of watching the movie, he or she can obtain greater gratification by scheduling it sooner (i.e., that day) because the effect of positive discounting will dominate the preference for savoring. In contrast, if the person has to complete an onerous task, the choices would be made over the sequence of watching the movie and finishing the onerous task. Then, by incorporating the habituation effect (as well as the savoring effect), he or she would watch the movie after finishing the task. In this way, the person can enjoy increments in gratification from the (negative) gratification of finishing the task (e.g., on day 1) to the (positive) gratification of watching the movie (e.g., on day 2). This causes the preference for improving sequences. Therefore, people are more likely to delay gratifications when making choices over sequences of gratifications compared to independent gratifications. An interesting questionnaire study by Loewenstein and Prelec provided empirical support for this hypothesis (Loewenstein and Prelec 1991). The respondents were Harvard University undergraduates who reported preferring a free dinner at a fancy French restaurant to one at a fancy Greek restaurant. The respondents were asked the following two questions: Q2-4 Which would you prefer if both were free? (A) A dinner at a fancy French restaurant in 1 month (B) A dinner at a fancy French restaurant in 2 months Q2-5 Which would you prefer if both were free? (C) A dinner at a fancy French restaurant on Friday in 1 month and a dinner at a Greek restaurant on Friday in 2 months (D) A dinner at a fancy Greek restaurant on Friday in 1 month and a dinner at a French restaurant on Friday in 2 months 42 2 Varying Impatience

For Question Q2-4, 80 % of the respondents reported preferring the French dinner in 1 month rather than in 2 months, whereas for Question Q2-5, more than 50 % reported preferring the French dinner in 2 months (with the Greek dinner in 1 month) to the French dinner in 1 month (with the Greek dinner in 2 months). That is, as hypothesized, the students tended to prefer earlier gratification when the decision was framed as a separate intertemporal-choice problem, whereas they tended to delay greater gratification to after a smaller one when the decision was framed as a choice of sequences. By incorporating the habituation effect, they seemed to prefer increments in gratification from early but small gratifications (the Greek dinner) up to later but larger gratifications.

2.5 Conclusions

I have discussed how and why time discounting depends on the condition and frame of the intertemporal choices. First, personal discount rates tend to be greater for larger rewards; in other words, people can wait more patiently for larger gratifications. This “magnitude effect” can be explained by increasing proportionate sensitivity, mental fixed costs of waiting, and mental accounting. Second, the discount rate for future losses is likely to be lower than that for future gains. This “sign effect” prevents decision-makers from choosing behavior that causes future losses, such as excess borrowing, smoking, and overeating. A similar gain-loss asymmetry in time discounting is observed as the delay/speed-up asymmetry: the delay premium (i.e., the reduction in price a decision-maker requires to accept a delay to receive a reward) tends to be much higher than the speed-up cost (i.e., the amount a decision-maker is willing to pay in order to receive a reward sooner). These gain-loss asymmetries are attributed to loss biases in reward evaluation that result from loss aversion and excess sensitivity to loss. The widespread tendency for the borrowing interest rate to be much higher than the lending interest rate—and the resultant behavioral tendency toward borrowing aversion—is a typical example of delay/speed-up asymmetry under the loss bias. Third, when choosing a sequence of gratifications, people tend to prefer an improving sequence. In particular, people prefer increasing profiles to decreasing ones for positive outcomes but decreasing profiles for negative outcomes. Even with positive discounting, the preference for improving sequences can be explained by the preference for savoring future pleasures, the aversion to anxiety for future displeasures, and the attempt to increase gratification from the habituated level. Whether a person chooses immediate gratification or delayed gratification in an intertemporal decision depends on whether the intertemporal choice is framed as an independent choice between outcomes at two points in time or as a choice between sequences of outcomes over more than two points in time. Chapter 3 Hyperbolic Discounting and Self-Destructive Behaviors

3.1 Introduction

In the previous chapter, I explained that people’s degrees of impatience are affected by various choice conditions and frames, all of which cause a variety of anomalous phenomena in their intertemporal choices and behaviors that traditional economics cannot explain. In this chapter, I shall deal with hyperbolic discounting or present bias. As explained in Chap. 1, under hyperbolic discounting, more immediate gratiﬁcations are discounted at higher discount rates, and people are less patient in waiting for less delayed rewards. Hyperbolic discounting is the key bias in time discounting; in understanding it, one can better understand the mechanism of various self-destructive behaviors such as undersaving, overborrowing, overeating and obesity, smoking and other addiction-related behavior, and procrastination. I shall ﬁrst discuss in detail what hyperbolic discounting is; from there, I will clarify its behavioral implications and thereby uncover the mechanism underlying various self-destructive behaviors.

3.2 More Impatient for More Immediate Gratiﬁcation

3.2.1 Proximal Future Choice and Distal Future Choice

Any intertemporal choice problem, be it a saving/consumption choice problem or health-related decision-making, necessarily takes the form of a problem of choosing between tradeoffs between small but immediate gratification and larger but later gratification (e.g., between USD 100 in 1 month and USD 110 in 4 months). In decision-making, subjective discount rates play a key role; people who discount delayed gratification with higher subjective discount rates are more present- oriented and less patient and hence prefer smaller but sooner gratification.

© Springer Japan 2016 43 S. Ikeda, The Economics of Self-Destructive Choices, Advances in Japanese Business and Economics 10, DOI 10.1007/978-4-431-55793-7_3 44 3 Hyperbolic Discounting and Self-Destructive Behaviors

Fig. 3.1 The subjective discount rate is higher for a more immediate future choice: x > y

With a positive discount rate, gratification with a certain length of delay (e.g., 4-month delay) is evaluated as having less value than the same amount of gratification with a shorter delay (e.g., 1-month delay). Would the relative values of the two gratifications with different delays (e.g., 1- versus 4-month delay) be the same if the difference in the length of delay (e.g., 3 months) were the same? More clearly, in Fig. 3.1, is the discount rate applied to discount a gratification with a 4-month delay by 3 months to the value of 1 month later also applied to discount a gratification with a 6-month delay by the same 3 months to the value of 3 months later? As one of the most salient features of time discounting, it is known that personal discount rates tend to be higher for more proximal future choices; hence, people become more present-oriented and therefore less patient in the face of tradeoffs involving more immediate gratification. For example, in a nationwide Internet survey in 2010 (the Japan Internet Survey on Preferences Relating to Time and Risk 2010), we asked each of the 2,386 respondents how much interest he or she would request so as to accept a 1-week delay in receiving USD 10 that he or she had been initially scheduled to receive on that day and also so as to accept a delay of the same duration in receiving the same amount of money that he or she was initially scheduled to receive in 1 year. As shown in Fig. 3.2, the elicited personal discount rates, as either means or medians, are much higher for the intertemporal choice between today versus a week later than for that between a year later versus a year plus a week later. In total, 44.8 % of the respondents revealed higher discount rates for the “today” question than for the “1 year later” question. The tendency for the personal discount rate to be higher for more immediate future choices is called “hyperbolic discounting.” The precise meaning of this mathematical terminology will be explained later. The same discounting bias has been termed as the “present bias” (Frederick et al. 2002) or the “immediacy effect” (Keren and Roelofsma 1995). It is also referred to as the “common difference effect,” because with hyperbolic discounting, the discount rate increases as the two 3.2 More Impatient for More Immediate Gratification 45

Elicited discount rate (%)

49.1%

30.7%

15.0%

2.5%

Today 1 year later Today 1 year later Means Medians

Fig. 3.2 Higher discount rates for more immediate future choices. Note: the discount rates are elicited as required interest rates to accept a 1-week delay in receiving USD 10. The differences in means and medians are significant at the 1 % and 5 % significance levels, respectively. Source: The Japan Internet Survey on Preferences Relating to Time and Risk 2010. N ¼ 2,386 points in time of reward realization become equally sooner with the difference in delay being fixed (Loewenstein and Prelec 1992).

3.2.2 Exponential Discounting and Hyperbolic Discounting

You can see how odd hyperbolic discounting is, if you think about interest rates related to bank deposits; the same interest rate would be applied to term deposits with the same maturity (e.g., 1-year maturity), regardless of when the deposit is made (e.g., whether you start it today or 3 months later), unless the interest rate varies due to changes in market conditions. This implies that if you were to behave like a banker, you would apply the same discount rate per period of time to any future amount of money (i.e., to either an amount of money in 1 year or another in 1 year and 3 months). This type of discounting is called “exponential discounting.” The terminology can be understood if you recall the arithmetic used to compute the initial principal amount of money needed to attain a certain amount of money at a certain future point in time. Consider 1-year compounding. Let r denote the annual interest rate, a deposit of A will be compounded to (1 þ r)TA in T years. Conversely, to attain A in T years, one must deposit [1/(1 þ r)]TA this year. That is, a value in T years can be converted into the present value by multiplying it by [1/(1 þ r)]T. The multiplier for 46 3 Hyperbolic Discounting and Self-Destructive Behaviors

Discounting the amount of the T-period future into the present value :

(1) Exponential discounting 1 = , >0 1+

(2) Hyperbolic discounting 1 = , >0 1+

Fig. 3.3 Exponential discounting and hyperbolic discounting discounting, expressed as a function of the delay T, is called a “discount function.” In the present case, the discount function is given as an exponential function of period T, [1/(1 þ r)]T (for a more formal expression, see item (1) in Fig. 3.3). The way of discounting is thus referred to as “exponential discounting.” Figure 3.4 illustrates the relation between discount function values, denoted along the vertical axis, and delays to reward realization, denoted along the horizontal axis, in the case of exponential discounting. As a more distant future reward (i.e., a more delayed reward) is discounted more, the discount function is downward sloping. The discount function equals 1 when the delay T is 0, reflecting that a reward that is realized today is not discounted. The discount rate determines the percentage decrease in the value of the discount function for one unit-period increase in delay. For exponential discounting, the discount rate is constant, and so in Fig. 3.4, the unit-period increases in delay always cause a constant percentage decrease in the discount function value. More specifically, with a constant discount rate r, the relative present value of USD 1 with τ a T-year delay and the same amount with a (T þ τ)-year delay equals (1 þ r) — which depends solely on the difference in delay τ, but not on T. This reflects the property of exponential discounting that any future values, whether immediate or distant, are discounted by the same discount rate, as in the banker’s way of discounting. In standard economics, so as to simplify the theoretical analysis of consumer behaviors, people have been assumed to be exponential discounters. The assumption actually simplifies the discussion; otherwise—that is, if the degree of impatience (i.e., the subjective discount rate) which is applied when making a future consumption/saving plan for a year starting from today differs from that which was applied when it was made last year—the two plans would become inconsistent as time passes. By assuming exponential discounting, researchers can concentrate on discussing the issues of national savings, economic growth, and economic development without being bothered by the cumbersome inconsistency problem. However, people’s actual discounting does not take such a convenient form; a more immediate future gratification is more intensely discounted. Such dependence 3.2 More Impatient for More Immediate Gratification 47

Fig. 3.4 The discount function under exponential discounting. The case of a 5 % discount rate of the discount rate on the delay of gratification is known to be well described by specifying the discount function in terms of a hyperbolic function of delay T, = 1/(1 þ aT), a > 0, or more generally in its powered form,fg 1=ðÞ1 þ aT b a, b > 0, where the hyperbolic function of variable T is a function that contains T in the denominator (Loewenstein and Prelec 1992). For exponential discounting, the discount function is an exponential function of delay, whereas for hyperbolic discounting, it is given as a hyperbolic function of delay. To be rigorous, because hyperbolic discounting is defined using a mathematical model, whether or not people’s discounting is hyperbolic should be detected by checking whether their discounting actually satisfies the underlying mathematical formulation. However, the term “hyperbolic discounting” is typically used inter- changeably with “present bias” and “immediacy effect” to express the property wherein more immediate future gratification is discounted at a higher discount rate, without checking whether the resulting discount function is a rigorous hyperbolic discounting function of delay. In this book, I use the term “hyperbolic discounting” in the broad sense. Incidentally, the term “hyperbolic” is used to describe a person with hyperbolic discounting; a hyperbolic consumer is a consumer who evaluates future gratification with hyperbolic discounting. Similarly, an exponential person is one who follows exponential discounting. Figure 3.5a compares the discount functions under exponential and hyperbolic discounting. As in Fig. 3.4, the discount function under hyperbolic discounting satisfies the basic property that the discount function declines from 1 as the delay increases from 0. The discount function schedule under hyperbolic discounting is more bowed than that under exponential discounting, so that its rate of decline increases as the delay increases. When the delay is short, as it increases, the value of the discount function under hyperbolic discounting declines more steeply than under exponential discounting; meanwhile, when the delay is long, the rate of decline in the discount function value due to a marginal increment of delay is smaller for hyperbolic discounting than for exponential discounting. 48 3 Hyperbolic Discounting and Self-Destructive Behaviors

(ａ) Discount function value Exponential discounting Hyperbolic discounting １ Quasi-hyperbolic discounting

Delay T

(ｂ) Discount rate 30% Exponential discounting Hyperbolic discounting 25% Quasi-hyperbolic discounting

20%

15%

10%

0% Delay T

Fig. 3.5 Exponential discounting, hyperbolic discounting, and quasi-hyperbolic discounting. (a) Delay and discount function value. (b) Delay and discount rates

The differences in the discount function schedules of the two discounting cases, illustrated in Fig. 3.5a, reflect the difference in how the discount rate relates to the delay. It is to be recalled that the discount rate equals the percentage decline of the discount function due to a unit-period increase in delay. Fig. 3.5b depicts the schedules of the discount rates that correspond to the discount function schedules in Fig. 3.5a. It shows that for exponential discounting, the discount rate is constant for any delay, while for hyperbolic discounting, it decreases (increases) as the delay 3.2 More Impatient for More Immediate Gratification 49 increases (decreases). That is why the hyperbolic discounting model is used to describe how people tend to be less patient in awaiting more immediate gratification. Figures 3.5a, b also depict the case of “quasi-hyperbolic” discounting, the simplest model of present bias. Quasi-hyperbolic discounting is a hybrid of exponential discounting and hyperbolic discounting; its discount function for a T-period delay is given by βδT, where 0 < β 1 and 0 < δ 1. The part δT of the discount function represents the exponential-like discounting in which discounting is inten- sified exponentially as the delay increases. Different from exponential discounting, quasi-hyperbolic discounting discounts future gratification additionally by multiplying β irrespective of how far into the future it is. Note that β does not affect the relative values of gratifications in two different points in future time (e.g., tomorrow and the day after tomorrow). In contrast, when evaluating the relative values of gratification in the present time and in a future point in time (e.g., today and tomorrow), the future gratification is discounted by βδT—that is, it is discounted more intensively by factor β. These properties indicate that present gratification is evaluated particularly high relative to a delayed gratification, compared to when a delayed gratification is being evaluated more highly than the same amount of gratification, albeit more delayed. Quasi-hyperbolic discounting describes people’s present bias in this simplest manner. As illustrated in Fig. 3.5b, the rate by which to discount a gratification one period ahead in the present time is higher, as in hyperbolic discounting, than that in later periods; meanwhile, the per-period discount rate is flat for any future period, as in exponential discounting.

3.2.3 The Matching Law

The hyperbolic feature of time discounting was discovered by psychologists at Harvard University through experiments that made use of pigeons and other animals. Richard Herrnstein and his colleague summarized their experimental results with pigeons through a simple formula that related the subjects’ valuation of rewards, measured in terms of the relative frequencies of rewards chosen from alternatives, to the probability of reward realization, the amount of reward, and the time at which each reward was due (i.e., delay). The formula, called “the matching law,” describes subjects’ preference as being proportional to the probability and the amount of reward realization and inversely proportional to delay (Herrnstein 1961).1 The validity of the law was ascertained for the cases of cows (Matthews and Temple 1979) and monkeys (Woolverton and Alling 1999), among others.

1 For two alternative rewards A and B with different magnitudes RA, RB and different delays TA, TB, a simple version of the matching law describes relative preferences for A over B, VA/VB,as VA=VB ¼ KRA TB=ðÞRB TA , where K is a positive constant. 50 3 Hyperbolic Discounting and Self-Destructive Behaviors

George Ainslie (1974) then found an important implication of the matching law: the observed inversely proportional relation between the delay of reward realization and the preference for reward fits well to a hyperbolic curve when graphed; as such, decision-makers temporarily behave in an inconsistent manner. He proposed the hyperbolic discount function model as an alternative to the exponential discount function model. Many subsequent experiments have confirmed that the hyperbolic discount model is valid with various animal subjects. For example, James Mazur (1987) estimated the discount function curve for pigeons and found that it satisfies the mathematical features of hyperbolic discounting. The hyperbolic feature of time discounting is thus not limited to humans but observed widely in animal behavior. This implies that the feature might not be simply a personal attribute that is formed by certain cultural factors but is rather a more robust tendency based on some physiological and neuroscientific factors. I shall return to this point at the end of this chapter.

3.3 Inconsistent Choices

3.3.1 Dual Personality

As seen with various datasets, it may be true that people tend to be “caught” by immediate gratification and to discount the near future intensely. Nonetheless, they do not necessarily completely neglect the distant future. People sometimes overeat for immediate gratification but concurrently make a savings plan for post- retirement life, 10 years into the future; others may stay up drinking until late at night but prepare for examinations over a course of several years; and still others may buy luxurious clothing on an installment plan, even as they simultaneously participate in installment savings plans. In this way, each person has a dual personality wherein he or she discounts the near future intensely but evaluates the distant future highly. Although the exponential discounting model is easy to work with, it merely describes a banker’s mathematical way of evaluating future values in a consistent way; it cannot take into account the dual personality feature of time discounting. As shown in Fig. 3.5b, hyperbolic discounting—under which immediate future gratifications are discounted intensely, whereas distant future gratifications are evaluated at lower discount rates—is very suitable for describing the dual personality. For a numerical example, consider a person who discounts a gratification that will be realized tomorrow with a discount factor of 0.998, whereas the corresponding daily discount rate is about 0.2 %. It may not be unrealistically high, because some people would prefer USD 100 today to USD 100.02 tomorrow. If the person is an exponential discounter and discounts any future values with the same daily discount factor, irrespective of the length of delay, by how much will he or she discount gratification in 1 year or in 10 years? According to the definition of 3.3 Inconsistent Choices 51

“exponential discounting,” a future gratification is discounted by multiplying 0.998 for each day, so that the discount factor for a 1-year delay equals 0.998365 ¼ 0.482; gratification in 1 year is devalued by more than one-half. In the same way, gratification in 10 years is devalued by multiplying 0.9983,650 for each day. The result is nearly 0: the gratification in 10 years is neglected almost completely. In this way, exponential discounters who discount tomorrow will, in decision-making, neglect outcomes in 10 years, even if the daily discount rate is realistically low. Conversely, an exponential discounter who highly evaluates a gratification in 10 years (e.g., with a discount factor of 0.8), rather than neglect it, does not discount gratification tomorrow because his or her daily discount factor is almost equal to 1 (i.e., 0.81/3,650 ¼ 0.99993). Indeed, such a person does not care whether gratification is realized today or tomorrow. In this way, the exponential discounting model cannot describe people’s dual personality in discounting the near future intensely (e.g., with a discount factor of 0.998 for tomorrow) while evaluating the distant future highly (e.g., with discount factor of 0.8 for a 10-year delay). The (quasi-)hyperbolic discount model, however, can. Consider a quasi- hyperbolic discounter with the daily discount function βδT. Then, the dual personality of discounting tomorrow with the discount factor of 0.998, while evaluating the distant future with the daily discount factor of 0.8, can be described by setting β and δ to equal 0.998 and 0.99994, respectively. It would be easy to ensure that the daily discount factor for tomorrow indeed equals 0.998 (i.e., 0.998 Â 0.999940) and that gratification in 10 years’ time is 0.800 (i.e., 0.998 Â 0.99943,650). To be more precise, various empirical datasets indicative of hyperbolic discounting should be considered reflections of the human dual personality.

3.3.2 Patient Plan with Impatient Behavior

Under hyperbolic discounting and hence the resulting ambivalent predilection, people tend to behave in inconsistent ways. Hyperbolic discounters tend to behave impatiently for immediate gratiﬁcation and at high discount rates even though they previously planned to behave patiently over that period at lower discount rates. Let us look at Fig. 3.2, where a respondent who had been scheduled to receive USD 10 in 3 months will accept a 1-week delay with USD 0.91 interest; that person, however, would not wait the same length of delay for the same amount of money that he or she had been scheduled to receive today unless compensated by USD 1.01 or more. Similarly, a person can make a perfect plan to start a diet in 1 month. However, as that 1 month passes, that person would ﬁnd the diet too strict to carry out and would not be able to resist changing the plan to a much easier one. The phenomenon is similar to what we experience in comparing height between a short and distant tree and a taller and more distant building. Figure 3.6a illustrates this. When one looks at them in the distance, the tall building naturally looks taller than the tree. When looking at them from a closer distance, however, the tree looks taller than the building. The same can be seen in temporal evaluations in the case of 52 3 Hyperbolic Discounting and Self-Destructive Behaviors

Fig. 3.6 Time-inconsistent choices under hyperbolic discounting. (a) Sooner gratifications look more tempting. (b) Preference reversal hyperbolic discounting, if the close short tree and the distant tall building are interpreted as an imminent small gratification and a longer delayed larger gratification, respectively. Figure 3.6b illustrates the inconsistent evaluation under hyperbolic discounting, where the horizontal and vertical axes represent time and the current subjective value, respectively. Reward RS represents a short-run gratification (e.g., eating a sweet) that is obtained at an early point in time, ts; meanwhile, RL is a greater long- run gratification (e.g., good health) that is realized with a longer delay at time tL. The two discounted-value curves indicate how highly the two rewards RS and RL are evaluated at each point in time. Due to the effect of discounting, the curves are 3.3 Inconsistent Choices 53 upward sloping; the rewards are more highly evaluated as the due dates draw closer. The long-run reward is larger but more delayed than the short-run one. By taking the tradeoff into account, the decision-maker chooses the more preferable of RS and RL at each point in time. As time passes from the initial point in time 0, the decision- maker moves rightward along the horizontal axis, and the present values of “cake” and “health” go up along the discounted-value curves. While the time interval to— and hence the delay of—reward realization is sufficiently long, the gratification RL of “health” is evaluated more highly than the gratification RS of “cake.” However, after time t*, at which the two curves cross, the “cake” becomes preferable to “health.” After all, the decision-maker would eat cake at the sacrifice of the greater long-run benefit of health, even though he or she planned to pursue the long-run gratification of health until time t*. That is, the preferences reverse over time. This phenomenon is called “preference reversal.” With preference reversal, initially scheduled behavioral plans become inconsistent as time passes. Even when people make a wonderful but challenging plan to diet, they often give up on it as time passes and revise it to an easier one that accommodates more immediate but smaller gratifications. Similar examples include scrapping a smoking moderation plan before or on the way to carrying out the plan, binge shopping by postponing a great savings plan for retirement, changing a study plan in favor of various leisure activities, and so on. In short, preference reversal occurs whenever one is faced with a conflict between a plan to pursue a great and long-delayed gratification and the temptation of a more immediate but smaller gratification. Note, however, that in the conflict between health (i.e., a great and long-delayed gratification) and cake (i.e., a sooner but smaller gratification), choosing “cake” may not in itself be problematic. Some people make eating such a priority that they would rather die than go on a diet. Some other people would prefer developing cancer to quitting smoking. They just follow their own preferences. Insofar as their decision-making is rational, their choices may not be problematic. The true problem with hyperbolic discounting does not lie in the fact that hyperbolic discounters prefer an immediate but smaller gratification to a larger but delayed gratification; rather, the problem lies in that they reverse their previous choice of a great long-run gratification in favor of a sooner but smaller gratification as time passes, and they are exposed to the temptation of an imminent gratification. Such inconsistency that occurs over time is called “time inconsistency.” Hyperbolic discounting leads us to make time-inconsistent, self-destructive decisions. In standard economics, the problem of time-inconsistent decisions and resulting self-destructive behavior has been left unexamined because exponential discounting has been presupposed the culprit. In the case of exponential discounting, a person who prefers “health” to “cake” at one point in time consistently evaluates “health” more highly than “cake” before and after that time (see Fig. 3.7a). Thus, inasmuch as external environments do not change, one will never change a plan to pursue “health” in favor of “cake” just before carrying it out. The same is true of those who prefer “cake” to “health” at a point in time (see Fig. 3.7b). The preference order, wherein “cake” is preferred to “health,” will remain 54 3 Hyperbolic Discounting and Self-Destructive Behaviors

Fig. 3.7 Time-consistent choices under exponential discounting. (a) “Health” is consistently chosen. (b) “Cake” is consistently chosen consistent over time. Hence, the plan to eat “cake,” scheduled at a point in time, will certainly be carried out as planned. This consistency property under exponential discounting corresponds to the fact that if one were to deposit a larger amount of money into account A than into another account B at a point in time, the sum of the principal and interest will be deﬁnitely larger in account A than in B before and after that time so long as the interest rates are the same. 3.3 Inconsistent Choices 55

3.3.3 Procrastinating Tasks and Preproperating Leisure

Hyperbolic people typically tend to procrastinate onerous tasks and instead preproperate (i.e., accelerate the schedule of) joyful leisure. Consider the dilemma of finishing a homework assignment during a vacation. Before the vacation starts, one may plan to finish it in the first or second week of the vacation. However, the person’s degree of impatience increases when the vacation starts, and he or she ends up putting off doing the assignment and instead brings forward the date of leisure. As a result of the successive occurrence of such preference reversal, he or she may be left with an assignment that remains unfinished until the deadline. The tendency among hyperbolic discounters to partake in unexpected procrastination can be confirmed through the use of survey data. In our 2010 Internet survey, we detected for procrastination tendency by asking respondents two questions: (Q1) how early in the school vacation did they previously do homework assignments and (Q2) how early had they planned to finish those homework assignments during school vacation. Q1 Reflecting back on when you were a child and you were given an assignment to be completed during the school vacation, how early did you usually finish the assignment? (Check the appropriate box.) □1 Did it right away. □2 Tended to get it done early, before the due date. □3 Worked on it daily up until the due date. □4 Tended to get it done toward the end. □5 Got it done at the last minute. Q2 Reflecting back on when you were a child and you were given an assignment to be completed during school vacation, how early did you plan to finish the assignment? (Check the appropriate box.) □1 I planned to get it done right away. □2 I planned to get it done rather early, before the due date. □3 I planned to work on it daily up until the due date. □4 I planned to get it done closer toward the end. □5 I planned to get it done at the last minute. □6 I did not make any plans. Question Q1 asks about actual behavior, whereas Q2 touches upon the corresponding behavioral plan. Having removed from the sample population those respondents who chose item 6 for Q2, we considered a respondent who replied with a Q1 response number that was larger than that for Q2 as having put off doing assignments by scrapping the behavioral plan that had been made in advance. From the viewpoint of the tendencies to procrastinate on doing assignments and break initial plans, Table 3.1 compares hyperbolic and non-hyperbolic respondents. As expected, we found that average hyperbolic discounters exhibit a stronger tendency toward procrastination than average non-hyperbolic discounters. As 56 3 Hyperbolic Discounting and Self-Destructive Behaviors

Table 3.1 Hyperbolic discounting and procrastination Hyperbolic discounting With Without # of sample (rate) 960 (44.9 %) 1,176 (55.1 %) Procrastination Actual behavior (means) 3.17*** 3.00 Procrastinators (rates) 57.1 %** 52.00 % Plan (means) 2.05 2.03 Breaking plans Plan breaking (means) (“actual”—“plan”) 1.12*** 0.97 Plan breakers (rates) 60.0 %*** 52.70 % Note: “Actual behavior (means)” and “Plan breaking (means)” indicate the mean responses to questions Q1 and Q2, respectively. “Procrastinators (rates)” indicate the responses of respondents who chose “4” or “5” in Q1. “Plan breakers (rates)” indicate the rates of respondents who chose greater numbers in Q1 than in Q2. *** and ** indicate that the differences between hyperbolic and non-hyperbolic samples are signiﬁcant at the 1 % and 5 % signiﬁcance levels, respectively. Source: The Japan Internet Survey on Preferences Relating to Time and Risk 2010. N=2,136

there is no significant difference in the “plan,” the difference in procrastination between the two types of discounters reflects a difference in initially unintended, plan-scrapping behavior; average hyperbolic discounters are more likely to revise initial plans in favor of immediate gratification and procrastinate in doing assignments than the average non-hyperbolic discounters. More generally, hyperbolic discounters would put off any “saving” behavior (i.e., any behavior in “accumulating” something, be it financial or health-related) and bring forward any “consuming” behavior (i.e., any behavior of “decumulating” something). Completing homework assignments can be considered a behavior that aligns with the accumulation of human capital or as a behavior of paying back a “liability.” In contrast, leisure activities like traveling or watching movies can be considered a consumption behavior. Temperance behavior such as dieting and smoking moderation aligns with the accumulation of health capital, whereas smoking and eating sweets are behaviors that decumulate it. Like heaping up pebbles one by one to make a big mountain over a long period, “accumulating” behavior—be it saving money or maintaining temperance in health—aims to secure long-run, delayed benefits. In contrast, “consuming” behavior has a short-run property; people do it to attain immediate and temporary gratifications at that time. By postponing accumulating behavior and instead accelerating decumulation behavior, hyperbolic people thus prioritize immediate and short-run small benefits over delayed and long-run larger benefits. This relation is depicted in Fig. 3.6b, where the short-run benefit RS is evaluated more highly than the long-run benefit RL after time t*. 3.4 Mechanism of Hyperbolic Discounting 57

3.3.4 Too Much Consumption and Too Little Accumulation

Do hyperbolic people actually exhibit tendencies toward too much consumption (i.e., over-consumption) and too little accumulation (i.e., under-accumulation)? Many recent empirical studies have indeed reported that various self-destructive behaviors involving over-consumption and under-accumulation are related to hyperbolic discounting, as theoretically expected. Figures 3.8a–g show brieﬂy the evidence obtained from our 2010 Internet survey (N ¼ 2,386). The ﬁgures compare hyperbolic and non-hyperbolic samples in the proportions of (a) debtors, (b) habitual smokers, (c) habitual gamblers, (d) habitual drinkers, (e) obese people, (f) persons with good teeth, and (g) healthy people. They show that hyperbolic people are more likely to have debt, smoke, gamble, and drink, and less likely to have good teeth and health. As discussed later in greater detail, these associations between hyperbolic discounting and over-consumption or under-accumulation are robust, even when the effects of other factors such as age and education level are controlled for.

3.4 Mechanism of Hyperbolic Discounting

By what mechanism does the phenomenon of hyperbolic discounting take place? In recent developments in psychology and neuroscience, several hypotheses have been posited.

3.4.1 Today Is Long: Distortion in Psychological Time

One possible mechanism relates to the human perception of time. For example, people tend to perceive today as passing more slowly than another day 1 year later; this leads them to discount a 1-day delay from now more intensively than a 1-day delay from 1 year in the future, as in the case of hyperbolic discounting. When having such distorted time perceptions, people are thought to have their own psychological or subjective watch—whether or not they are aware of it— rather than a physical watch to measure the pace at which time passes. The feeling that “today is passing more slowly than 1 day a year later” means that, when the hands of a physical watch today and 1 year later each makes 24 rounds, the “today watch” is perceived as taking longer than the “1 year later watch” if the time is measured by the psychological watch. Consequently, when perceiving the passing of today, we say, “How slowly time passes!”, as if the clock has slowed down or stopped. The same situation can be described by using a physical watch. When measured with a physical watch, the big hand of the psychological watch today runs faster and 58 3 Hyperbolic Discounting and Self-Destructive Behaviors

Fig. 3.8 Hyperbolic discounting and choices. Note: (a) Housing loans are excluded from debts. (b) Habitual smokers are defined as those who smoke more than ten cigarettes a day. (c)Habitualgamblers are defined as those who gamble more than once per week. (d) Habitual drinkers are defined as those who drink more than one can of beer (350 ml) or equivalent quantity of alcohol every day. (e) Obese people are defined as those whose BMI is equal to or higher than 25. (f) People with healthy teeth are defined as those who have all their teeth, including treated ones. (g) Healthy people are defined as those who self-rated their own health condition as 9 or 10 by using a 10-point scale measure from 1 (very unhealthy) to 10 (very healthy). ***, **, and * indicate differences between hyperbolic and non-hyperbolic samples that are significant at the 1 %, 5 %, and 10 % significance levels, respectively. Source: The Japan Internet Survey on Preferences Relating to Time and Risk 2010. N ¼ 2,386 3.4 Mechanism of Hyperbolic Discounting 59 hence proceeds a longer distance during a certain period of physical time. Thus, people feel “how long today is!”, even as the years “fly by.” This distortion in time perception relates to the Weber-Fechner Law in experimental psychology. It is the experienced relation wherein the perception of a stimulus is proportionate to the log of the amount of the stimulus rather than to the amount itself. This means that an increment of perception, caused by an increase in a stimulus, is proportionate to the percentage increase of the stimulus. In terms of time perception, the passing of a day from tomorrow to the day after tomorrow is perceived as proportionate to the passing of a year from next year to the year after next year. In both cases, time passes by 100 % from the initial point in time. Figure 3.9a illustrates the Weber-Fechner relation between physical time t and psychological or subjective time τ, where psychological time is depicted as a logarithm of physical time (more precisely, a logarithm of a linear transform of physical time). At an immediate point in time (e.g., today), the curve is steep, and so psychological time τ passes quickly for a certain period of physical time t. In the distant future (i.e., over the region of large t), the slope of the curve becomes gentler; psychological time τ passes more slowly. With this distortion in the passing of psychological time between immediate and distant future time intervals, time discounting for delayed gratification will differ between the proximal future and the distal future, if the delay is perceived over the psychological time scale. The delay of 1 day in physical time will be discounted more heavily when the 1-day delay is in the immediate future and hence perceived to be as long as 27 h in psychological time than when it is 1 year later and hence perceived psychologically to be as short as 23 h. In fact, Peter Roelofsma (1996) and Taiki Takahashi (2005) theoretically verify that, under Weber-Fechner time distortion, exponential discounting over the subjective-time delay is equivalent to hyperbolic discounting over the physical-time delay. The prediction has been supported as empirically valid by the findings of Zauberman and his joint researchers (Zauberman et al. 2009; Kim and Zauberman 2009).2

3.4.2 The Certainty Effect

The mechanism of hyperbolic discounting can also be described by incorporating the effect of risk on evaluation. Risk deteriorates value. When the occurrence of a gratiﬁcation—say, due to receiving a reward—is delayed rather than immediate, it necessarily becomes exposed to risk. Even when the reward is a ﬁxed constant,

2 The issue of psychological or subjective time has been attracting the attention of economists. For example, Samuelson (1976) proposed axiomatic conditions for the existence of subjective time. Uzawa (1968) constructed consumers’ subjective time from the personal discount rate. Sato and Ramachandran (2014, Chap. 8) and Sato (2015) explained a downward trend of Japan’s income- wealth ratio after World War II by hypothesizing that the subjective time of the Japanese people expanded during the period. 60 3 Hyperbolic Discounting and Self-Destructive Behaviors

Fig. 3.9 Psychological time and hyperbolic discounting. (a) Physical time and physiological time. (b) Exponential discounting over physiological time indicates hyperbolic discounting over physical time gratification from it may depend on the receiver’s state, which would vary randomly upon receiving it. Time discounting (i.e., the discounting of delayed gratification) would thus reflect the decision-maker’s attitude toward the risk. 3.4 Mechanism of Hyperbolic Discounting 61

In recent developments of behavioral economics, particularly those in prospect theory, it has been shown that people’s risk attitudes are biased in various ways. A typical example is the certainty effect, wherein people tend to assign a special value to certainty; under this effect, the addition of a tiny risk to a certain reward seriously erodes its value. For example, people evaluate a sure USD 1,000 as USD 1,000, but they will evaluate USD 1,000 that will be received with 99 % probability as being of much lower value than a certain USD 1,000. This contrasts to the case where the USD 1,000 reward was originally exposed to a certain risk—say, the risk that the amount of money may not be given, with a certain probability of 20 % or 30 %. In this case, a 1-percentage-point increase in risk would not seriously affect its value. Certainty itself carries a special value. Hyperbolic discounting can be explained by applying the certainty effect in the temporal context. At present time, USD 1,000 is valued at USD 1,000. However, the same amount of money received with a tiny delay and with the resulting small amount of risk would be seriously devaluated on account of the certainty effect. Hence, an immediate future reward (i.e., a reward with a small delay) is discounted more than is proportionate, as in the case of hyperbolic discounting. Two Dutch cognitive psychologists, Gideon Keren and Peter Roelofsma (1995), provide evidence of the validity of this hypothesis. By measuring the subjects’ discount rates for an immediate future choice (e.g., “today or 4 weeks later”) of a certain monetary reward and for a distant future choice (e.g., “26 weeks later or 32 weeks later”) of the same rewards, they first confirm that hyperbolic discounting takes place. The discount rate for the immediate future choice tends to be higher than that for the distant future choice. Then, by using uncertain monetary rewards (e.g., rewards that can be received with only 50 % probability), they estimate the discount rates for the same intertemporal choices. As expected, the difference in the discount rates becomes insignificant; hyperbolic discounting disappears in the presence of risk. The special desirability of the certainty property—which is inherent in rewards available today—is “polluted” by the introduction of risk to rewards, and so additional risk due to delay does not substantially devalue the risky reward. However, this certainty effect hypothesis does not explain the following fact. Hyperbolic discounting is observed not only when the front-end date of the immediate future choice is today (e.g., “today or 4 weeks later”) but also when it is some future date (e.g., “2 days later or 2 days plus 4 weeks later”). In our experiments in 2004, the mean discount rate for the intertemporal choice between 2 days later and 2 days þ 1 week later was 48.1 %, whereas that between 3 months later and 3 months þ 1 week later was 19.3 % (Ikeda et al. 2005). The fact that hyperbolic discounting occurs even when the reward for the front-end option is delayed—and hence exposed to some risk—implies that the certainty effect cannot wholly account for hyperbolic discounting. 62 3 Hyperbolic Discounting and Self-Destructive Behaviors

3.4.3 The Ant and the Grasshopper in the Brain

As discussed in the section pertaining to the matching law (Sect. 2.3), not only humans but also other animals such as pigeons and monkeys exhibit hyperbolic discounting. This implies that people’s ambivalent dual personality in discounting the near future intensely while evaluating the distant future highly may not be a mere personal propensity formed by some cultural factors but rather a more robust characteristic based on neuroscientific factors. In neuroeconomics, the interdisciplinary field between neuroscience and economics, researchers indeed posit the hypothesis that the human brain has a kind of dual structure that corresponds to people’s dual personality in discounting. By examining by means of functional magnetic resonance imaging (fMRI) the brain activity of a subject making intertemporal choices, Samuel McClure, a neurosci- entist in Princeton, together with behavioral economists David Laibson and George Loewenstein, provides evidence of this (McClure et al. 2004). In their article, published in Science and entitled “Separable neural systems value immediate and delayed monetary rewards,” they conclude that, in correspondence with the dual personality inherent in discounting, the human brain has a dual structure. They allude to a famous Aesop fable where a future-oriented ant and a present-oriented grasshopper conflict with each other in the brain, thus causing hyperbolic discounting. They report that discounting behavior is related to both old and new parts of the brain. The old part includes parts of the limbic system and is associated with the midbrain dopamine system; it is much activated by intertemporal decisions regarding immediately available rewards. McClure and his joint researchers call this part of the brain the “β region,” after the βδ model of quasi-hyperbolic discounting. In contrast, the new part—which they call the “δ region,” includes parts of the prefrontal cortex and parietal cortex, both of which are known to be involved in cognitive processing and future planning (see Fig. 3.10). The δ region works uniformly on both immediate and distant future choices. Although the cognitive process in the δ region always works in any intertemporal decision- making, the β region is preferentially activated when one is faced with a choice involving an immediately available reward—say, a choice between USD 100 today and USD 110 tomorrow—that leads the decision-maker to discount delayed rewards (USD 110 tomorrow) intensely compared to an immediately available one (USD 100 today). Moreover, McClure and his colleagues showed that the β region tends to be more activated than the δ region when subjects made decisions to take immediately available, small amounts of money by giving up delayed, greater amounts of money. Indeed, the dual personality in the domain of intertemporal choice seems to reflect a contest between the impulsive grasshopper and the patient ant within the decision-maker himself or herself. McClure and his colleagues also conducted similar experiments using primary rewards such as juice and water, rather than a secondary reward like money (McClure et al. 2007). By telling subjects to choose between, for example, 3.4 Mechanism of Hyperbolic Discounting 63

Fig. 3.10 The ant-grasshopper brain structure in discounting (Note: illustrated based on McClure et al. (2004))

2 ml of juice immediately available and 5 ml of juice available 5 min later, they detected that the same ant-grasshopper brain structure works to make intertemporal choices for primary rewards. Independent of these studies, the multiple-brain structure in the domain of intertemporal choice was also addressed in the work of Saori Tanaka and her joint researchers (Tanaka et al. 2004). By conducting an fMRI experiment, they showed that different regions of the striatum, an inside subcortical part of the forebrain, are associated with discounting at different time horizons: the ventral (lower) part of the striatum regulates short-run discounting, whereas its dorsal (upper) part correlates with long-run discounting. The multiple structure is fairly consistent with McClure’s ﬁndings, in which the ventral part of the striatum is identiﬁed as part of the β region. Ahmad Hariri and his colleagues also showed in a different way that the ventral striatum relates to the hyperbolic property of time discounting (Hariri et al. 2006). They controlled striatal activities by letting their subjects work on tasks involving feedback comprising positive and negative monetary rewards. Their fMRI analyses show that a degree of hyperbolic discounting associates positively with the activa- tion of the ventral part of the striatum. 64 3 Hyperbolic Discounting and Self-Destructive Behaviors

Although these studies’ results support McClure’s findings, McClure’s ant-grasshopper brain hypothesis remains a hypothesis; its validity needs to be further examined. McClure’s results, which were derived by examining brain activities rather indirectly by fMRI, cannot always be reproduced by other studies that examine brain functions more directly (Peters 2011). For example, in a series of studies, Paul Glimcher and Joseph Kable at the Center for Neuroeconomics at New York University found, differently from McClure’s finding, that the β brain region relates not only to immediate choices but also to distant future choices (Kable and Glimcher 2007; 2010; Glimcher et al. 2007). Without using fMRI, some studies derived results not consistent with those of McClure and his colleagues. Manuela Sellitto and her joint researchers compared intertemporal choices between people with and without damage to the medial orbitofrontal cortex and found that people with medial orbitofrontal damage prefer small immediate rewards to delayed larger ones more strongly than people with no such damage (Sellitto et al. 2010). As the medial orbitofrontal cortex is part of the β region, the result runs counter to McClure’s hypothesis; damage to the β region would have led to weaker preferences for immediate rewards, had McClure’s hypothesis been valid. In McClure’s research, it is not clear what kind of function the δ region has in intertemporal decision-making. Bernd Figner of Columbia University, together with his joint researchers, pursued this problem (Figner et al. 2010). By artificially and temporarily disrupting the function of the left lateral prefrontal cortex by means of low-frequently repetitive transcranial magnetic stimulation (rTMS), people are shown to exhibit a stronger preference for immediate rewards over larger delayed ones. This means that the left lateral prefrontal cortex, as part of the δ region, is closely associated with the self-control mechanism to inhibit impulsive behavior for immediate rewards. Further research should be conducted to elucidate more clearly the neuroscientific mechanism that underlies dual personality under hyperbolic discounting and other preferential biases in intertemporal choices (Loewenstein et al. 2008).

3.5 Conclusions

Personal discount rates are not invariant for merely any intertemporal choice; rather, they are higher for intertemporal choices involving more immediate gratification. This inclination is well described as hyperbolic discounting. Hyperbolic discounting reflects our dual personality of discounting tomorrow’s gratification intensely while simultaneously highly evaluating future gratification in 10 years. This predilection was first detected through psychological experiments using animals such as pigeons, and so it can be thought to reflect certain neuroscientific features rather than a culturally formed feature. Moreover, hyperbolic discounting is consistent with our behavioral biases that relate to perceptions of time and risk. 3.5 Conclusions 65

With hyperbolic discounting, people’s degrees of impatience increase as time passes, thereby causing preference reversal. Accordingly, they consecutively scrap their behavioral plans of saving for long-term gratifications in a cascading, “domino-falling” manner and instead accelerate behavioral plans to consume and achieve more immediate gratification. In fact, various data show that more hyperbolic people tend to have a greater propensity for consumption spending and a smaller propensity for saving. However, such discussions might be a little bit naı¨ve. It may be true that we are easily seduced, like animals, by immediately available gratification. However, in many cases, we are smarter than animals in that we control our own behavior by taking such weak mindedness into account. In the next chapter, we discuss how the presence (or absence) of such proclivities affects people’s decision-making and behavior in conflicts involving short- and long-term gratification. Chapter 4 Self-Control Problems of the Dual Self

4.1 Introduction

In the previous chapter, I explained hyperbolic discounting, a source of behavioral bias which people exhibit when making intertemporal choices. Taking into account 10 years into the future while discounting tomorrow is an act that reflects humans’ dual nature. Under hyperbolic discounting, when the benefit (or the cost) of a choice is near at hand, people become motivated to prioritize the immediate benefit and revise the original plan, because the subjective discount rate suddenly increases, making them impatient. Of course, people do not always give in to such temptation and choose the “easy” option. In this chapter, I would like to refer to some data, theoretically consider what decision-making problems arise under hyperbolic discounting, and examine how we take actions to deal with these problems.

4.2 Problems of the Dual Self

4.2.1 The Self-Control Problem

Under hyperbolic discounting, a part of a decision-maker pursues a long-term benefit of “saving” something while another part of him or her pursues a short- term benefit of “consuming” something. At any given time, each side of him or her tries to make a choice that is not desirable to the other. It is as if Dr. Jekyll and Mr. Hyde—separate selves of the “short-term self” and “long-term self”—were divided over conflicting interests. In addition, in the sense that the decision-maker needs to make decisions while dealing with the conflict between Dr. Jekyll and Mr. Hyde, there will always be a self-control problem. The term “self-control”— controlling yourself—would be meaningless if you were always a unified and consistent decision-making entity; the term itself is based on the premise that

© Springer Japan 2016 67 S. Ikeda, The Economics of Self-Destructive Choices, Advances in Japanese Business and Economics 10, DOI 10.1007/978-4-431-55793-7_4 68 4 Self-Control Problems of the Dual Self there are conflicting entities within decision-makers. In that sense, “self-control” is a felicitous description of the problem that decision-makers confront under hyperbolic discounting. In what follows, I will use expressions such as “present self,” “future self,” “today’s self,” and “self in one year,” depending on the context. Note that behind those terms lie the self-control problems of the dual (or multiple) self. To explain this a little more precisely, as we saw in Fig. 3.5b in the previous chapter, a conflict of interest will arise among multiple selves at each point in time under hyperbolic discounting, because people are patient (i.e., have lower subjective discount rates) when the delay to the realization of a chosen outcome is long and become less patient (i.e., have higher subjective discount rates) as the time to outcome realization draws nearer. Because the selves at each point in time act as executors and make increasingly hasty plans each time with a higher subjective discount rate, the plan from the previous day will be revised to an easier one in a cascading manner, like that seen in the domino effect, in extreme cases. If the worst scenario comes to pass, the homework to be completed during vacation will be postponed until the last day, and the plans for trips and movies will be moved up. This much I have already explained. However, the story is not this simple because many other people will complete the homework early instead of postponing it until just prior to the deadline. The “exponential” people acting with a low subjective discount rate would definitely behave in this manner. Do all “hyperbolic” people, then, fall into domino-style procrastination?

4.2.2 Pessimistic or Optimistic About Their Future Selves?

Everyone has had the experience of being tempted to postpone tedious work until the next day. Some people resist the temptation and complete the work on the originally planned day because they know that they will face the same difficulties tomorrow, even if the work is postponed to the next day—and that, if things get worse, things could get out of control as a result of repeated domino-style postponing. In other words, having recognized the fact that they have a dual personality, they take into account the conflict of interest between the short- and long-term selves and devise a feasible plan that will not be revised later. One year ago, the self wanted to make a patient and restrained plan under a low subjective discount rate; however, the self, 1 year later, selfishly revises it to a present-oriented plan that is based on a high subjective discount rate. In this sense, the plan or choice that the self considered the “best” 1 year ago is not actually feasible. You would know that if the self of 1 year ago had been sufficiently smart, that version of you would not have made such a difficult plan to begin with, knowing that it would be scrapped sooner or later; you would surely have considered only the feasible plans and chosen the best option from them. 4.2 Problems of the Dual Self 69

In economics, a person who makes such a choice is called a “sophisticated” or “smart” decision-maker. In contrast, a person who fails to follow through and continually revises the plan while failing to anticipate his or her own increased impatience in the future is referred to as a “naı¨ve” decision-maker. Sophisticated decision-makers are correctly pessimistic about the behavior of their future selves, whereas naı¨ve decision-makers are incorrectly optimistic about the behavior of their future selves. What differences in behavior do we see between sophisticated and naı¨ve decision-makers? This differentiation is important if we are to review our own daily behavior. First, in the case of sophisticated choices, which take into account one’s own impatient behavior in the future, people would not scrap the previous night’s plan even when they become impatient in the morning because they would have a plan from the previous night that they can still accept upon waking in the morning and reviewing it again. In that sense, whereas naı¨ve choices are time- inconsistent, there is never an inconsistency with sophisticated choices. Those who often make changes to plans or suddenly cancel appointments should suspect that their plans or choices might not be “sophisticated” to begin with or that they are overestimating their future selves’ degree of patience when making plans. Next, as mentioned earlier, tedious work is more likely to be procrastinated and fun activities, to be moved up under hyperbolic discounting, compared to when there is no hyperbolic discounting. Such a tendency is seen especially among naı¨ve decision-makers. When a decision-maker is sophisticated, the situation is much more complex. Sophisticated decision-makers correctly anticipate that their own patience will weaken in the future; they know that the ability of their future selves to execute work will not be as strong as what their present selves expect. Whether it is work or leisure, they are aware that delegating its execution to the future self will ultimately be disadvantageous to the present self. As a result, regardless of work or leisure, sophisticated people are more incentivized to carry out the plan earlier than are naı¨ve people. This hypothesis bears two very important implications. First, since naı¨ve people are expected to postpone troublesome work, being sophisticated rather than naı¨ve mitigates the tendency to procrastinate. Whereas naı¨ve people rush to complete their homework just prior to the deadline, sophisticated people would not be as pressed for time. Second, compared to the case of naı¨ve people, the tendency to accelerate the schedule for leisure is reinforced when a sophisticated person makes a choice. Because naı¨ve people engage in fun activities at earlier times than do people with exponential discounting, this means that the act of moving up the schedule is even worse when done by sophisticated decision-makers than when done by naı¨ve ones. In other words, one ends up eating an “even less ripened apple” just by being sophisticated. Let us consider these points in greater detail. 70 4 Self-Control Problems of the Dual Self

4.2.3 When to Clean?: Sophistication Mitigates Procrastination

Let us ﬁrst consider how the timing of doing tedious work differs between naı¨ve and sophisticated decision-makers. For instance, let us say that today is December 29th and that you need to plan to spend 1 day of the 3 days before New Year’s Eve on cleaning. The amount of work is the same regardless of when you clean, but since you will become busier later, the displeasure or disutility you will feel at the time of cleaning will be smaller if you clean earlier. However, if you were to clean later, the level of displeasure is evaluated at a discount because the displeasure occurs with more delay. In short, this is a question of when to clean, under the trade-off where later cleaning is more onerous but the effort is discounted and therefore perceived as smaller. To simplify the story, suppose that the toil of cleaning in the future is discounted by half, whether it is done tomorrow or the day after tomorrow. In other words, when evaluated as of today, although one unit of disutility for tomorrow is evaluated equally as the one for the day after tomorrow, both are discounted by half (0.5) compared to one unit of disutility for today. Note here that the nature of hyperbolic discounting (present bias)—wherein a higher discount rate is applied to a more immediate choice—is incorporated to the present setting in a simple way.1 This is because, whereas there is no discounting when converting disutility for the day after tomorrow in the units of disutility for tomorrow, there is discounting at a higher rate (50 %) when converting disutility for tomorrow in the units of the disutility for today. Figure 4.1 illustrates this scenario in graph form. Since the vertical axis measures the disutility felt at each point in time, a higher bar represents larger disutility (toil). It shows that the toil of cleaning on the 29th is the smallest (A29) and the largest on the 31st (C31). How those toils are evaluated at each point in time is shown by two dotted lines, I and II. Dotted line I indicates that the toil of cleaning on the 30th (B30) is discounted by half (A30) when evaluated on the previous day, on the 29th. Dotted line II indicates that the toil of cleaning on the 31st (C31) is discounted in a similar manner by half on earlier dates, on the 29th and 30th (A31 and B31, respectively). In the illustrated example, a naı¨ve person would think as of today (the 29th) that it is best to clean tomorrow, on the 30th, because the toil on A30 will be smaller than that on A29 and A31. Needless to say, the toil of cleaning on the 30th is larger on the day of cleaning; however, in discounting and rating the toil as of today, he or she thinks that it will be smaller for tomorrow (A30) than for today (A29). That person would of course think about the option of cleaning 2 days later, on the 31st; however, because for hyperbolic discounters, discounting tomorrow (the 30th)

1 More formally, the discussion here is based on the assumption of quasi-hyperbolic discounting (βδτ ), discussed in Chap. 3, by setting parameter β, which relates to present bias, to 0.5 and the long-term discount rate (δ)to1. 4.2 Problems of the Dual Self 71

Fig. 4.1 When to clean? Note: Dotted line I indicates how the disutility (toil) of cleaning on the 30th is rated on the 29th. Dotted line II indicates how the disutility (toil) of cleaning on the 31st is rated on the 29th and 30th, respectively. Naı¨ve people would clean on the 31st, while sophisticated people would finish cleaning on the 29th will not differ greatly from discounting the day after tomorrow (the 31st), the person will determine that as of today (the 29th), cleaning on the 31st (A31), which poses the largest toil on the day of the cleaning, will be the most onerous option. Thus, on the 29th, having decided to clean tomorrow (the 30th), he or she will spend his or her time on something else—probably something more fun. Now, dawn breaks and today is the 30th. Although delegated to clean by yesterday’s self, the self on the 30th has the freedom as an executor to determine whether or not to carry out the cleaning as planned. The person would clean today, as expected by the self of yesterday, if he or she follows exponential discounting as a bank clerk would. However, in this case, under the influence of hyperbolic discounting, the person begins to think that the displeasure associated with cleaning on the 31st (B31) is not as onerous as that of cleaning today, on the 30th (B30), because the subjective discount rate suddenly rises. This thinking occurs despite the fact that the person determined on the previous day that the toil of cleaning would be smaller on the 30th (A30) than on the 31st (A31). As a result, the naı¨ve self of the 30th will naturally skip cleaning and delegate it to the self of the 31st. Ultimately, the naı¨ve person will end up cleaning on New Year’s Eve, the busiest day, while feeling great toil (C31). Such behavior is self-destructive. It is undesirable from two perspectives. First, cleaning on the 31st was supposed to be less desirable than cleaning on the 29th, even as of the 29th. Second, cleaning on the 31st considerably differs from the rational choice under exponential discounting. In the current setting, exponential discounters would 72 4 Self-Control Problems of the Dual Self evaluate the future disutility without discounting it by half.2 Therefore, cleaning on the 29th—when the toil on the day of cleaning is the smallest—is the rational choice under exponential discounting; the naı¨ve choice of cleaning on the 31st is largely an act of procrastination, relative to that choice. Another method for determining the desirability of the choice is to consider the choice one would have made on the 28th, the day before the first day of the cleaning period. Because the future toil is rated by systematically discounting it by half under the current setting, the self on the 28th would compare the toils of cleaning on the 29th, 30th, and 31st (A29, A30, and A31) by discounting them equally by half. As a result, what he or she would choose is the 29th, as expected—the same choice under exponential discounting. The fact that the naı¨ve behavior is largely procrastinated compared to the desirable behavior remains true. In short, naı¨ve people tend to fall into the situation in which they end up cleaning on the day with the largest toil, even though they try to consider the whole future and act with the intention of minimizing the toil. This paradoxical situation can be seen in the process of choosing A30 and then B31 in Fig. 4.1 by pursuing the options with the least amount of toil but ending up with C31. One of the reasons for such self-destructive decision-making lies in the fact that the decision-maker is unable to anticipate the change in his or her own impatience in the future, because he or she does not realize the precise implication of hyperbolic discounting. A sophisticated decision-maker who is aware of the influence of hyperbolic discounting would make a choice so as to not procrastinate 1 day after another. As we saw above, once he or she delegates the tedious work to the self of the following day, that self will probably delegate the cleaning to the self of the day after that, and, ultimately, he or she will have no choice but to clean on busy New Year’s Eve. The sophisticated person’s choice would be to put in some effort now and finish cleaning, without postponing it to the 30th. As of the 29th, a consideration of when the decision maker can clean in order to minimize the toil would naturally make he or she prefer the 30th, when the toil is the smallest (A30). However, the sophisticated self on the 29th knows that if he or she were to do so, the self on the 30th will pass the baton to the self on the 31st. Consequently, what the sophisticated self on the 29th must decide becomes “whether to clean today (the 29th) or postpone it to the 31st” rather than “on which day of the 3 to clean.” Therefore, as shown by A29 and A31 in Fig. 4.1, the sophisticated person’s choice would be to finish cleaning today rather than postpone it until later, as long as the toil of cleaning on the 29th is evaluated as being smaller than that of doing it on the 31st. As explained, procrastination in cleaning is mitigated by taking into account in decision-making that the future self will suddenly become more impatient. People

2 Under exponential discounting, the discount rate would be the same at any given point in time. Because it is assumed that the discount rate for converting the value for the day after tomorrow to the value for tomorrow is 0 under the current setting, the rate used to discount the value for tomorrow to the value for today under exponential discounting must also be 0. 4.2 Problems of the Dual Self 73 often find that the toil of finishing cleaning early is ultimately much smaller than the large toil of making a naı¨ve choice to work against time to clean on the deadline (New Year’s Eve). We can say that this is the benefit of being sophisticated. The notion that being sophisticated bears the benefit of mitigating procrastination generally holds true for certain problems such as on which calendar day to perform tedious work that will incur an immediate cost, as in the case of cleaning. Of course, in many cases, the work produces some benefit; however, as Ted O’Donoghue and Matthew Rabin (1999) showed, the bottom line is basically the same if the benefit is realized only later. When to do the vacation homework, when to start a diet, when to renew the driver’s license, when to eat what you do not like—regardless of what decision-making is involved, a person who is overconfident about his or her future self will procrastinate, and the person who is appropriately pessimistic about the self can somewhat mitigate negative effects.

4.2.4 Overly Abstentious Decision-Making

However, the mechanism by which being sophisticated will mitigate procrastination has a pitfall: the possibility of performing the work earlier than necessary due to being pessimistic about the future self. Let us consider again the cleaning problem. This time, we will also take into consideration the benefit that one will realize in the future (e.g., New Year’s Day) by cleaning. However, to simplify the story, consider the case where the benefit is realized only when the individual cleans on the 30th and not on any other date. Figure 4.2 relates to decision-making under this scenario. The vertical axis represents the net disutility (cost) after subtracting the future benefit. However, since there is no benefit in cleaning on the 29th or the 31st, A29 and C31 represent the toils of the cleaning day, just as those of the 29th and 31st, respectively, are shown in Fig. 4.1. In the case of cleaning on the 30th, the net disutility will differ based on how the future is discounted, because there will be a delayed benefit. Under exponential discounting that does not discount the future, the benefit and toil of cleaning are both rated as they are. The height indicated of B30 in Fig. 4.2 represents the net cost of cleaning performed on the 30th, calculated this way. As one can see, by comparing A29, B30, and C31, the 30th, which offers the lowest net cost, would be chosen under exponential discounting. What about the case in which a hyperbolic person discounts the future value by half? First, let us consider the situation as of the 29th. Because the net cost of cleaning on the 30th and the 31st are rated as one-half the cost on the day of cleaning—as A30 and A31, respectively—the 30th becomes the best option at this point. However, the situation changes on the 30th because the net cost of cleaning on the 30th becomes more like B300, which is larger than B30 under exponential discounting. Why is that? It is because, whereas the toil of the day is rated at face value, the benefit that can be realized only in the future is rated at a discount. As a result, in this example, the (net) disutility of cleaning on the 31st (B31) would look 74 4 Self-Control Problems of the Dual Self

Fig. 4.2 Overly abstentious decision-making: Cleaning too early. Note: Dotted line I shows how the disutility (toil) of cleaning on the 30th is rated on the 29th. Dotted line II shows how the disutility (toil) of cleaning on the 31st is rated on the 29th and 30th. B30 represents the net disutility (toil) on the 30th under exponential discounting when cleaning is done on that day, while B300 represents the same disutility (toil) under hyperbolic discounting. Whereas a person under exponential discounting would do the cleaning on the 30th, a person under hyperbolic discounting would do it earlier, on the 29th smaller on the 30th, and so a naı¨ve hyperbolic decision-maker would put off cleaning until the 31st, as in the case of the previous section (Fig. 4.1). For a sophisticated hyperbolic decision-maker, it is a choice between the two—A29 and B31—as of the 29th because, based on the above discussion, he or she knows that the option of cleaning on the 30th is not feasible. Therefore, he or she would also choose the 29th, as seen in the previous section. However, there is one major difference between this scenario and that seen in the previous section: a sophisticated hyperbolic person ends up cleaning earlier than necessary. Even though the most efficient choice should be the 30th, a sophisticated person would choose the 29th. Instead of putting it off, he or she is doing the tedious work earlier. Although people often think doing the work earlier is abstentious and a good thing, this can also be considered an inefficient choice in the sense that the person may be doing the work at an unnecessarily higher cost. In other words, this is an overly abstentious choice. When making a sophisticated choice, it is noteworthy that sometimes even a hyperbolic discounter can make an overly abstentious choice in this way if he or she is sophisticated. Because hyperbolic discounting leads to the tendency to always overestimate the present benefit versus the future benefit, such a phenomenon is paradoxical. In short, under hyperbolic discounting, a sophisticated decision-maker would always have an incentive to perform the work early because he or she knows that delegating tedious work to the future self will ultimately be disadvantageous for the 4.2 Problems of the Dual Self 75 present self. When this benefit—the benefit perceived based on an appropriate level of pessimism—is larger than the benefit of prioritizing the immediate benefit, cleaning before the end of today becomes a good idea, even if it is actually desirable to clean tomorrow. As a result, the choice becomes overly abstentious. However, it is probably not accurate to describe this type of inefficient choice as a negative effect of sophisticated self-controlling behavior. It is true that cleaning too early happens only when a self-restrained, sophisticated choice has been made; however, the root cause of such a negative effect is probably one’s inherent hyperbolic discounting nature rather than sophistication or self-control. People as humans inherently have a self-control problem, which manifests from a conflict between short- and long-term interests; they try to deal with that conflict somehow through their self-restrained and sophisticated choices. However, because such an attempt is not perfectly effective with serious self-control problems, the influence of the problem simply remains in the form of the inefficiency of decision-making and choices. This remaining inefficiency could be procrastination that has not been completely mitigated or the overly abstentious choices we saw above. It is like laying a carpet on the floor of an ill-shaped room. Thus far, we have considered the question of when to perform tasks, such as cleaning, that incur costs immediately at the time of execution. Next, let us consider the timing of leisure, which results in an immediate benefit and reward when carried out.

4.2.5 When to See a Movie?: Sophistication Reinforces Preproperation

Under hyperbolic discounting, which rates immediate gratification highly in a time- inconsistent way, one tries to engage in a behavior that produces utility earlier, such as eating something delicious, going out on a date, and watching a movie. This typifies an acceleration of the schedule—or preproperation—in O’Donoghue and Rabin’s (1999) terminology for leisure and consumption. As explained in the previous section, hyperbolic but sophisticated decision-makers are motivated to control themselves so as to accelerate the activity schedule, due to pessimism concerning the future selves. As a result, sophisticated self-control ends up reinforcing the acceleration of a schedule for leisure and consumption. Let us consider the specific problem of when to see a movie. A film festival will be held over a 3-week period, and three movies that have won prizes in the contest will be screened one by one on each weekend. The movie that won third place will be shown in the first week, the second-place movie will be shown in the second week, and the movie that won the grand prize will be shown on the last weekend. With one ticket in hand, you must decide which movie to attend. Needless to say, you want to see the grand-prize winning movie on the third week; however, at the present moment, future gratification is evaluated at a discount. 76 4 Self-Control Problems of the Dual Self

Fig. 4.3 When to see a movie. Note: Dotted line I shows how the gratification of seeing the movie in the second week is rated. Dotted line II shows how the gratification of seeing the movie in the third week is rated, as of the first and second weeks. A naı¨ve person would see the movie in the second week. A sophisticated person would see the movie in the first week

The situation is as shown in Fig. 4.3. Please note that the vertical axis measures the utility (gratification) at each point in time; it is in the decision-maker’s interest to choose from here the highest possible point. By the scenario, the degree of gratification on the day of the movie is higher for a later week. Now, as we can see from the figure, a naı¨ve person, who, by definition, is overconfident about the patience of the future self, will end up seeing the second- place movie because, although he or she skips the first-week movie in order to see the grand-prize winner in the third week, the second-place movie (B2) suddenly begins to look better than the first-place movie (B3) once the second week starts. The leisure schedule is therefore moved up. A sophisticated person is aware of such a situation. That is, he or she already knows that, even if he or she skipped the first week’s movie in an attempt to see the third week’s movie, the self in the second week would not “pass the baton” to the self in the third week, so that he or she would end up seeing the second-place movie. Thus, unfortunately, he or she in the present time (the first week) does not have the option of seeing the grand-prize winning movie. In the end, the choices are to see the first week’s movie or to skip the first week’s movie to see the second week’s movie. Since A2 (the gratification of seeing the second week’s movie, after discounting) is smaller than A1 (the gratification of seeing the first week’s movie), he or she winds up choosing the first week’s movie. Whereas the schedule will be moved up by 1 week (i.e., from the third week to the second week) in the case of the naı¨ve choice, the schedule will be moved up by 2 weeks (i.e., from the third week to the first week) in this case. In this way, the tendency to move up leisure activities is actually reinforced by the self-controlling choice. 4.3 Excessive Abstinence and Indulgence 77

Previously, I had used the metaphor of eating an unripe apple to describe an accelerated schedule vis-a-vis leisure or consumption. Here, a sophisticated choice results in eating an even less ripened apple. In the previous section, I had mentioned that sophisticated self-control could mitigate procrastination in work and even move up a schedule; even in that case, the efficiency loss in decision-making is usually reduced by sophistication. However, in the present case, since inefficiency is already inherent in eating an unripe apple and the inefficiency increases beyond that, the overall efficiency loss is much more serious than in the previous example. Paradoxically, sophistication can reinforce the preproperation of fun activities and thereby enhance the detrimental effect of the self-control problem.

4.3 Excessive Abstinence and Indulgence

4.3.1 Self-Restraining Smart Choice to See the Grand-Prize Winning Movie

The above discussions about cleaning and movies are about very limited decision- making processes that pertain to one-time or one-shot actions. To consider broader problems such as savings and obesity, it is necessary to think about more general decision problems, such as choosing the timing of frequently made actions performed within a certain time period. Even in such a case, the conclusion that hyperbolic discounting works in the direction of choosing an “easy option” basically applies if decision-makers are naı¨ve and thus do not anticipate the incompe- tency of their future selves. Therefore, in the case of a naı¨ve person, hyperbolic discounting will result in the preproperation of consumption (overspending, undersaving, etc.) and the procrastination of abstinence (nicotine dependency, obesity, etc.) Things are more complicated when a decision-maker is sophisticated. When deciding multiple timings, for example, “when to go see X number of movies in a year” and “when to do X times of cleaning,” paradoxical situations like “the preproperation of a fun activity is mitigated in the end” and “the procrastination of tedious work is further exacerbated” can take place. Let us consider this by taking the movie problem as an example. The setting is the same as before: the third-place, second-place, and grand-prize winning movies will be screened in that order over 3 weekends. In this case, however, consider the case of seeing two movies with two tickets. Referencing Fig. 4.3 again, think about which movies a person should see. If there is no discounting, it is best to go see the movies shown on the second and third weeks. The same is true under exponential discounting. The story would be simple, if the decision maker were a naı¨ve decision-maker. Although he or she chooses A3 (i.e., the grand-prize winning movie) and A1 (i.e., the third-place movie)—the two movies with high utility as of the ﬁrst week—once 78 4 Self-Control Problems of the Dual Self

Table 4.1 When to see two movies Week 1 Week 2 Week 3 Third-place Second-place Grand-prize Movie movie movie winning movie Exponential discounter (optimal choice) ○○ Hyperbolic discounter Naı¨ve ○○ Sophisticated ○○ Note: Unlike the case of seeing one movie, the acceleration of schedule is mitigated by sophisticated decision-making the second week comes, you end up changing the plan from the prior week and go to the second-place movie because the utility value of the second-place movie screened on that day will exceed the (discounted) utility value of the grand-prize winning movie due to hyperbolic discounting. Ultimately, as summarized in Table 4.1, the naı¨ve choice is to see the movies in the first and second weeks. In contrast, a sophisticated decision-maker who foresees the future self changing his or her mind knows already, as of the first week, that he or she will never be able to see the combination of movies in the first and third weeks; the decision maker knows that he or she will not be able to wait for the grand-prize winning movie once the second week comes. Therefore, the choices he or she is left with are either to see the movies in the first and second weeks—as if a naı¨ve decision-maker—or see the movies in the second and third weeks. Since the second week is common to both choices, the choice is ultimately between the first week’s movie and the third week’s movie. In the end, seeing the movies in the second and third weeks would be the sophisticated choice. As summarized in Table 4.1, the sophisticated choice is the same as the choice made under exponential discounting. Compared to the naı¨ve choice, you can see that the acceleration of the schedule is mitigated in the sense that the person is seeing a movie in the third week rather than in the first week. This is in contrast to the previous movie problem of choosing only one movie to see, where sophistication always worked in the direction that exacerbated the preproperation of a schedule to eat an unripe apple. How should we interpret these results? Making a pessimistic choice by anticipating the indulgent future self is the same as in the case of deciding the timing for one action. The point is whether or not a pessimistic prediction about the future self will increase the net cost of choosing an easy option today (in this example, the option to see the movie early). When it increases, the sophistication leads to a more abstentious choice; when it decreases, the sophistication leads to a more indulgent behavior. In this movie problem, let us consider the cost of going to see the first week’s movie, as perceived in the first week. In the case of a naı¨ve person, since he or she has already decided to see the grand-prize winning movie in the third week, the cost of seeing the first week’s movie is A2, which is the lost benefit—the opportunity cost (or lost profit)—incurred by not being able to see the second week’s movie. In 4.3 Excessive Abstinence and Indulgence 79 contrast, in the case of a sophisticated decision-maker, the opportunity cost of seeing the first week’s movie could be as high as the already high A3 (i.e., not being able to see the third week’s movie), because he or she foresees winding up seeing the second week’s movie anyway. In other words, being correctly pessimistic about the future self increases the cost of seeing the first week’s movie by the difference between A3 and A2. This is why the preproperation of schedule is mitigated in the case of sophisticated decision-makers. In short, if a decision-maker knows that he or she will wind up seeing the movie in the second week, he or she will resist seeing the movie in the first week because seeing the second-week movie would lead to a large loss: not being able to see the grand-prize winning movie in the final week. The same can also be restated as follows: by not seeing the first week’s movie, the person is guaranteeing that he or she will be able to see the grand-prize winner in the third week. Restricting the behavior of the future self through the present choice is called “self-locking” or “precommitment.” In this case, the choice of not seeing the first week’s movie acts as a precommitment device for the purpose of seeing the grand-prize winning movie. That is to say, choosing to see the first week’s movie requires the opportunity cost of giving up such a precommitment device, resulting in an extra cost of A3 minus A2.

4.3.2 Excessive Abstinence and Indulgence Due to Sophisticated Decisions

The discussion herein has become somewhat complicated. In general, choices and behavior that cannot intuitively be attributed to hyperbolic discounting could occur whenever people make choices by taking into account the weak willpower of the future self. To reiterate, whether correctly incorporating the future self will reinforce the choice to be more abstinent or indulgent and extravagant depends on whether pessimism toward the future self will increase or reduce the cost of choosing an easy option today. Depending on it, it is possible that abstinence will be overly tightened or indulgence will end up being promoted. For example, suppose that it is best to enjoy alcohol by limiting the amount of consumption per day to a certain level. In this scenario, a sophisticated person who is aware of the weak future self may take into account the future self, who will become out-of-control once he or she starts drinking, and hence choose not to start drinking. This type of abstinence might seem desirable at first glance; however, this choice of not starting to drink is overly abstinent because exponential people who lack self-control problems would choose to enjoy drinking at a desirable level without any inconsistency. Although this behavior is hard to imagine from the perspective of hyperbolic discounting, which overestimates the immediate benefit, from the perspective of sophisticated people, having a drink now is an act that will 80 4 Self-Control Problems of the Dual Self cost dearly in the long run, and the excessive abstinence of not drinking is actually a choice under hyperbolic discounting. Conversely, there are cases in which people resign themselves to a lifelong drinking habit by recognizing their own weak willpower. In such cases, a drinking habit may wind up being reinforced by a sophisticated choice, because the cost of having one drink actually becomes lower for them than it is for naı¨ve people who do not recognize their own weak willpower. The sophisticated people make an even weaker choice because they take into consideration the weak-willed future self. As it is colloquially said, “there is no arguing with a crying child or city hall”; you cannot fight against a crying child that is the weak-willed future self, so to speak. When the present self cannot improve the weak-willed future self, no matter how he or she controls the situation, the cost of choosing an easy option will itself be lowered for today’s self, and the easy option winds up being reinforced. The mechanism behind such expectations-based behavior can explain well phenomena that cannot be explained by simple exponential discounting or the naı¨ve choice model: overly strict choices and easy choices that are made by taking the future self into consideration. Sophisticated children who take into account the weak-willed future self can endure rigorous but well-balanced study plans because they perceive the cost of not studying now to be that much larger. On the other hand, a child who has, for some reason, resigned himself or herself to unfortunate circumstances would be at a higher risk of quitting rehabilitation and becoming a repeat offender. People who do not want to become obese attempt to go on a decisive diet by taking into account their own self-control problems and avoiding procrastination. However, those who consider future obesity unavoidable due to heredity or the environment would perceive the cost of overeating to be small compared to that seen among other people. While some people refuse to turn on the TV or computer—knowing that they will not be able to stop watching TV or surfing the Internet—those who cannot work without the Internet would knowingly allow their daily lives to become dependent on the Internet. Similarly, while there are honest husbands who would not get involved in an extramarital relationship from the beginning—knowing that it would eventually become a hopeless mess—there are lovers who reinforce their relationship after having realized the difficulty inherent in breaking it off. Such circumstances have been the subjects of songs and stories since time immemorial. Excessive abstinence seems to be counterintuitive to hyperbolic discounting, and excessive indulgence and extravagance seem to contradict the assumption of sophisticated choice. However, it is not a strange phenomenon in any way from the perspective of strategic reciprocity between the present and future selves—reciprocity created when the present self takes the future self into consideration. As described below, this type of situation can also occur with saving behavior. 4.3 Excessive Abstinence and Indulgence 81

4.3.3 Does Sophisticated Decision-Making Increase or Reduce One’s Savings?

In general, a sophisticated choice that takes into account the future self can mitigate or exacerbate the negative effect of undersaving that occurs under a naı¨ve choice; which will take place depends on two effects of incorporating the future self. One is the effect of taking a pessimistic view of the future self. That is, it becomes more desirable to spend now than to save because the weak-willed future self will not continue to grow the savings and spend them wisely, even if the present self were to save now. This works toward lowering the incentive for the present self to save money. In the problem of choosing when to see one movie, it corresponds to the scenario where the tendency to accelerate the schedule is exacerbated by taking into account the future self. On the other hand, when the decision maker acknowledges that his or her weak- willed future self will not save sufficiently, he or she can anticipate that future consumption levels will be lowered. As a result, from the perspective of a consumer’s interest in maintaining consumption levels over time—also known in economics as the motivation to smooth consumption—it becomes necessary to accept the fact that there will be overspending in the future and save extra money in the present. This will work toward increasing the incentive to save. Ultimately, whether sophistication will mitigate or reinforce undersaving caused by hyperbolic discounting is determined based on the relative magnitudes of the first negative effect due to pessimism and the second positive effect due to the motivation for smoothing. Roughly speaking, the above discussion can be applied to the general problem of the intertemporal allocation of gratification because how much money to save is part of the problem of how to allocate the gratification from consumption over a certain period of time. However, please note that the second effect (namely, abstinence caused by the motivation to smooth consumption) takes place only when one considers how much money the future self will save, that is, how much money the future self’s future self will spend for consumption. In relation to the earlier movie program (Fig. 4.3), this abstinence effect is observed only in the choices of multiple movies within a given period and not in the choices of seeing a single movie. Recall that, in the decision-making problem of seeing one movie (see Sect. 4.2.5), the sophisticated choice always exacerbates the acceleration of schedule caused by hyperbolic discounting—just as one “eats an even less ripe apple.” This is because the effort to promote abstinence does not work. Here, I have discussed how savings could increase or decrease whenever the weak-willed future self is taken into consideration. However, this is strictly in comparison to the savings of naı¨ve people, who cannot correctly anticipate their own future selves. In the case of a naı¨ve choice, the decision-maker always falls into undersaving because his or her savings plan is perpetually scrapped over time. The discussion in this subsection is about how the situation changes when the preference reversal in the future is taken into consideration. Therefore, although the negative effect of hyperbolic discounting is reduced when it mitigates undersaving, this does 82 4 Self-Control Problems of the Dual Self not mean that one can generally make a more efficient choice compared to that made without hyperbolic discounting. It literally mitigates only the negative effect of hyperbolic discounting; the consequences of inherent self-control problems will probably remain somewhat typically in the form of inefficient undersaving.

4.4 Pitfalls of “Pursuing Larger Work”

4.4.1 “Which Task to Work on” and “When to Work”

Thus far, we have looked at how the self-control problem affects decision-making with regard to when to perform a single task, e.g., cleaning in the previous example. However, this type of decision is often made while simultaneously deciding what task to work on. Consider the decision involving “Should I clean?”, “Should I do my homework?”, and “Should I write a report?”. In a decision-making problem wherein one must choose from multiple tasks, as well as when to perform that task, naı¨ve people with hyperbolic discounting take an unexpected, paradoxical action; they might end up postponing a task that they would not have postponed when an important task that could generate a greater benefit in the long run is added to the choices. When an important task becomes available, it can bring to a halt the work that had proceeded well up until that point. O’Donoghue and Rabin (2001) analytically discussed the possibilities. For example, even though cleaning had previously been done immediately and without procrastination when cleaning was the only task among the choices, as soon as the new task of “finish writing an important report” is added to the menu of choices, “important report” is naturally chosen as the task to be worked on first. This is fine, except that procrastination which had never occurred previously can now take place in doing the task as a result. Why would such a thing happen? It is because, in the case of naı¨ve people, the criteria for deciding which task to work on differ from those used to decide when to perform the task. When choosing a task, they select the option that will generate the largest benefit in the long run (i.e., the net benefit calculated by subtracting the present value of the cost from the present value of the benefit). However, when determining whether to perform the chosen task without delay, they make the decision based on whether there is a benefit inherent in postponing the task. If the cost that must be covered immediately is large or the realization of benefit will be delayed, the task will be postponed, even if it is lucrative in the long run. This is why one encounters situations in which an “important report” that brings about in the long run a larger benefit than “cleaning” is chosen when choosing a task, but the timing of writing that report is delayed (postponed) when the cost that must be covered immediately is large. 4.4 Pitfalls of “Pursuing Larger Work” 83

For the same reason, a task could be put aside when its importance increases, even when there is no change in the menu of tasks, if a larger effort is immediately required as the degree of importance increases.

4.4.2 Procrastination Caused by Pursuing Larger Tasks

Such pitfalls will have a considerable and adverse effect, particularly on profes- sionals with non-routine work (e.g., artists, researchers, and crafts people) who decide on their own what to do and when. It is also not uncommon for a researcher to experience significant stagnation as soon as he or she conceives of a large or ideal topic or issue to work on, because the work he or she had been doing previously to earn his or her modest livelihood is suddenly being replaced and postponed. Furthermore, large work that is worthwhile does not pour in exclusively from the outside: often, we identify and create “a large task” as a hidden excuse to quit our current work. We can throw away the monotonous daily work which has a modest value and does not demand enough effort to make us want to procrastinate by bringing in some “worthwhile” or “lucrative” tasks. Of course, sophisticated people would take into account their own self-control problem, make a rational work (occupational) choice, and execute it without delay. However, since somewhat naı¨ve people have too much confidence in the perseverance of their future selves, they would continue to postpone things in the face of a new and large task and ultimately become overwhelmed. Such a case is observed in a variety of forms: the small task of organizing drawers turns into a room redecoration and becomes out of control, repeated career changes can occur in the pursuit of a “big dream,” and a researcher attempts a new and “ambitious” study despite already having numerous unfinished papers inter alia. For that matter, there are also people who actually bury themselves in small tasks that generate immediate results rather than take the time to work on meaningful tasks. Such behavior could be explained in terms of a sophisticated choice that takes into account the weak-willed future self; for those who have an accurate understanding of the seriousness of one’s own self-control problem, steadily working through immediate tasks related to livelihood is a more realistic and rational choice that can bring about higher gratification than immediately working on a large task that will not bear fruit for some time.3

3 The above discussion does not argue that trying to work on a large task is always irrational or that burying oneself in small tasks is smart. Whether to work on a small task or a large task—although this question itself is a rough notion—is probably determined based on the person’s ability, the temporal patterns of the cost and outcome, the degree of impatience (i.e., subjective discount rates), the degree of hyperbolic discounting, the degree of naivety, attitudes toward risk, and so on. In addition, as we have frequently seen, scientific discoveries and major undertakings, tasks, and outcomes that bear significant meaning have not always been derived from rational choices. It is not unusual to see an optimistic and naı¨ve undertaking ultimately leading to a very significant outcome. 84 4 Self-Control Problems of the Dual Self

4.5 Beneﬁt of Self-Trapping

4.5.1 Precommitment

Sophisticated people, who are aware of their self-control problem, can ensure their own benefits by “tying the hands” of the future self in advance. For example, in the case of deciding which movie to see with one ticket in the movie problem discussed using Fig. 4.3, one can prevent the self in the second week from half-heartedly seeing the second-place movie by exchanging the ticket in advance for a reservation ticket for the grand-prize winning movie in the final (third) week. The same can be said for the cleaning problem, wherein one must designate 1 of 3 days at the end of the year for cleaning; one can preclude the risk of the self on the 30th postponing the cleaning to New Year’s Eve by confirming in advance other appointments for the 31st. As mentioned in Chap. 1, limiting the choices of the future self in advance is called “precommitment,” and the methods and systems that can be used to make precommitments are called “(pre)commitment devices.” When a negotiation game between the present and future selves is in progress under hyperbolic discounting, one can create a good situation by using commitment devices to avoid a “prisoner’s dilemma” type of situation, that is, a situation in which the present and future selves take into account each other’s selfish behavior and wind up making choices that are detrimental to each other. Needless to say, it is none other than the present self who will benefit from precommitment because the present self is the one who controls the flow of resource allocation by using it. The present self will act to maximize its own benefit when a powerful binding commitment device is made available. However, that does not mean that the future self will always lose out, because decision-making that cannot make use of any commitment device is often merely a product of compromise to which impatient and selfish selves can mutually consent. When a commitment device is available, the future selves also benefit because they, too, are freed from a potential prisoner’s dilemma type of situation. We have known for a long time without being taught (or perhaps because we were taught) of the wisdom of binding oneself by using various commitment devices while considering the eventuality that the patience of the future self will be weaker. Such precommitment improves the efficiency of choices because when faced with a self-control problem, we can only choose the second best option. We can also say that this is because conflicting selves in different points in time play a non-cooperative game and can make only a half-baked choice to which they all can mutually consent. This point is considerably different from the thought in traditional economics. If a decision maker could always choose the best rational option and behave accordingly—as traditional economics presupposes—a precommitment that restricts his or her choices will have no value because the level of gratification that can be gained by making a choice is higher when choices can be made under fewer constraints. When deciding how to spend one’s monthly salary, one should be 4.5 Benefit of Self-Trapping 85 able to plan better by considering the allocation of money to savings and expense accounts each month rather than having a certain fixed amount for savings and then considering how to allocate the remaining amount to expense accounts (e.g., grocery and utility bills). The field of economics excludes interventions and regulations that inhibit free choices in the first place, as they basically compromise the efficiency of choices and thus the efficiency of resource allocation. However, once the premise that one is able to choose the best option becomes untrue due to self-control problems, such an argument loses its validity. If the decision-maker is sophisticated enough to choose by anticipating future preference reversals, then he or she can improve the choice by voluntarily using an available commitment device. An economist who noted this point as early as 1956 was Robert H. Strotz, a faculty member at Northwestern University at the time and thirteenth President of the university later. His paper entitled “Myopia and Inconsistency in Dynamic Utility Maximization,” which includes an epigram that quotes a passage from The Odyssey, wherein Odysseus ordered his comrades to bind him to the mast during a voyage so as not to run aground lured by the Sirens’ fascinating singing, was published in The Review of Economic Studies, a journal in which young energetic economists of the time competed to publish important papers (Strotz 1955). This paper presents a problem which I believe has not heretofore been analysed and provides a theory to explain, under different circumstances, three related phenomena: (1) spend thriftiness; (2) the deliberate regimenting of one’s future behavior—even at a cost, and (3) thrift. The paper, which begins with this sentence, is now quoted quite frequently as one of the most influential studies in the field of dynamic decision-making. Surprisingly, the behavior of using a commitment device to ensure a long-term benefit has also been confirmed in experiments involving pigeons. As we can see from the argument related to the matching law, pigeons also exhibit preference reversal, that is, when presented with a choice between getting a small feed now and getting a large feed later, pigeons choose the delayed large feed when the options are set in the far future but choose the immediately available small feed when the options are in the near future. A button that enables precommitment is placed before the pigeon that is facing the self-control problem of choosing the immediate small feed or larger future feed. The button facilitates the making of a precommitment: the pigeon is allowed only to choose the large, delayed feed once it is pecked. George Ainslie, who was a psychology researcher at Harvard University, reported that pigeons indeed pecked the commitment button at a rate of 50–90 % to ensure a larger long-term benefit (Ainslie 1974). Appropriately, he quoted Strotz’s article (Strotz 1955) and stated that the results of the pigeon experiment supported Strotz’s theoretical hypothesis (Ainslie 1974, p. 488). 86 4 Self-Control Problems of the Dual Self

4.5.2 Illiquid Assets and Education as Commitment Devices

We do not have to be pigeons to understand—or, more precisely, because we are not pigeons—that (pre)commitment is a useful means of coping with self-control problems. In fact, if you look around carefully a little, you will soon find a variety of commitment devices that are commonly used: not opening a credit card account, studying in the library, telling everyone that you have stopped smoking or what your dieting goal is, telling everyone about the university to which you are applying, submitting a marriage registration, attending summer school, buying clothing that fits tightly, participating in a fasting training course, and so on. Although their binding effects vary, these are all what we use as commitment devices to “bind the hands” and prevent impatient behavior that runs counter to the long-term benefit. Conversely, we devise ways by which to avoid committing ourselves as much as possible to behavior that will interfere with a long-term benefit; not stocking up on cigarettes and not buying snacks in bulk are some examples. I will discuss the methods of precommitment separately in Chap. 6. There is also a wide range of commitment devices that address undersaving. Although the level of precommitment varies, examples such as savings-based insurance that bears a high cancellation fee, time deposits, installment savings, and piggy banks that you must break in order to access the contents are devices that help you save money. In addition, the national pension is an example of an institutionally enforced precommitment to save money. The corporate defined contribution pension plan, or 401(k), in the United States is also an example of institutionalized pension-fund reservation. What becomes key when considering precommitment that addresses undersaving in this way is the illiquidity nature of the assets. Since the liquidity of assets refers to the ease of selling an asset and converting it to cash—or its “cashability”—illiquidity refers to the difficulty of converting an asset to cash. Cash, by definition, has a liquidity of 100 %, but its liquidity is slightly lost in the case of time deposits, because it will cost an individual to cancel and cash them. Stocks and land are even more illiquid because their liquidation involves various costs (e.g., time, commissions, and uncertainties of selling price). The liquidation of savings-type insurance, installment savings, and 401(k) also incurs a considerable cost in the form of processing fees for early cancellation. As for a piggy bank, the cost of a broken and ruined bank reduces its liquidity. On the other hand, because credit cards are devices by which to increase liquidity, one can try to make assets somewhat illiquid by reducing the available line of credit or not having a credit card at all. The point is that these forms of asset illiquidity are what enable you to commit to holding assets because you can prevent each “future” self from cashing the assets and using them to overspend, whenever struck under hyperbolic discounting by the urge to spend. Time deposits, installment savings, a national pension, and piggy banks are all types of assets held in low-liquidity forms. Land and stocks are also effective commitment devices from the perspective of illiquidity. 4.6 Theory of the “Golden Eggs” 87

Human capital may be the most illiquid asset of all. Once skills and knowledge gained through experience, training, and education are formed, they cannot be taken away, nor can the accumulated knowledge ever be reverted to zero. When parents educate their children instead of leaving “fertile field” properties, this can be considered a type of commitment device that keeps children from reducing future assets by overspending, thus preserving the assets (see Supplement C below). At the same time, however, it should be noted that the economic principle remains true, that flexibility in decision-making can increase the level of gratification one can attain. Because tying one’s own hands involves the risk of not being able to respond to unexpected environmental changes, there are two sides to using a commitment device: the benefit of ensuring the long-term benefit by restraining the future selves and the cost of limiting the ability to handle unexpected situations. A procedure by which to compare these advantages and disadvantages then becomes necessary when considering the use of a precommitment device.

4.6 Theory of the “Golden Eggs”

4.6.1 The Goose That Lays the Golden Eggs

A large proportion of the assets that we hold consists of relatively illiquid items, such as stocks, land, and pension funds. For example, estimates by David Laibson, a professor of economics at Harvard University, indicate that illiquid assets such as real estate occupy more than 90% in total assets. Such a fact would be difﬁcult to explain, unless we were to assume that illiquid assets are actually used as commitment devices (Laibson et al. 2003). This phenomenon would be strange indeed if we had no self-control problem and were always able to choose the best option; in such circumstances, we would have convenient liquid assets when saving money. Many of the empirical puzzles that cannot be explained by traditional macroeconomic theory can be explained by considering the precommitment function of illiquid assets under the assumption of hyperbolic consumers. It is the “golden eggs” model of Laibson that demonstrates this point (Laibson 1997). Ranking alongside Strotz’s paper, Laibson’s paper, “Golden Eggs and Hyperbolic Discounting,” published in the academic journal The Quarterly Journal of Eco- nomics and edited by Harvard University, is one of the studies on the economic implications of hyperbolic discounting to have had the greatest impact on macroeconomic theory. Laibson likens illiquid assets to the goose in the Aesop fable that lays golden eggs. It is a story of a man who was bestowed by the god Hermes with a goose that lays golden eggs; however, he cuts the belly of the goose and kills it, all because he could not wait for the eggs to be laid. Indeed, if you want to obtain golden eggs and allocate them for spending, you need to raise the goose and wait for it to lay eggs, one by one. In this sense, the goose is an illiquid asset. 88 4 Self-Control Problems of the Dual Self

Let us consider a consumer who is currently facing a self-control problem under hyperbolic discounting. He or she has liquid assets and illiquid assets (i.e., a goose that lays golden eggs). Whereas liquid assets can be turned into cash immediately, illiquid assets cannot be used for present spending because it takes time to convert them into cash. The objective of the consumer is to take his or her earned income, as well as interest generated from the assets in each period, and allocate them appropriately to spending and saving in order to maximize utility over his or her lifetime. To simplify the story, assume that he or she cannot borrow money. Now, if the consumer were to behave in a sophisticated manner by correctly anticipating preference reversal in the future, his or her present self could convert and hold the assets in an illiquid form in order to prevent the future self from wasting the assets. In addition to being able to explain a variety of macro-level phenomena that cannot otherwise be explained by traditional standard macroeconomics, the “golden eggs” model can explain the presence of these prevalent illiquid assets well, as we see below.

4.6.2 The Invalidity of the Permanent Income Hypothesis

In standard neoclassical economics, the income that is thought to determine the spending level at a given time is the permanent income—the average level of income one is expected to earn over a lifetime—rather than the current income at that time. Because people dislike consumption ﬂuctuations and tend to try to smooth it out, they can achieve a high level of welfare by saving money when the current income is high and withdrawing savings or borrowing when the current income is low, rather than changing the spending level in line with temporary changes in current income. It is the permanent income that determines this smoothed spending level (see Fig. 4.4). The thought that spending is determined by permanent income, based on this type of dynamic perspective, is referred to as the permanent income hypothesis. However, as one can probably imagine from actual experience, the permanent income hypothesis does not explain real consumer behavior well. Our spending level actually has a strong positive correlation with income; the spending level is high when the economy happens to be strong and the income level is high, and it becomes low when the economy is weak and the income level is low. Figure 4.5, which shows monthly data over 11 years starting from January 2000, plots changes in current income and consumer spending in real terms. We see that there is actually a strong positive correlation. The correlation coefﬁcient is 27.5 %—a statistically strong correlation that can be shown to exceed the margin of error. Based on the “golden eggs” model, this phenomenon can be explained as follows. As explained earlier, sophisticated consumers would hold their assets in illiquid forms from the beginning in order to cope with their self-control problems. Since they do not have enough (liquid) assets to take out for spending, they are forced to lower their spending level when their income happens to drop due to the 4.6 Theory of the “Golden Eggs” 89

Fig. 4.4 Permanent income effects of business fluctuation. Conversely, when the economy improves and their income increases more than they had expected, the present selves with a higher propensity to spend under the influence of hyperbolic discounting fully enjoy their good luck by increasing their spending rather than putting them aside for savings. In this way, the spending level aligns itself with the wave of income and exhibits a cycle. Figure 4.6 is depicted by partially modifying the example provided in the paper by Laibson (1997). It uses a numerical example to show how the spending level correlates with the ups and downs of income. What is interesting is that this curve is similar to the response curve obtained from animal experiments in behavioral psychology. When feed—referred to in psychology as a “reinforcer”—is given in line with certain rules, the response rate begins to oscillate cyclically with the timing of the feed (Hirota et al. 2006). The argument inherent in the permanent income hypothesis is that because human consumers are unlike pigeons and have a rationality to smooth out spending by using the financial markets, they must maintain a certain spending level (response) without being affected, even when the “feed” (i.e., income) fluctuates. However, as indicated by the actual and strong correlation between income and consumption spending, consumers change their spending in response to changes in the income level, just as the pigeons act cyclically in response to the feed. It seems that there is an underlying self-control problem wherein we inevitably respond to the immediate benefit. This type of income-spending cycle is observed in various forms of other economic behavior. Because you cannot stock up for later if you are lured by the “feed” and eat too much, such an income-spending cycle often bears the problem of undersaving. The simplest example is a child who spends all his or her allowance as soon as he or she gets it and then waits for the next allowance day while feeling sorry for himself or herself. Similar income-spending cycles are observed among 90 4 Self-Control Problems of the Dual Self

(a) 10%

-2%

-4%

-6%

-8%

-10%

-12% 00 01 02 03 04 05 06 07 08 09 10

(b) 10%

4% R² = 0.078 2%

0% -12% -10% -8% -6% -4% -2% 0% 2% 4% 6% 8% 10% -2%

-4%

-6%

-8% Real income

Fig. 4.5 Correlation between income and consumption spending. Note: Prepared based on the current income of working households, consumer spending, and consumer price index data from the Survey of Household Economy by the Statistics Bureau, the Ministry of Internal Affairs and Communications, Japan. (a) Time variation in real income and real consumption spending for working household (compared to the same month of the previous year) (January 2000–January 2011). (b) Scatter plot (log difference with the same month of the previous year) recipients of pension or life security. We will look into this point in greater detail in the next chapter. The following point is important to understand correctly the covariation of income and spending that would occur in the “golden eggs” model. When there are borrowing constraints, as in our scenario, spending begins to exhibit a 4.6 Theory of the “Golden Eggs” 91

Fig. 4.6 Income-spending cycle in the “golden eggs” model. Note: Prepared by referencing the numerical examples in Figure II of Laibson (1997) correlation with income, even in a normal setting in which there is no self-control problem. This happens because there is no choice but to cut spending when the income drops and one cannot borrow money, even if one wishes to. However, in such a case, a positive correlation between spending and income is observed only among poor consumers who are hindered by borrowing constraints, because households that have sufficient assets are able to smooth out their spending while using their assets as insurance. The point of the “golden eggs” model is that it shows that consumers control themselves by holding illiquid assets and intentionally making themselves subject to borrowing constraints in order to avoid self-control problems, even if they possess sufficient assets. Naturally, this will generate welfare loss; however, they hold illiquid assets because there is a greater benefit in restraining the weak-willed future selves from overspending when the income level is sufficient. As a result, even wealthy households with assets exhibit an income-spending cycle. One typical case of a rapid reduction in the consumption level caused by a decrease in current income, despite the holding of assets, is the change in consumption at the time of retirement. Although it is normal for one to suddenly reduce spending while holding assets as one retires, it seems that this is a large reduction that cannot be explained solely by the fact that work-related expenditures are no longer necessary. The explanation provided by the “golden eggs” model is that consumption is curbed upon retirement because retirees hold illiquid assets such as 92 4 Self-Control Problems of the Dual Self pension funds and real estate while the liquidity of current income is reduced.4 There seems to be one aspect of reduced consumer spending, wherein retirees are protecting their after-retirement lives by holding assets that are illiquid rather than liquid.

4.6.3 Consumption Propensity from Income Higher than That from Assets

We normally increase consumption when income or assets increase for some reason. When that happens, the percentage figure that indicates the increase in consumption relative to the increase in income and assets is called the marginal propensity to consume (MPC). For example, for a person who increases his or her consumption by USD 80 when his or her income increases by USD 100, the MPC is 0.8. Because the amount of increase in income and assets that is not consumed will be saved, 1 minus MPC is called the marginal propensity to save (MPS). In the above example, the MPS amounts to 0.2. The MPC literally reflects our preference for consumption. The larger the value, the more likely we will increase the amount of consumption spending relative to the amount of savings when income and assets increase. Would the MPC be the same then regardless of whether the underlying income increase occurs in wage income or income from assets? To be more concrete, would the amount of increased consumption be the same if the wage income in this period were to increase by USD 100 compared to that if the value of stocks and land held by the person were to increase by USD 100? In fact, there is evidence that this is not the case. Richard Thaler (1990) classifies assets held by consumers into three categories (income, financial assets, and future income) and shows that the corresponding MPCs are ranked in decreasing order: thus, income, financial assets, and future income. We can also understand from experience that the way in which consumption increases differs as Thaler indicates when we compare three scenarios: an unexpected increase in bonus, an increase in home value, and an approved salary rise for the next year. Standard economics cannot explain such differences in MPC. Because standard economics does not differentiate money that takes the form of income versus capital gains in stocks, it usually takes all increases as the same permanent income increase, all of which is thought to help increase consumption in the same way. While Thaler himself

4 Laibson et al. (2003) point out that there is the possibility that sophisticated consumers wind up saving more money when there is no commitment device such as illiquid assets. This seems to be a case of excessive abstinence that occurs with being sophisticated, as described earlier. See also Diamond and Koszegi (2003). 4.6 Theory of the “Golden Eggs” 93 explains this phenomenon by using his idea of mental accounting,5 it can be explained more economically by using the “golden eggs” model. As consumers face their own self-control problems, if they were sufﬁciently sophisticated, the present self (who has a higher propensity to consume) would be forced by the past self (who had made a long-term plan) to hold illiquid assets and not overspend. Therefore, the case in which the increase in earnings occurs in wage income or liquid assets would differ from that in which the increase occurs in illiquid assets. When earnings have increased in a form such as wage income and liquid assets, which can be spent immediately, it is spent by the present self, who has a high propensity to consume. However, when the value of illiquid assets such as land and stocks increases, this does not mean that the present self can increase consumption. Of course, he or she could still convert illiquid assets to liquid assets so that the future self after this period could increase spending; however, given the nature of hyperbolic discounting, the present self is patient when planning the future self’s consumption and hence tries to suppress future consumption. In this way, the MPC of illiquid assets becomes lower compared to the MPC of liquid assets. In general, it is thought that the MPC is higher for more liquid assets under hyperbolic discounting because the higher the liquidity of the assets, the less time it takes to liquidate them for consumption.

4.6.4 The Debt Puzzle

Some people have credit card debt, even though they have wealth in less liquid forms (e.g., lands and stocks). Table 4.2 shows the summary results with regard to the household finances of high school graduates as of 1998, constructed by the research group of Laibson and others by using US data from the Survey of Consumer Finances (Laibson et al. 2007). We see that, on average, more than two-thirds of households therein have credit card debt equivalent to over 10 % of their annual income, while the households headed by those in their 50s have saved assets that represent more than 2.6 times their annual income. The same phenomenon is also seen in Japan. The total amount of credit card debt in 2010 amounts to JPY 33 trillion (“Summary Results on Credit Card Trend Study,” the Japan Consumer Credit Association), which is equivalent to 12.2 % of total household consumption in the same year. Meanwhile, the ratio of financial assets to income among the households headed by those in their 50s reached approximately 2.1 by the end of the 2010 fiscal year,6 indicating that consumers

5 According to Thaler’s mental accounting, whereas items such as an unexpected bonus increase are classified as part of a mental “checking account” and allocated to daily consumption, financial assets and human capital are managed as savings under a “savings account.” 6 Calculations are based on the savings and debts of the age group of the household head in the 2010 fiscal year, as found in the Survey of Household Economy, the Ministry of Internal Affairs and Communications’ Statistics Bureau. 94 4 Self-Control Problems of the Dual Self

Table 4.2 Solving the debt puzzle using hyperbolic discounting Estimated value Actual Exponential value Hyperbolic discounting model discounting model Personal discount rate Short term Long term 16.70 % 39.50 % 4.30 % % of individuals with 67.80 % 63.40 % 66.70 % credit card debt % of credit card debt 11.70 % 16.70 % 15.00 % to income Asset/income ratio 2.60 2.69 À0.05 among households headed by those in their 50s (retirement savings rate) Note: Prepared by the author, based on Laibson et al. (2007) are building up their assets at an extremely rapid rate in order to prepare for their retirement. These two facts, namely, the rapid accumulation of assets or high savings rate and the high percentage of credit card debt, cannot actually be explained simultaneously by traditional economic theory, which assumes exponential discounting. This is because one must assume a low long-term discount rate to explain the high savings rate while assuming a high short-term discount rate to explain credit card debts that require high interest payments. In the case of exponential discounting— where the discount rate does not change, whether in the short or long term—the behavior related to saving for retirement and the behavior related to borrowing against credit cards contradict each other in the first place. Laibson and his colleagues refer to these seemingly contradictory facts of rapid savings for retirement and a high percentage of credit card debt holders as the “debt puzzle” (Laibson et al. 2003). As shown in Table 4.2, although it is possible to estimate the subjective discount rate as 16.7 % by forcibly assuming exponential discounting, it is just impossible for such a high discount rate to explain a high pre-retirement asset-to-income ratio of 2.6, even though it can explain the credit card debt. Such a puzzle can be explained if we consider the dual nature of hyperbolic discounting. Although hyperbolic consumers with a high propensity to consume change their spending level whenever there is a short-term fluctuation in income, they simultaneously make a long-term savings plan at a lower discount rate. This is the dual nature of the behavior that I explained in the previous chapter in terms of “looking 10 years into the future while discounting tomorrow.” Undoubtedly, if the consumer is a naı¨ve decision-maker, his or her strict long-term plan will be scrapped over time by his or her future self in each given moment. However, a sophisticated consumer would be able to commit to a long-term savings plan by locating saved money in advance in the form of illiquid assets. Therefore, the 4.6 Theory of the “Golden Eggs” 95 present self covers his or her spending by using a credit card whenever there is some negative income shock, all the while thinking about a longer span of time and building his or her assets in the forms of stocks and real estate. Although he or she would naturally need to pay higher interest with respect to credit card debt, it is worth bearing that interest, compared to leaving assets in a liquid form and overspending them. In fact, Laibson and his joint researchers conduct a simulation analysis under environmental settings that reflect the actual US economy (i.e., in terms of the stochastic process of earned income, the existence of liquidity constraints, the number of dependents, the existence of illiquid assets, voluntary bankruptcy system, mortality rate, etc.) and demonstrate that hyperbolic discounting can solve the debt puzzle well. There, they estimate a short-term discount rate as high as 39.5 % in order to explain the high percentage of credit card debt holders and the large credit card debt amount in reality while estimating a low annual long-term subjective discount rate of 4.3 % to explain the rapid build-up of retirement assets. That being said, we need to note the following point: despite the impression one would get from the term “debt puzzle,” the above discussion does not make an issue of excessive debt or undersaving. Rather, Laibson and his colleagues argue that as long as consumers are sophisticated and rational, they can use illiquid assets as a commitment device to bring about a long-term savings plan that is not affected by preference reversal while at the same time borrowing money to ensure short-term liquidity, even if they are faced with self-control problems under hyperbolic discounting. This conclusion is based on two major assumptions. The first is the assumption that illiquid assets can be utilized as a perfect commitment device. For example, the “golden eggs” model implicitly assumes that hyperbolic discounting and illiquidity occur within the same time span. However, if the time required to cash an illiquid asset is shorter than the time span of hyperbolic discounting, that asset will no longer function as a perfect commitment device and the present self will no longer be able to commit fully to the long-term savings plan. As a result, long-term asset- accumulation would be hindered by hyperbolic discounting. Second, how sophisticated the consumer is becomes an issue, particularly when considering undersaving and excessive debt. If a consumer is a somewhat naı¨ve decision-maker, he or she does not have an incentive to deliberately hold his or her wealth in an inconvenient form of illiquid assets, even if such commitment devices are available. As a result, he or she will wind up being directly affected by unexpected self-control problems and fall into a state of undersaving. I will discuss this in more detail in the next chapter.

4.6.5 The Ricardian Equivalence Theorem Does Not Hold

When the government issues bonds and reduces taxes, what effects will these have on consumers? Although the government issues bonds in order to raise funds and 96 4 Self-Control Problems of the Dual Self reduce taxes, the difference naturally needs to be repaid by increasing taxes in the future. Therefore, while disposable income at hand increases due to tax cuts, the government bonds promise an equivalent tax increase in the future. Put otherwise, nothing changes in terms of the pocketbook—or the permanent income—of those consumers who think ahead. The proposition that the financing method of government has no effect on our consumption and welfare is referred to as the “Ricardian equivalence theorem.” While one should readily find this theorem in economics textbooks as one of the most basic propositions, it does not actually hold true when the consumer is hyperbolic (Laibson 1997).7 This is because tax changes made by the government affect the liquidity of consumers’ wealth. For example, because reduced taxes will increase the disposable income—even though the permanent income has not changed—the present self with a high propensity to consume will spend a greater amount of the immediately disposable income. In other words, the equivalence theorem does not hold because reduced tax has the effect of increasing consumption. As you can see, this is the other side of the fact that the permanent income hypothesis does not hold. In short, the present self who is tempted by the immediate liquidity winds up changing his or her consumption when the cash flow at hand changes due to temporary economic fluctuations or the government’s changes in tax policy, even if the permanent income does not change. There is also one point that should be noted regarding the Ricardian equivalence theorem under hyperbolic discounting: the proposition becomes valid again when the consumer can anticipate the tax cut in advance. For example, let us say that there is an announcement that taxes will be cut 1 year from now. When the present self considers the long-term life plan, he or she would not like the self 1 year from now to increase the disposable income and spend it all. To avoid that situation, the present self undoubtedly “ties the hands” of the self 1 year from now a bit tighter by turning an extra amount of liquid assets into illiquid assets before “passing the baton” to the self 1 year from now. In this scenario, a tax cut would not change consumption because the present self is able to force the self in 1 year to follow the long-term savings plan, even if there is a tax cut.

4.6.6 Financial Innovation: Flexibility Versus Precommitment

The development of the credit market in recent years has been remarkable. Even if you do not have cash, you can buy almost anything with a credit card. In Japan, one can also borrow JPY 500,000 by just presenting a driver’s license or student

7 In cases where one does not feel the pain of the future tax paid by one’s children and future generations as much as when one himself or herself bears the tax, the equivalence theorem will not hold true regardless of the argument made below. 4.7 Naı¨ve or Sophisticated? 97

ID. From the perspective of standard economics, which assumes exponential discounting, such credit market developments in themselves bring us benefits because it becomes easy to smooth out consumption levels over time, despite the various income fluctuations. We can say that they improve the flexibility of intertemporal choices and, through the gains of trade, increase our welfare levels. However, when we are hyperbolic and have self-control problems, such financial market developments will not necessarily benefit us because even if the assets are held in illiquid forms, the impatient present self could borrow against the land if a loan can be readily obtained by using the illiquid asset as collateral. This is even more so when borrowing is possible in the absence of collateral. That is, while there is merit to making the intertemporal allocation of consumption more efficient, financial innovations have an undesirable side that compromises the functionality of the commitment device by increasing asset liquidity. Under the “golden eggs” model, securing long-term benefits by using the illiquid assets model is possible because the model assumes that one cannot borrow. However, securing long-term benefits becomes impossible once a financial market where one can borrow is put in place. The present self in each given moment is unable to directly control the future self’s high propensity to consume and fall into a state of undersaving. Needless to say, the present self is able to spend a sizeable amount to satisfy the urge, thanks to the provision of more liquid assets; however, there is the negative effect that the future selves will overspend just as well (from the perspective of the present self). Because this negative effect usually exceeds the benefit especially in developed countries, credit market advancements end up lowering the welfare levels of hyperbolic people. Laibson estimates that the welfare loss that is caused when illiquid assets no longer function as a commitment device due to the introduction of a credit market is at least several percentage points of the income produced; it may be as much as several dozen percentage points, depending on the degree of hyperbolic discounting involved. To reiterate, streamlined financial markets that make it easier to ensure the liquidity of assets, i.e., the improved flexibility of intertemporal choices, offers the considerable benefit of making resource allocation more efficient. Therefore, a quantitative assessment to compare the benefit and the side effects due to self- control problems, as described above, becomes necessary in determining which is larger and in making a practical policy decision. We will see in the next chapter that such side effects probably exist to a non-negligible extent.

4.7 Naı¨ve or Sophisticated?

In the previous section, I explained the important function of illiquid assets as a commitment device and the implications thereof. Now, the notion that consumers use “the goose that lays the golden eggs,” namely, illiquid assets, as a commitment device is based on the assumption that they are sophisticated decision-makers— 98 4 Self-Control Problems of the Dual Self individuals who acknowledge their own self-control problems under hyperbolic discounting. However, are people sophisticated decision-makers in the ﬁrst place? This is an important point when they consider their own actions, as well as when policymakers consider policy measures. If they are already sophisticated decision-makers, an effective policy measure would be to improve choices by providing commitment devices in various forms, as explained in the previous section. If people are naı¨ve decision-makers, guiding or restricting choices and actions through policy instru- ments would be an important policy challenge in some cases, in addition to providing education on how to improve their decision-making.

4.7.1 Partially Naı¨ve

Although we definitely need to await the results of empirical studies for an exact answer as to whether people are sophisticated or not, it is quite certain that the answer will not be a simple “yes” or “no.” It seems that people are often aware of the unreliability of the future self and try to become sophisticated decision-makers, even though they do not know of concepts such as hyperbolic discounting and preference reversal. The fact that various commitment devices—like the ones described in the previous section—are being used lends evidence for this. As we see with the old term akrasia (acting against one’s better judgment) in Greek philosophy, self-control and internal conflict in the future are issues that we as humans have been aware of and about which we have fretted since ancient times; it is also the theme of much art. These facts imply that we have been aware of our own propensity to indulge in immediate pleasures that hurt our long-term interests. One of the important points is that such awareness still seems insufficient in many cases. When you are aware of your self-control problems that stem from hyperbolic discounting and nonetheless underestimate your own degree of hyperbolic discounting, some unexpected preference reversals will occur over time; accordingly, as in the case of naı¨ve decision-making, unplanned procrastination and schedule acceleration will take place. Such decision-makers who are somewhat unable to anticipate their own weakness are referred to as “partially naı¨ve” decision-makers (O’Donoghue and Rabin 2001). What I would like to point out here is that most of us probably fall under the category of partially naı¨ve decision- makers. The findings of the 2010 online survey introduced in Table 3.1 of the previous chapter also indicate that naı¨ve decision-makers who end up finishing their homework assignments later than the original plan accounted for 60 % of all respondents with the hyperbolic tendency. When the sample is limited to the respondents who have the tendency to procrastinate and completed the homework assignments in the second half of the vacation, as many as 88.7 % were naı¨ve decision-makers who had scrapped their original plan. Granted that they were not completely unaware of their 4.7 Naı¨ve or Sophisticated? 99 own self-control issues, it is probably reasonable to think that many of them were partially naı¨ve decision-makers who somewhat underestimated preference reversal in the future. It is difficult to regard all failed behaviors and choices—undersaving, multiple debts, obesity and other lifestyle-related diseases, various dependencies, impro- vised excuses and lies, repeated crimes, and so on—as the outcomes of sophisticated choices to act without contradiction, by taking into account just the right amount of one’s own weakness. The fact that failed choices are often accompanied by unexpected changes in a plan, or excuses that rationalize those changes, speaks for itself.

4.7.2 Deadlines and Efﬁciency

Famous field experiments conducted by Dan Ariely and Klaus Wertenbroch at the Massachusetts Institute of Technology suggest that people’s behavior across time is actually not very sophisticated (Ariely and Wertenbroch 2002). Ariely and Wertenbroch conducted the following experiments among students within a class to assess their level of understanding of and their capability of dealing with their own self-control problems. The students are told on the first day of class that they need to turn in three reports over the course of a 14-week semester. The subjects are randomly divided into two groups with different deadline settings: one is a “no-choice” group (48 students) with three forcibly imposed, evenly spaced deadlines; the other is a “free-choice” group (51 students) in which students are allowed to choose and report their own deadlines before the second day of class. In both groups, the score of any student who misses a deadline is reduced by one percentage point per day. Although they are told that the final deadline is the last day of the 14-week period, the students in the “free-choice” group are allowed to choose the other two deadlines in any way they like. They can push those two deadlines to the final deadline to virtually eliminate extra deadlines. They can also set evenly spaced deadlines, just like those seen in the other group. In other words, being in the “free- choice” group allows the students therein to freely take into account the laziness of their own future selves and determine whether to set deadlines during the semester and, if so, at what intervals to set the deadlines. So, what were the results? First, as many as 73 % of the students in the “free- choice” group chose deadlines during the semester that were other than the last day, indicating that the students were well aware of their own self-control problems. On the other hand, the average performance score among students in the “free-choice” group was 85.67, compared to 88.76 among students in the “no-choice” group, showing that performance was lower among the students who had freely decided their own deadlines. If the students were making rational choices by fully taking into account self-control problems, the “free-choice” group with more freedom of 100 4 Self-Control Problems of the Dual Self choice should have recorded better scores. We can construe that it did not work that way because the students were not fully aware of their own self-control problems and were somewhat naı¨ve planners, and so ultimately, the choices were not optimal, as expected. The fact that the performance of the “free-choice” group students who voluntarily set even-spaced deadlines was not very different from that of the students in the “no-choice” group also supports the above reasoning. To explore the benefit of setting one’s own deadlines, Ariely and Wertenbroch conducted a second study, which they termed “Study 2.” Here, subjects in three groups, each with different deadline settings, are asked to proofread for money. There are three jobs, and the subjects in the first group are told to submit jobs one by one on the deadline that comes every 7 days (i.e., the “evenly spaced deadlines” group). The subjects in the second group choose three deadlines during the 21-day period based on their own preference (i.e., the “self-imposed deadlines” group), while the last day was set as the unique deadline for the subjects in the last group (i.e., the “end-deadline” group). The results were quite straightforward: the job performance was the highest among the subjects in the “evenly spaced deadlines” group, followed by the “self-imposed deadlines” group and the “end-deadline” group, in terms of both quality and quantity. The new point demonstrated in Study 2 is that job efficiency improves when one can self-impose deadlines compared to when there are no in-between deadlines at all. The subjects in the “end-deadline” group could have chosen to personally set deadlines if they were aware of their own self-control problems; however, the above results suggest that such informal self-management does not work very well in disciplining oneself.

4.7.3 When to Start Studying for an Examination

The results of the experiments of Ariely and Wertenbroch strongly suggest the possibility that people often make a choice that ends up hurting their long-term beneﬁts, because although they are sophisticated enough to take the weak future self into account, that is still not enough. However, their experiments cannot uncover what percentage of people are actually aware of their own self-control problems and what percentage of people are partially naı¨ve decision-makers to some extent. Wei-Kang Wong (2008) at the National University of Singapore conducted a ﬁeld experiment involving 445 students enrolled in his introductory macroeconomics class by asking when they begin preparing for the midterm examination; he demonstrated that a quite high percentage of these people are only partially aware of having self-control problems. Wong asked about the ideal, predicted, and actual dates to start preparing for the midterm examination by posing the following questions. 4.7 Naı¨ve or Sophisticated? 101

Q1 (Ideal date to start): What is the optimal or ideal date for you to start preparing for the midterm? Q2 (Predicted date to start): Knowing yourself, what is the predicted date you think you would start preparing for the midterm, whatever the ideal date may be? Q3 (Actual date to start): What was the actual date you started preparing for the midterm?

Q1 and Q2 are asked 3 weeks before the midterm begins; Q3 is asked on the day of the midterm, just prior to the examination. What is interesting with this study is that we can compare the responses to these three questions and determine whether a subject has self-control problems (time inconsistency) and assess his or her level of naivety. First, by taking the responses to Q1 and Q3 and comparing the ideal and actual starting dates, we can check whether there are self-control problems: students who could not start preparing for the examination on or before the ideal date are assessed as having self-control problems; otherwise, students are regarded as exponential decision-makers who are not troubled by such problems. For those students who were assessed as having self-control problems, we can estimate how well they were able to follow the prediction (plan) to start preparing for the examination in reality by using the responses to Q2 and Q3 and identifying whether the subject is naı¨ve or sophisticated. Next, by comparing the ideal (the response to Q1) and the predicted (the response to Q2) among the students who were identified as naı¨ve, we can determine how unware they are of their own self-control problems or how naı¨ve they are. The students who predicted that they were able to start preparing on the ideal date as planned are identified as naı¨ve decision-makers who are completely unaware of their own self-control problems, while those who somewhat predicted that things would not follow the ideal are identified as partially naı¨ve decision-makers. Wong’s results are summarized in Table 4.3. First, it shows that a majority (93.8 %) of the subjects have self-control problems. Second, as we have discussed thus far, most (86.8 %) of the subjects with self- control problems are partially or completely naı¨ve, whereas only 13 % of the subjects are completely sophisticated. Wong further indicated that the students identified as having self-control problems performed better in class compared to other students. Moreover, they were likely to overestimate the performance level they could achieve. Based on the results of the above field experiments, we can derive the following implications. People as humans have the wisdom to realize their own self-control problems and use commitment devices on themselves. While it is true that this wisdom improves work outcomes and the efficiency of choices, relying solely on the use of commitment devices is insufficient because the awareness of self-control problems is imperfect and there is much room for improving choices and behavior. 102 4 Self-Control Problems of the Dual Self

Table 4.3 80 % are naı¨ve or partially naı¨ve # (%) of students without self-control problems # (%) of students with self-control problems 28 (6.2 %) 417 (93.8 %) Naı¨ve Partially naı¨ve Sophisticated 98 (22.0 %) 264 (59.3 %) 55 (12.4 %) Note: Prepared by the author, based on Wong (2008)

In terms of policy measures, it will be necessary to provide institutionalized commitment devices on the premise of sophisticated decision-making while providing education and intervention on the premise of naı¨ve or at least partially naı¨ve decision-making. I will discuss this point in greater detail in Chap. 6.

4.8 Willpower and Self-Control

4.8.1 What Is Willpower?

To control oneself and make a future-oriented choice without automatically changing one’s mind when faced with some sort of temptation, it is necessary to have specific mental resources or willpower. “Willpower” is a common term that is routinely used; however, studies in psychology and neuroscience in recent years have actually shown “willpower” to be an ability that has scientifically measurable underpinnings. Like physical strength and energy, willpower has the following three properties. 1. It is easily exhausted and depleted (exhaustibility and depletability). 2. It is commonly used in a variety of behaviors and choices that require self- control (multi-purposeness). 3. It can be trained (malleability). From moderation in life activities and diet regimen to performing work, maintaining human relations, and complying with laws and regulations, a large range of behaviors require self-control. Willpower as a common resource for the self-control activities is a scarce resource that becomes easily exhausted (exhaustibility); these various activities compete for this resource (multi-purposeness). On the other hand, it is said that “adversity makes a man wise,” and the experience of self-control has the effect of training (malleability) an individual’s willpower. For example, suppose that we ask each subject in three randomly formed groups to create a sentence for each image that comes to his or her mind. We instruct the subjects in Group 1 to write sentences without thinking about polar bears (!); those in Group 2, to try to think about polar bears as much as possible; and those in Group 3, without mentioning polar bears, to think freely when writing sentences. After asking them to perform this task for a certain period of time (6 min), we give them a 4.8 Willpower and Self-Control 103 difficult puzzle (a puzzle that is actually unsolvable) and determine how many minutes they work on the puzzle before giving up. How do the results differ by group? The results of this unique experiment, which was conducted with 58 subjects by Mark Muraven and his joint researchers (Muraven et al. 1998), showed that the subjects in Group 1, which had been instructed not to think about polar bears, gave up on the puzzle in the shortest time, on average (Group 1 ¼ 56.3 s; Group 2 ¼ 86.7 s; Group 3 ¼ 75.8 s). This result can be interpreted thus: the subjects in Group 1 were no longer able to control themselves and work on the puzzle because their willpower had been exhausted by the thought-suppression task of not thinking about polar bears. In this way, when subjects are asked to perform two unrelated tasks that require self-control, one after another and without advance warning, performance with respect to the second task worsens, compared to when it is performed indepen- dently. This is because the first task exhausts one’s willpower and weakens the individual’s self-control, which could otherwise be used in the second task. It is for this reason that it is not uncommon for people to eat junk food or drink too much on the way home after a day full of work. Incidentally, how would the results of Muraven’s aforementioned experiment be different if we were to give the subjects advance warning that they would be performing two tasks? It has been reported that because subjects adjust the amount of self-control applied to the first task in anticipation of a second task, performance deterioration in performing the second task will be reduced. In other words, the subjects preserve their willpower.

4.8.2 Willpower and Present-Oriented Tendency

As described thus far, self-control is especially needed when making an intertemporal choice to choose between a today’s (present) small reward and a tomorrow’s (future) larger reward. To restrain oneself from a small but immediate beneﬁt or pleasure, such as snacking and a bit of “slacking off,” in order to obtain a larger beneﬁt that can be realized only in a distant future, like a healthy body and completing a large project, one must have strong self-control. Therefore, our present-oriented tendencies, as measured by subjective discount rates, should largely depend on willpower. Subjective discount rates should be higher among individuals whose willpower is more greatly depleted, as it would increase their present-oriented tendencies. To verify this, we conducted an online nationwide survey among a sample of more than 3500 Japanese subjects (the Internet Survey on Life and Behaviors 2014); it made use of a questionnaire proposed by three psychologists, June Tangney, Roy Baumeister, and Angie Luzio, in order to measure people’s willpower (i.e., their ability to control themselves) (Tangney et al. 2004). Based on the data, this study sought to examine the relationship between the magnitude of willpower and the subjective discount rate. Figure 4.7 summarizes the results. Numbers 1 through 5 on 104 4 Self-Control Problems of the Dual Self

Fig. 4.7 Average discount rates by willpower score 0.14 quintile group. Note: The 0.12 discount rate is the residual after excluding the effects of age and gender differences from the standardized score in the original data. Source: The Internet Survey on Life and 12345 Behaviors 2014. N = 3509 -0.05 -0.06

-0.14

the horizontal axis represent quintile groups, namely, from the bottom 20 % to the top 20 %, based on the level of willpower. Here, the average discount rates are compared among the willpower quintile groups. Since the discount rate data are standardized to make the overall average zero, a positive value indicates that it is above average while a negative value indicates that it is below average. In addition, since subjective discount rates are affected largely by age and gender differences, those effects are excluded here. Now, as expected, we can see from the ﬁgure that the subjective discount rate steadily increases from group to group as willpower weakens. Putting otherwise, the depletion of willpower increases the subjective discount rate among people, making their decision-making in life and at work more present-oriented. Con- versely, as willpower increases, it lowers the discount rate and makes it possible for them to behave patiently. In that sense, willpower can be considered a source of patience. For example, it is well known that when a task such as watching a video without reading the subtitles, which exhausts the individual’s self-control resource more than expected, is experimentally given, the purchasing behavior of the subject instantly becomes more extravagant. Effective salespeople who sell consumer durables like automobiles and expensive properties like real estate can probably use such a mechanism to boost their sales performance. By introducing various attractive options and skillfully inserting selection tasks that exhaust customers, they are actually driving customers to behave in extravagant, present-oriented ways (Baumeister and Tierney 2012, Chap. 4). The relationship between willpower and the subjective discount rate has important implications in thinking about the impact of poverty and disaster as well as the polarization and immobilization of income hierarchies. This is because it is conceivable that hardships in life increase the personal discount rate by depleting willpower and that this, in turn, further impoverishes people. Conversely, having 4.8 Willpower and Self-Control 105 a comfortable life could reduce the discount rate by increasing one’s willpower, which would lead to an even more comfortable life. I will discuss this issue again later.

4.8.3 Willpower Budget and Efﬁcient Self-Control

Because willpower as a source of self-control is an easily exhausted, depletable resource, it is possible that the willpower limit could constrain the total amount of self-control. It is the same as how the magnitude of our various spending and savings levels is constrained by the size of the budgetary income and assets. People are financing various types of self-control—from maintaining health to working hard—by using the predetermined budget called willpower. Daniel Kahneman, a Nobel Laureate in economic sciences, made an interesting point in his book Thinking Fast and Slow. He noted that when you say “pay attention,” you are in fact “paying” willpower from your proverbial wallet to cover the self-control needed for “attention” (Kahneman 2011, p. 22). Thinking in this way, it is possible to understand the seemingly obscure problem of self-control as a resource allocation problem—a problem of how to efficiently use the scarce resource called willpower without any waste, something at which the discipline of economics excels (Ozdenoren et al. 2012). Considering the constraint of willpower as the self-control budget, it is not a good idea to blindly work hard on many different things. In order to efficiently utilize one’s willpower, it becomes necessary to allocate efforts so that the return on willpower is balanced among those tasks that require self-control, from business to maintaining health and human relations. Specifically, such a method of effectively utilizing willpower is summed up by two action principles. First, when there are multiple tasks and that each requires self-control and there is no large difference among them in the returns obtained through self-restraint, one can effectively use willpower by allocating equal effort to each task. In economics, the even use of a resource so as not to be wasteful is called “smoothing.” In other words, the economic principle of smoothing also applies to the behavior of self- control. For example, when there are two tasks of conducting business and maintaining family life—both of which require self-restraint—willpower is used effectively by expending equal effort on each and aiming for work-life balance. Smoothed self-control also becomes key when finishing a long-term project or task. Smoothing by “plugging away” steadily in the same way every day so as to avoid unevenness each day leads to finishing a long-term job effectively. Second, when the returns on applying self-control differ greatly, willpower can be used effectively by allocating varying levels of effort according to those differences. The common behavior of expending greater effort on a larger job is actually this principle put into practice. When one begins neglecting one’s own appearance or stops cleaning while being immersed in work, it can be interpreted as the 106 4 Self-Control Problems of the Dual Self conservation of self-control in areas that do not matter to him or her, to squeeze out more willpower and direct it towards work that offers a large return. Such behavior, in which one varies the level of effort according to the expected return on work, is also observed intertemporally. Taking a vacation after completing a large project to which one devoted extensive self-control or having a drink on the way home from work is an act of conserving willpower that is exhausted from work. Conversely, recharging one’s energy levels prior to starting a large project is an act of preserving willpower in preparation for the future. Adjusting resource allocation over a period of time based on the returns at each given point in time is, in economics, referred to as “intertemporal substitution.” The above examples indicate that the intertemporal substitution of self-control is sometimes essential to using willpower effectively.

4.8.4 Crowded Out Self-Control

As willpower is a limited, exhaustible resource for self-control, when there is an exogenous shock that requires some sort of self-restraint and the demand for the resource is suddenly increased, willpower is depleted by that much, and performance in self-restraint tasks with a low priority or which require great effort would decline. Put otherwise, other self-control behaviors would be “crowded out” by the self-control behavior needed to address the exogenous shock. Although unbeknown to us, our behaviors are affected by this phenomenon of the crowding out of self-control. For example, some kind of negative mental shock could prompt seemingly unrelated intemperate behavior or disturb the rhythm of work and life; examples include starting to smoke or drink again after having problems at home or in the workplace, failing to lose weight after having a broken heart, and so on. The mental shock is crowding out low-priority self-control behaviors by exhausting the willpower budget. While a variety of behaviors require self-control, the required level of self- control is actually not the same across them. This becomes clear when you compare self-control tasks performed in order to endure and deal with the hardships of life or the pain of sickness and self-control tasks performed for the purpose of accumulation, such as saving money, developing human capital (study and learning), and managing health. Whereas the former is a form of self-control absolutely essential to survival, the latter can be considered self-control essential to enhancing the future rather than to meeting immediate needs. In economics, goods such as groceries that we cannot avoid consuming even when we are poor are called necessity goods; goods that we consume only after becoming more affluent are called luxury goods. Whereas self-restraint in enduring hardship is self-control as a necessity good, so to speak, self-restraint for the future is self-control as a luxury good that is available only after becoming affluent. Moreover, just as we begin cutting luxury consumption first when disposable 4.8 Willpower and Self-Control 107 income is reduced, self-control for the future as a luxury good is crowded out first when the available willpower is reduced by the occurrence of a negative mental shock. Conversely, when the worries of daily life are resolved as a result of some kind of luck or good news that might open up one’s own future, we initiate self-control for the future by using the excess willpower gained after being released from the previous suppression. As discussed in the next section, these mechanisms relating to willpower are also important when considering the long-term effects of poverty and disaster. Now, the self-destructive behavior of giving up easily can also be understood by relating it to the inefficient allocation of willpower. Naı¨ve individuals who are unaware that willpower can be depleted will quit, sooner or later, before completing their plans—be it work or diet—because they are apt to make unreasonable plans. Such “giving up easily” can also be considered an outcome of the crowding out of self-control. In this case, it was not that the burden on willpower increased due to external shock; rather, the self-control needed to continue with the overzealous plan was crowded out because the self-control payment unexpectedly grew and unintentionally became a burden on willpower. Of course, they might try hard and continue to work as planned, in some cases; however, in this case, crowding out should happen so as to take a toll on some other tasks, possibly with lower priorities (e.g., saving), rather than on the plan.

4.8.5 Depletion and Reproduction of Poverty

With the various self-control tasks that we perform, when some sort of exogenous negative shock is placed on willpower, the self-control that had been “plugging away” up to that point is partially crowded out (i.e., pushed back); this adversely affects subsequent life by reducing assets, be it human assets or financial assets. Such a chain effect has important implications when one considers the impact of poverty and disaster, as well as the polarization and immobilization of income and social hierarchies. For example, when people are hit by bad luck, such as losing employment or receiving a significant pay cut as repercussions of a recession, it prompts the depletion of willpower and results in the crowding out of self-control. There are two types of self-control: one that must be used for survival, or self- control as a necessity good, as it is called in economics, and one for the future, which is used only after it can be spared, called self-control as a luxury good. Since people who face hardships in life must use more willpower on self-control for survival, they are forced to neglect by at least that much the self-control related to the future. As indicated previously, the fact that the subjective discount rate—a measure of present-oriented tendency—increases as willpower is depleted probably reflects such a relationship. 108 4 Self-Control Problems of the Dual Self

As a result, the accumulation of assets—be it ﬁnancial assets or human assets— otherwise earmarked for the future is postponed, and even if the initial negative shock on life were temporary, it will end up having a persistent adverse effect on future life and even on skills acquisition. Such a propagation of adverse effects on the future could go beyond generations from parents to children. This is because the parents become incapable of caring for and disciplining children in preparation for the future—things which require strong self-control ability of the parents—when their willpower is depleted, and the children also begin losing willpower on account of the deterioration of their growing environment. In a report on children from poor families who gave up schooling (Aoto 2009), a mother from a poor family who was interviewed made a desperate comment: “Being poor means you are unable to do anything.” Poverty means being forced to spend an enormous amount of willpower in order to maintain the present state of the family under difﬁcult income constraints, and it is propagated in the children’s generation in the form of a lower future-oriented tendency (increased subjective discount rate) and reduced human resources. Exhausted children, therefore, accept having a low educational attainment and reproduce poverty under the resulting limited employment opportunities. This assertion is indirectly supported by the data in Fig. 4.8, which shows changes in the unemployment rate and the high school dropout rate in Japan since 1982. In addition to the unemployment rate and high school dropout rate,

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Fig. 4.8 The unemployment rate, academic maladjustment, and high school dropouts. Source: Prepared based on the study of various problems in student guidance, such as Problematic Behaviors of Children and Students, 2014, the Ministry of Education, Culture, Sports, Science and Technology, and Labor Force Survey, 2014, the Ministry of Internal Affairs and Communications 4.8 Willpower and Self-Control 109 the ﬁgure plots the percentage of high school dropouts due to maladjustment to school life and studies. As one can see, it is dropping out on account of academic maladjustment, rather than the high school dropout rate itself, that shows a high correlation with the unemployment rate. In other words, it seems that unemployment prompts school abandonment by depleting children’s willpower and crowding out self-control for the future (i.e., adjustment to school life and studies) rather than that unemployment directly produces high school dropouts by creating economic hardship.

4.8.6 Poverty and Adversity During Childhood

Related also to the above story, it is known that willpower depletion during childhood has a strong negative impact on adulthood behavior and quality of life. One example is the relationship between the experience of childhood adversity and the quality of adulthood life. When childhood adversity is scored by counting various hardships experienced during childhood, such as financial struggle, dys- functional family, domestic violence, and neglect, there is a negative correlation between this adversity and each behavior and quality of life in later years, as measured by (early) smoking during adolescence and adulthood, poor health, educational background, financial struggle, level of happiness, etc. (Ramiro et al. 2010; Oshio et al. 2010). People who experienced severe adversity in childhood are more likely to have a lower quality of life in later years. This assertion is neuroscientifically supported. As an important brain function related to self-control, there is a function called working memory. Roughly, you can think that an individual with a larger working memory capacity can better perform self-control. In fact, to support the relationship just mentioned, it has been shown that the working memory capacity tends to be small among individuals who experienced prolonged poverty during childhood. This is one of the reasons why individuals who grew up in poor families often cannot control themselves. However, the story does not end here. It is actually possible to look at physiological data, such as those relating to blood, to quantify the extent to which an individual has struggled in the past, that is, how much stress has accumulated from the past. To our horror, it has been shown that individuals with higher amounts of such quantified past stress are more likely to have a smaller capacity of current working memory (Evans and Schamberg 2009). That is, working memory, which enables self-control, is more likely to be lower among those who experienced great stress in the past. I have mentioned that there are two factors, namely, childhood poverty and the amount of past stress, that degrade working memory. So which is a true cause of deterioration in working memory? Gary W. Evans and Michelle A. Schamberg actually showed that the accumulation of past stress is the true culprit in degrading working memory; the negative correlation observed between childhood poverty and 110 4 Self-Control Problems of the Dual Self the working memory capacity is, as we say, a seeming correlation that picks up the effect of accumulated past stress (Evans and Schamberg 2009). Put otherwise, similarly to what I mentioned when discussing high school dropouts, although poverty experienced while growing up certainly has a large and negative impact on the quality of life in later years, it is not directly caused by poverty itself but by the accumulation of stress and the depletion of willpower on account of poverty. These findings also have significant implications in considering the damages caused by disasters. It is conceivable that behind the rapid increases in smoking, drinking, and gambling in the areas affected by the Great East Japan Earthquake was the depletion of willpower as a result of the disaster. If the earthquake compromised efforts to accumulate for the future (self-control), the scale of the disaster damage might be immeasurably enormous.

4.9 Conclusions

The preference reversal that occurs under hyperbolic discounting causes conflicts of interest between the present and future selves, resulting in self-control problems. Therefore, how a choice is affected will change based on whether the decision- maker makes a naı¨ve choice without being aware of the preference reversal in the future or makes a sophisticated choice based on that knowledge. Because naı¨ve people consecutively scrap their own plan, postpone the plan for savings, and accelerate the plan for spending, they wind up overspending and undersaving. The efficiency of decision-making is sometimes improved by making a sophisticated choice; however, when the marginal cost of choosing an easy option is lowered by taking one’s own preference reversal into account, the choice could become even looser than the naı¨ve choice. Sophisticated decision-makers are able to improve their choices by utilizing commitment devices, such as illiquid assets, that limit the choices of the future self. Indeed, as shown in the “golden eggs” model, several phenomena that cannot be explained by standard economics—typified as it is by the permanent income hypothesis—can be explained by supposing that illiquid assets function as commitment devices. Such phenomena include the covariant relationship observed between income and consumption, a large proportion of illiquid assets as a percentage of total assets, credit card debt despite asset ownership, and so on. That being said, the argument for the “golden eggs” model is based on the assumption that we are sophisticated enough to fully take into account the weak- willed future self while having self-control problems. In reality, it is more reasonable to think that we are not that sophisticated and are partially naı¨ve as decision- makers. If that is the case, we would exhibit the self-destructive choices of overspending and undersaving based on the level of that naivety in all aspects, be it finances or health. Moreover, such a tendency to make self-destructive choices could become significant, even if a person’s naivety were trivial; one such case is when there are market participants who actually take advantage of naı¨ve behavior. Supplement C: The Tsushima Family’s Precommitment 111

To confront self-control problems, people need willpower. However, willpower is limited. The depletion of willpower increases the decision-maker’s subjective discount rates, thereby making his or her choices more present-oriented. To attain greater long-run welfare, people have to allocate self-control efﬁciently by taking the willpower constraint into account. In the next chapter, I will look at the actual choices and behavior of people with regard to debt, obesity, health, and addictive goods consumption; I will show that most of the behavior observed with respect to these areas marks a tendency toward self-destructive choices that sophisticated decision-makers would not make, and I will explain that such a tendency actually correlates with the hyperbolic tendency of the decision-makers.

Supplement C: The Tsushima Family’s Precommitment

In 1930, Bunji Tsushima, the patriarch of the Tsushima family—a family that goes back to a large landowner in Tsugaru—traveled all the way to Tokyo to deal with the misconduct that his younger brother Shuji, then a freshman at Tokyo Imperial University, Faculty of Letters, committed by eloping with a geisha named Hatsuyo Oyama in Aomori. Bunji permitted the younger brother to pay for redeeming Hatsuyo and marry her, on the condition that Shuji cut family ties and establish a new branch family. However, upon compelling Shuji to establish a branch family, Bunji did not apportion the estate; instead, he promised an allowance of JPY 120 per month to support Shuji until he graduated from Tokyo Imperial University (Kawanishi 2012). An allowance for living expenses that one cannot receive unless one obediently attends university is precisely a low-liquidity “goose that lays the golden eggs.” Given Shuji Tsushima’s self-destructive tendencies, using such a commitment device in an attempt to preserve the estate of Tsushima should be considered a sophisticated action on the part of the patriarch. In fact, should Bunji have apportioned the estate to Shuji, Shuji would have squandered it in very short order because he subsequently headed straight down the road of self-destruction by breaking up with Hatsuyo and dropping out of university. However, this is perhaps an irony of history because it was through a series of literary works that focused on self-destructive conduct, which Shuji published under the pseudonym “Osamu Dazai,” that the Tsushima family left its mark on history. After all, if the timeless appeal of Dazai’s works strikes a chord with people because they depict his own struggle—followed by self-destruction—perhaps his creation would not have been possible without there ﬁrst being a vast fortune and traditional order to be destroyed through self-destruction. If one thinks of it that way, these historical facts do not seem like an irony of history at all. Chapter 5 Overborrowing, Overeating, and Addictive Behavior

5.1 Introduction

I would like to think about self-destructive choices from the perspective of discounting—hyperbolic discounting in particular—which governs intertemporal choices. Specifically, I will take up behavioral problems regarding (1) economic decision-making that involves undersaving and overborrowing, (2) health-related decision-making that involves overeating and obesity, and (3) decisions that relate to addictive consumption, such as smoking, drinking, and gambling. I shall examine them one by one. As explained in details in the previous chapter, a self-control problem arises when short-term and long-term interests conflict with each other in one’s mind under hyperbolic discounting. When one is unable to successfully make a choice that incorporates the tendency to grow more impatient as the benefit comes close at hand, immediately available interests are prioritized one after the other, so that under-accumulation of financial assets as well as human resources takes place in various ways. This would be a self-destructive choice that harms long-term interests. Of course, when one is able to make a sophisticated choice that takes self- control problems into account in advance, by using a commitment device, for example, the quality of the choice is somewhat improved. However, besides the fact that a good commitment device is not always available, there are probably not many individuals who are in reality perfectly sophisticated and able to take into account 100 % of the lenient future self. This chapter will show that self-destructive choices such as undersaving, overborrowing, obesity, and addictive consumptions including smoking are actually related to hyperbolic decision-making, particularly naı¨ve decision-making. While hyperbolic discounting is the most important factor in considering the problem of undersaving, as you can see from the discussion thus far, the subjective discount rate affects our asset-accumulating behavior through two additional paths. One is the level of the discount rate itself. Because the subjective discount rate is an

© Springer Japan 2016 113 S. Ikeda, The Economics of Self-Destructive Choices, Advances in Japanese Business and Economics 10, DOI 10.1007/978-4-431-55793-7_5 114 5 Overborrowing, Overeating, and Addictive Behavior indicator used to measure the degree of impatience in an individual decision-maker, a higher discount rate will lead that individual to exhibit a higher propensity to consume and a lower propensity to save. The other path is the sign effect, which I explained in Chap. 2 as a tendency wherein a future payment or loss is discounted only at a lower discount rate. Because people try to avoid paying future interests under the sign effect, we can expect this effect to work to restrain borrowing. It seems that this type of “borrowing aversion” behavior works not only when borrowing money but also when making a kind of choice that increases current satisfaction in exchange for future detriment (e.g., overeating and smoking). In short, the discount rate affects our asset-accumulating behavior through three paths, namely, hyperbolic discounting, the level of discount rate (i.e., impatience), and the sign effect. In what follows, while I will mainly discuss the effect of hyperbolic discounting to focus on self-destructive choices, I will refer to the two other factors as needed.

5.2 Naı¨ve Income-Consumption Cycles

5.2.1 Allowance Cycle

Children often run out of money without being able to wait until the next date that they receive an allowance; then, on the day that they receive the allowance, they splurge without thinking about the consequences. This type of behavior that leads to a zigzag cycle in which an inflow of money prompts consumption can be considered a typical overspending/undersaving phenomenon caused by naı¨ve decision- making made under the condition of a self-control problem. Although this is similar to the income-consumption cycle explained under the “golden eggs” theory in the previous chapter, a child’s allowance spending cycle is different in terms of being naı¨ve or sophisticated. It is logical to think that whereas the income-consumption cycle under the “golden eggs” model represents consumption fluctuations that result from a sophisticated consumer who uses an imperfect commitment device called illiquid assets, the allowance spending cycle represents a naı¨ve consumer behavior in which a child who is unaware of his or her own self- control problem prioritizes the present at each moment. A child ends up not having enough pocket money immediately before the day of receiving an allowance because what he or she had saved (i.e., the balance) was too small (was overspent). In that sense, the allowance spending cycle can be considered a form of naı¨ve overspending/undersaving. Children are not the only ones who consume in a cycle of regular income inflow and fall into problems of overspending and undersaving. In what follows, I will introduce two examples where naı¨ve overspending/undersaving behaviors under self-control problems take place in the form of income-consumption cycle. 5.2 Naı¨ve Income-Consumption Cycles 115

5.2.2 The Food-Stamp Nutrition Cycle

In the United States, there is a government system that distributes food stamps to low-income households for the purposes of public welfare. Through it, a predetermined amount of money is deposited into the recipient’s special account every month, allowing the recipient household to purchase food. In 2010, a total of 40 million individuals in 18.62 million low-income households indeed received an average of about USD 134 per month per person (the statistics of the Supplemental Nutrition Association Program, USDA). Jesse Shapiro used micro-level (individuals) data from Maryland and studied dynamic patterns in the amount of food intake, measured in terms of caloric intake, among households that received food stamps; he did so the periods between the days of food stamp issuance (Shapiro 2005). He observed a pattern in which the caloric intake gradually declined 0.4–0.5 % per day on average as time passed, after recording the highest caloric intake on the day of food stamp issuance. In other words, a cycle similar to that seen in the allowance spending cycle of children and characteristic of naı¨ve hyperbolic discounters was observed between the issuance of food stamps and the amount of caloric intake. Shapiro calls this “the food stamp nutrition cycle.” Shapiro measured the short-term discount rate by asking the people who received food stamps the following question: Suppose you had a choice between getting $50 in cash one month from today, or getting less than $50 today. Would you take less than $50 to get the money today? Based on this result, he estimated that the people who chose “less than USD 50 today”—who accounted for 20 % of the population—skipped a meal for household budgetary reasons at a probability that is 5–7 percentage points higher than the other people. Considering the fact that only 9 % of all households skipped a meal, the difference of 5–7 percentage points observed between the two groups is very large. Although it is necessary to defer judgment a bit in terms of the degree to which the difference in the seriousness of self-control problems actually reﬂects in this comparison, it is probably reasonable to consider the observed food stamp nutrition cycle as an example of overspending/undersaving behavior under self- control problems.

5.2.3 The Pension-Consumption Cycle

Similarly, a report states that the consumption patterns of pensioners suggest the influence of hyperbolic discounting. Giovanni Mastrobuoni and Matthew Weinberg looked at elderly aged 62 or older for whom more than 80 % of their income comes from a pension. By dividing the sample population into savers (holding USD 5,000 or more in liquid assets) and nonsavers (holding less than USD 5,000 in liquid 116 5 Overborrowing, Overeating, and Addictive Behavior assets), Mastrobuoni and Weinberg (2009) compared patterns of food consumption from one pension payout day to the next between these two groups. The result is that, whereas the savers showed a flat food consumption pattern throughout the period, the nonsavers exhibited the allowance spending cycle in which they splurged on high-level consumption on the day of the pension benefit payment and gradually reduced consumption afterwards, in a manner similar to that seen with the food stamp recipient households in Shapiro’s study. Because the difference in caloric intake before and after receiving the benefit reaches as high as 25 % and food consumption among nonsavers drops to less than the minimum daily requirement, their consumption life is just like that of children who are not accustomed to using their allowance money. Considering that being a nonsaver implies that the individual is a naı¨ve hyperbolic discounter who has not been able to correctly take into account future self-control problems, this type of result is understandable.1

5.3 Hyperbolic Discounting and Debt Behavior

5.3.1 Credit Card Loans

When you use a credit card to borrow, you are required to pay a considerably higher interest than normal bank interest rates. The discussion of the “debt puzzle” by Laibson et al. (see the previous chapter) states that, as far as macro-level (aggre- gate) data can tell, such credit card use in borrowing can probably be understood well in terms of hyperbolic discounting. If this understanding is correct, we should be able to use micro-level (individual) data at the consumer level to explain differences in debt tendency among people based on whether or not hyperbolic discounting is involved. In fact, there are studies that use micro-level data and demonstrate that certain attributes, such as the likelihood of having credit card debt and the amount of money one has, strongly correlate with whether the individual has a tendency toward hyperbolic discounting. A study conducted by Stephen Meier and Charles Sprenger is one of them (Meier and Sprenger 2010). They analyzed 541 low-income individuals who used one of the two Volunteer Income Tax Assistance (VITA) sites in Boston and speciﬁcally examined the credit card debts that they had incurred by making revolving credit payments. Revolving credit involves an agreement to pay back credit card debt by making a certain payment amount each month. In such a case, the monthly payment remains

1 However, we would need to control the effect of the discount rate in order to draw such a conclusion because, as we discussed previously (and as will be shown later), the amount of assets held depends on not only hyperbolic discounting but also the level of the discount rate itself. We cannot rule out the possibility that the nonsavers in Mastrobuoni and Weinberg (2009) were nonsavers who showed a consumption pattern that featured a downward slope, because their discount rate was high. 5.3 Hyperbolic Discounting and Debt Behavior 117 the same, even if the cardholder makes a new purchase and increases the debt; it only extends the repayment period. In other words, this is a great way for hyperbolic individuals to repay debt because it works in a way where additional debt repayments are postponed as debt increases. In addition to using data from credit-rating agencies to identify the subjects’ economic attributes, such as debt balance, transaction history, credit rating, and income, Meier and Sprenger conducted a simple economic experiment in order to ask subjects about their long- and short-term discount rates. The aim in that study was to combine these two datasets to pinpoint the relationship between hyperbolic discounting and credit card debt. The results are shown in Fig. 5.1. While the percentage of subjects with credit card debt is 45 % in the “hyperbolic discounting” group, it is only 39 % in the “non- hyperbolic discounting” group. We can see that the average debt balance among

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(b) On probability of On amount of having credit card debt credit card debt The marginal effect of Increases by 16 Increases by USD hyperbolic discounting percentage points 540

Fig. 5.1 Hyperbolic discounting and credit card debt. Note: Prepared by the author based on Meier and Sprenger (2010). (a) Percentage of credit card debt holders and the amount of debt, (b) the effect of hyperbolic discounting on borrowing against credit card debt 118 5 Overborrowing, Overeating, and Addictive Behavior those in the “hyperbolic discounting” group is more than twice that among those in the “non-hyperbolic discounting” group. In addition, as Fig. 5.1b indicates, it is estimated that when the effect of other factors such as credit rating and economic attributes is excluded, the probability of having credit card debt for hyperbolic people is higher by 16 percentage points, and their debt balance is larger by USD 540, than for non-hyperbolic people. Compared to the “non-hyperbolic discounting” group—whose percentage of debt holders is 39 % and the average debt amount is USD 776—we can see that the effect of hyperbolic discounting in increasing the debt tendency is by no means small.

5.3.2 Swayed by a Teaser Rate But End Up Paying a Higher Interest Rate

Another example that demonstrates hyperbolic credit card usage deals with choices relating to introductory offers. Credit card companies develop a variety of offers, such as waiving the membership fee for a certain period of time at the beginning and issuing additional reward points, in order to promote credit card use. To attract customers, credit cards in the United States usually have a certain length of introductory period with a “teaser rate” that is lower than the market rate. Although an interest rate that is comparable to the market rate for usual credit card loans (probably 10 % or higher), called the “post-introductory rate,” will be applied after the introductory period, consumers could beneﬁt from the offer by paying off the credit card debt before the end of the introductory period. It is known, however, that many credit card users end up actually paying a higher interest rate because they cannot stop borrowing money after the introductory period. This phenomenon could be explained as an effect of hyperbolic discounting. Let me explain in greater detail. For a consumer who is thinking about applying for a new credit card, the question is about what type of introductory offer to look for in a credit card. Assuming that the interest rates following the introductory period (post-introductory rate) are the same, one would want to choose a credit card that has a long introductory period and a low interest rate. However, since there is usually a trade-off between the length of introductory period and the interest rate, one would be torn between choosing a credit card that offers a low interest rate for a long introductory period versus a high interest rate for a short introductory period. For example, many credit card users prefer a card that offers a low interest rate, even if the introductory period is short (like 4.9 % for 6 months) to a card that offers a high interest rate for a long introductory period (like 7.9 % for 12 months). Experienced users could apply for a series of multiple credit cards in order to take advantage of low interest rates under introductory periods over quite a long period; they could apply for Card B and use its introductory period as the introductory period of Card A ends, for example. However, tracking credit card use following the opening of an account actually reveals a paradoxical situation: those who chose a lower interest rate were actually paying a higher interest rate than those who chose a longer introductory period. This type of situation occurs because credit card users 5.3 Hyperbolic Discounting and Debt Behavior 119 continue to borrow money without reducing their debt balance and wind up paying the post-introductory rate of more than 10 %. It was two researchers, Haiyan Shui and Lawrence Ausubel, who demonstrated this fact by using data on solicitations that a major credit card company sent to 600,000 credit card users and their subsequent credit card usage (Shui and Ausubel 2005). The credit card company created six credit cards with different introductory offers, A through F, and sent a solicitation e-mail to 100,000 credit card users per offer. The terms for each offer are as shown in the second and third columns of Table 5.1. The introductory period of 6 months and the interest rate of 4.9 % were applied to Offer A, while a much longer introductory period of 12 months and a relatively high interest rate of 7.9 % were applied to Offer F. The post-introductory rate was 16 % across the board (see Fig. 5.2). Now, the percentage of customers who actually applied for a new credit card and successfully opened an account in response to the solicitation e-mail they received

Table 5.1 Paying a higher effective interest after being swayed by a teaser rate Terms for the Interest rate after the Closing introductory offer introductory period (post- rate on the Ex-post effective Offer Duration Interest (%) introductory rate) (%) offer (%) interest rate (%) A 6 months 4.9 16 1.07 10.23 B 6 months 5.9 16 0.90 11.35 C 6 months 6.9 16 0.69 11.86 D 6 months 7.9 16 0.64 12.35 E 9 months 6.9 16 0.99 9.23 F 12 months 7.9 16 0.94 8.32 Note: Prepared by the author, based on Shui and Ausubel (2005)

Interest rate

Post-introductory rate 16%

Introductory rate of Offer F 7.9%

4.9% Introductory rate of Offer A

12-month introductory period of Offer F Period

6-month introductory period of Offer A

Fig. 5.2 Terms for introductory offers 120 5 Overborrowing, Overeating, and Addictive Behavior was less than 1 %. The closing rate of each offer is as shown in the fifth column of Table 5.1. In comparing these closing rates, we can see that consumers generally choose Offer A, which provides a low interest rate for a short period of time (1.07 % closing rate), over Offers E and F, which provide a high interest rate for a long period of time (0.99 % and 0.94 % closing rates, respectively). This choice is reasonable if they were only thinking of a loan limited to 6 months. However, when credit card use following the opening of the account was examined, it was found that users continued to borrow money even after the introductory period ended. Therefore, the effective interest rate calculated based on the amount of interest paid after the fact was higher under Offer A (10.23 %) than under Offers E and F (9.23 % and 8.32 %, respectively), which had higher teaser rates. The above facts indicate that the behavior of credit card users is irrational in two respects. The first is that they let themselves choose Offer A with a low teaser rate, even though the effective interest rate would be higher. Shui and Ausubel call this phenomenon “rank reversal.” The second is the fact that they are borrowing money under a high post- introductory rate by using the same credit card to continue to borrow money after the introductory period, even though they could have applied for a new credit card to take advantage of a teaser rate under a new introductory period. A rational credit card user would have obtained a series of new cards to take advantage of teaser rates over an extended period of time. However, it has been reported that more than 35 % of them paid high interest rates without taking such rational actions. Such baffling behavior can be effectively explained when we suppose that those credit card users are hyperbolic, particularly when we assume them naı¨ve decision- makers who cannot correctly predict their high propensity to consume in the future. Since they underpredict the debt tendency of their future selves, they chose an introductory period with a lower interest rate at the time of signing up, intending to borrow money only during the introductory period. However, because their discount rate suddenly increases when the introductory period ends, they continue to borrow money even at the higher post-introductory rate. We can explain this as how rank reversal occurs. Nonetheless, Shui and Ausubel argue that rank reversal can be seen even when credit card users possess the sophistication to correctly predict their own self- control problems in the future. The explanation for this is that they are using the high interest rate in the future as a commitment device. It presumes that credit card users with self-control problems chose Offer A as a commitment device in order to make the terms of a future loan as unattractive as possible; they know they will end up with excessive debt in the future if they were left to their own devices. That is, they chose Offer A in order to shorten the opportunity to borrow because they are thinking at the time of signing up for the credit card that, if they choose Offer F with a long introductory period, it would allow them to use the teaser rate for longer than Offer A and lead them to borrow excessively. However, in such a case, the debt should be smaller when the introductory period ends. In reality, however, it has been reported that many credit card users continue 5.3 Hyperbolic Discounting and Debt Behavior 121 to borrow at the same pace afterwards and thus maintain a certain level of debt. In view of these things, it is more logical to think of rank reversal as a self-destructive choice made by naı¨ve consumers who, unaware of their own self-control problems, were swayed by the teaser rate. Irrational behavior wherein one continues to borrow by using the same credit card probably also involves status quo bias. Because behaviors and choices that alter the current condition incur a psychological burden, a bias that tries to maintain the current condition, even if only for a little, would affect our choices. Called status quo bias, this tendency becomes particularly evident among hyperbolic individuals who overrate immediate pain. It is probably reasonable to think that hyperbolic credit card users avoid the pain of applying for a new credit card upon the expiration of the introductory period of the existing card and continue to borrow money by using the same credit card.

5.3.3 Self-Destructive Behavior of Payday Loan Borrowers

Through an unsecured consumer loans instrument called “payday loans” found in the United States and United Kingdom, we see more serious self-destructive choices than those in the case of credit card use. A payday loan is a very short-term loan for those who need to tide themselves over until the next payday. For example, a consumer might borrow USD 100 with a promise to repay, including a fee payment, on the payday in 2 weeks. Because the fee is ﬁxed regardless of the loan period, like USD 18, the interest rate would be extremely high when calculated as an annualized compounded rate. If the fee to borrow USD 100 for 2 weeks was USD18, the rate would be 7,295 %. Therefore, consumers usually use other ﬁnancing means, such as bank loans and credit card loans, which allow them to borrow at a lower rate. Payday loans are used as a last- ditch measure when one just cannot secure the liquidity that one needs. Payday loans might be similar to unsecured consumer loans in Japan in terms of being a legal loan at a high interest rate; however, money-lending businesses such as those who offer payday loans cannot operate legally in Japan because they would violate the cap interest rate regulation. Payday loans might be comparable to “loan sharks” in terms of exorbitant interest rates and short loan periods. In fact, many American states such as Pennsylvania and New York also prohibit payday loans.2 Two researchers, Paige Skiba and Jeremy Tobacman, revealed the reality of reckless hyperbolic behavior among payday loan borrowers by using data on more than 100,000 customers and 800,000 transactions in Texas between 2002 and

2 However, in the case of loan sharks in Japan, one could borrow JPY 30,000 and repay JPY 50,000 10 days later or borrow JPY 70,000 and repay JPY 100,000 10 days later, for example (Ide 2007). The effective annual interest rate is about 125,160,000 % for the former and exceeds 450,000 %, even for the latter; therefore, payday loans are not that exorbitant. 122 5 Overborrowing, Overeating, and Addictive Behavior

2004—data that were provided by a payday loan company (Skiba and Tobacman 2008). On average, those borrowers (a typical borrower being a Hispanic or black female in her mid-30s) have eight loans amounting to USD 2,655 while earning USD 1742 per month. When limited to 2-week loans, they are paying an average of USD 58 to cover the fee for an average loan of USD 323; this means that they are paying a 7224 % interest rate on an annual basis. The behavior of these borrowers is characterized by the following two points. First, the probability that the borrower will default on the loan reaches 80 % within 1 year from the day he or she began using payday loans. When limited to 2-week loan contracts, it is estimated that the probability that the borrower’s repayment check will bounce within 1 year from the day he or she began borrowing is 51 %, and the probability of the loan becoming a write-off within 1 year of the day he or she began borrowing is 30 %. Second, they are borrowing from five different lenders on average and paying an effective interest rate of 90 % before they end up defaulting on their loans. Having compared three models including a (1) exponential discounter, (2) sophisticated hyperbolic discounter, and (3) naı¨ve hyperbolic discounter, Skiba and Tobacman showed that this type of self-destructive behavior among borrowers is quantitatively best explained with the third model, the naı¨ve hyperbolic discounter model. Of course, borrower behavior can also be explained partially by assuming exponential discounting; however, one would have to assume an outrageous 2-week discount rate of 21 % (an annual rate of 14,104 %). Even then, the loan amount would be underestimated by about 10 % while the default rate is overestimated by 50 percentage points, compared to the actual; therefore, we cannot say that this explains the behavior of payday loan borrowers well. With the hyperbolic discounter model, the loan amount can be explained well by setting a high short-term discount rate; however, a problem remains in that the frequency of debt defaults is overestimated when the borrower is assumed to be sophisticated. If the borrower was sophisticated enough to predict that he or she would fall into multiple debts in the same way in the future because of self-control problems, his or her rational behavior would be to admit earlier that he or she would end up defaulting on the debt and work to tie the hands of the future self. They get a whopping five payday loans and drift into multiple debts, which can be regarded exactly as the behavior of naı¨ve hyperbolic discounters who incur high-interest debts, one after the other, to put off incurring the cost of bankruptcy. It is also similar to how credit card users continue to borrow money at high interest rates without switching to a new credit card after the introductory period ends. Skiba and Tobacman showed that the self-destructive behaviors of the payday loan borrowers can be explained well by actually using the naı¨ve hyperbolic discounter model. They estimate in that model that while the long-term discount rate is 3.0 %, the short-term discount rate is extremely high at 70.4 %. This suggests that a very serious self-control problem underlies the behavior of excessive borrowing. Moreover, studies that demonstrate the relationship between self-control problems and undersaving/overspending include a field study conducted in Vietnam by 5.3 Hyperbolic Discounting and Debt Behavior 123

Tomomi Tanaka and others (Tanaka et al. 2010). It shows that whether one participates in a private savings association similar to mutual ﬁnancing association, called ROSCA, correlates with the degree of hyperbolicity and impatience (see also Tanaka and Murooka 2012).

5.3.4 Hyperbolic Discounting and Debt: The Case of Japan

The phenomenon in which hyperbolic discounting aggravates debt tendencies among people is observed quite clearly in Japan as well. Let us take a look at the results of analysis based on micro-level data from our 2010 online survey (the Japan Internet Survey on Preferences Relating to Time and Risk 2010), which was also discussed in previous chapters. In addition to asking about various socioeconomic attributes, the survey asks about short- and long-term discount rates to see whether a respondent has a tendency toward hyperbolic discounting. Since it also asks whether the respondent was able to complete homework assignments as planned when he or she was a child, we can use that response to identify whether a hyperbolic respondent is a naı¨ve or sophisticated decision-maker. Here, a respondent whose responses to the homework questions indicate that he or she tended to finish doing homework later than he or she had planned is classified as a naı¨ve hyperbolic discounter, while the rest is classified as sophisticated hyperbolic discounters. As a result, 2277 respondents are grouped as shown in Table 5.2. The number of respondents who exhibited a tendency toward hyperbolic discounting is 960 (42.2 %), of whom 576 (25.3 % of total) are classified as “naı¨ve,” while the remaining 384 (16.9 % of total) are classified as “sophisticated.” In the following, I will examine how debt tendencies differ among the three groups: “naı¨ve hyperbolic discounters,” “sophisticated hyperbolic discounters,” and “non- hyperbolic discounters.” As can be seen from the discussion thus far, we can theoretically expect “naı¨ve hyperbolic discounters” to have a stronger debt tendency than the individuals in the other two groups. Although it is hard to compare “sophisticated hyperbolic discounters” and “non-hyperbolic discounters,” it would not be overly unreasonable to predict that the individuals with a tendency toward hyperbolic discounting, even if they are sophisticated, will show a stronger debt tendency than those who do not,

Table 5.2 Distribution of hyperbolic/non-hyperbolic discounters and naı¨ve/sophisticated Hyperbolic discounters Naı¨ve Sophisticated Non-hyperbolic discounters # of respondents 576 384 1,317 (%) (25.3) (16.9) (57.8) Note: Estimates based on the Japan Internet Survey on Preferences Relating to Time and Risk 2010 124 5 Overborrowing, Overeating, and Addictive Behavior

(JPY in thousands) (%) JPY 700 25.0% 23.8%

JPY 600 JPY 584 20.3% 18.1% 20.0% JPY 500 JPY 476 JPY 450 15.0% JPY 400

JPY 300 10.0%

JPY 200

5.0% JPY 100

JPY 0 0.0% Naïve hyperbolic discounters Sophisticated hyperbolic Non-hyperbolic discounters discounters

Amount of debt (JPY in thousands) % of debt holders (right axis)

Fig. 5.3 Hyperbolic discounting and debt holding. Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010 other than in extreme circumstances (please see Appendix of this chapter, in which I explicitly discussed borrowing behaviors of naı¨ve and sophisticated hyperbolic consumers by using a simple analytical model). Figure 5.3 first compares how the percentage of debt holders and their average amount of debts differ across the three groups, after excluding mortgages from debts. We can see two things from this figure. First, as expected, the group of naı¨ve hyperbolic discounters exhibits the strongest preference for debt in terms of both the percentage of debt holders and the amount of debt. For example, naı¨ve hyperbolic discounters, on average, tend to hold JPY 100,000 more debt than those in the other two groups. Such a positive correlation observed between hyperbolic discounting and debt behavior is also large enough to be statistically significant, indicating that hyperbolic discounting has a nonnegligible aggravating effect on debt behavior. Second, the difference between the groups of sophisticated hyperbolic discounters and non-hyperbolic discounters is not very clear. While the group of sophisticated hyperbolic discounters includes a high percentage of debt holders, the group of non-hyperbolic discounters holds a higher amount of debt. However, these differences are not overly large; they are within the range of statistical error. It indicates that even with a tendency toward hyperbolic discounting, those who recognize its effect and make sophisticated choices borrow money in a manner similar to that seen among non-hyperbolic discounters, who control themselves 5.3 Hyperbolic Discounting and Debt Behavior 125

Naïve hyperbolic discounters Sophisticated hyperbolic discounters Non-hyperbolic discounters 16.3%

12.5%

10.9% 10.4% 10.4% 10.1%

8.9% 8.1% 7.3% 7.2% 6.8% 7.0%

3.3%

1.9% 1.0%

1. Debt ≥ 30% of 2. Credit card debt 3. Experience of consumer 4. Experience of rejected 5. Experience of debt household income financing loan loan application consolidation/personal bankruptcy

Fig. 5.4 Hyperbolic discounting and excessive debt. Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. For details, see Ikeda and Kang (2015) well. This type of self-controlling tendency among sophisticated individuals is also confirmed in a similar fashion in the analysis that we cover later. Figure 5.4 shows a similar comparison conducted by focusing on excessive debt. Although it is difficult to define “excessive debt,” I will look at the excessive debt tendency of people from the following five viewpoints. 1. The total amount of debt the individual holds is 30 % or more of his or her annual household income. 2. The individual holds credit card debt. 3. The individual has previously borrowed through unsecured consumer loans. 4. The individual has had a loan application rejected for some reason. 5. The individual has experienced debt consolidation or personal bankruptcy. The first criterion is somewhat arbitrary; however, considering that the Revised Money Lending Act, which became effective in 2010, essentially prohibits a consumer from adding a new loan that will bring the total debt balance to an amount exceeding one-third of his or her annual income, an amount of debt excluding mortgages that reaches 30 % of household income implies a considerable debt load, at least in terms of social conventions. As for the credit card debt mentioned in the second criterion, it refers to interest-bearing debt due to agree- ments such as revolving credit; it does not include charges paid in full or by installment without incurring interest. Although it is difficult to say whether credit card debt should be considered as part of excessive debt, given the fact that fewer than one in ten people in the sample population in this survey held credit card debt, I 126 5 Overborrowing, Overeating, and Addictive Behavior have determined that credit card debt holders are probably highly likely to have a debt tendency. While criteria 1 and 2 question whether or not the individual currently holds debt, the remaining three relate to his or her past experiences. This is why I specifically speak of “the excessive debt tendency of survey respondents.” As shown in the figure, the results indicate that the group of naı¨ve hyperbolic discounters includes the highest percentage of individuals who exhibit excessive debt tendency according to each of the five criteria. For example, while more than 12 % of naı¨ve hyperbolic discounters are credit card debt holders, only 7 % or so of individuals in the other two groups are credit card debt holders. The percentages of individuals whose loan application has been rejected and individuals who have experienced debt consolidation or personal bankruptcy within the naı¨ve hyperbolic discounter group are also 1.6–1.7 times higher than those in the other groups. The group with the next highest percentage of individuals who exhibit an excessive debt tendency is that comprising sophisticated hyperbolic discounters; however, the difference with the group of non-hyperbolic discounters is not as considerable as that with the group of naı¨ve hyperbolic discounters. This is the same as in the case of debt holders, as seen in Fig. 5.3. However, the distribution of individuals with/without excessive debt differs across the three groups under all five criteria. Those differences are statistically significant. The above was an examination of the effect of hyperbolic discounting on each of the five criteria that seem to indicate an excessive debt tendency. By using a statistical method called principal component analysis and examining these data together, we can extract the common factors included there. The score obtained there can be considered to represent the hidden inclination to make choices that lead individuals to exhibit the specific excessive debt behavior seen above. Let us refer to this as the “excessive debt tendency index.” This index is set up in such a way that the mean equals zero and a higher index value implies a stronger excessive debt tendency. Figure 5.5, which compares how the index value varies among the three groups, shows more definitively than Fig. 5.4 that the group of naı¨ve hyperbolic discounters bears the strongest excessive debt tendency. In the discussion thus far, I have compared debt behavior by merely dividing the survey respondents into three groups, based on whether they are hyperbolic or not and, if hyperbolic, whether they are naı¨ve or sophisticated when making a decision; I did not exclude the effects of various confounding factors such as respondents’ socioeconomic attributes and preferences other than the subjective discount rates. However, even when these are taken into consideration, the bottom line remains the same: hyperbolic discounting increases debt tendency, and it becomes particularly evident among naı¨ve hyperbolic discounters who cannot predict their own self- control problems. Table 5.3 shows the estimated extent to which hyperbolic individuals have a stronger debt tendency than non-hyperbolic individuals, when the effect of other factors—the presence of the sign effect, gender, age, education, income, assets, etc.— is excluded. In other words, it shows the estimated marginal effects on debt tendency that would occur when a non-hyperbolic individual becomes hyperbolic, assuming that other factors are held constant (for more details, see Ikeda and Kang 2015). 5.3 Hyperbolic Discounting and Debt Behavior 127

0.30

0.25 0.24

0.20

0.15

0.10

0.05

0.00 Naïve hyperbolic Sophisticated hyperbolic Nonhyperbolic -0.05 discounters discounters discounters

-0.07 -0.10 -0.10 -0.15

Fig. 5.5 Excessive debt tendency index. Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. For details, see Ikeda and Kang (2015)

Table 5.3 The effect of hyperbolic discounting on debt holding behavior Naı¨ve hyperbolic Sophisticated discounters hyperbolic discounters Overall debt Probability of having a debt Increases by 4.7 Increases by 1.3 percentage points percentage points Amount of debt Increases by JPY (Decreases by JPY 110,000 10,000) Excessive debt Probability of debt 30 % of Increases by 2.5 (Increases by 1.3 income percentage points percentage points) Probability of having a credit Increases by 4.8 (Increases by 0.4 card debt percentage points percentage points) Probability of having used (Decreases by 0.9 (Increases by 0.6 consumer financing percentage points) percentage points) Probability of having had a Increases by 4.0 (Decreases by 0.3 loan application rejected percentage points percentage points) Probability of experiencing (Increases by 0.3 (Decreases by 0.6 debt consolidation/personal percentage points) percentage points) bankruptcy Excessive debt tendency index Increases by 0.27 (Decreases by 0.02) Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. The figures in parentheses are not statistically significant. For details, see Ikeda and Kang (2015) 128 5 Overborrowing, Overeating, and Addictive Behavior

We can see from the table that the debt tendency—both in terms of overall debt and excessive debt tendency—becomes stronger in the same way when an individual is naı¨ve and underestimates his or her own self-control problems. The probability of holding debt increases by 4.7 percentage points and the amount of debt increases by JPY 110,000 when the individual is hyperbolic. It increases the probability of having a credit card debt by 4.8 percentage points. This effect is far from small, considering the fact that the percentage of individuals within this sample population who hold credit card debt was less than 9 %. In contrast, the effect of hyperbolic discounting is not so clear among sophisticated individuals who correctly understand their own self-control problems. In fact, whereas the effects on naı¨ve decision-makers all exceed the margin of error, in the case of sophisticated individuals, they are all statistically insignificant. Among naı¨ve individuals, hyperbolic discounting also increases the probability of having had a rejected loan application by 4 percentage points. However, caution is required in its interpretation; lenders cannot tell whether a loan applicant is hyperbolic or not and thus whether he or she is a naı¨ve or sophisticated hyperbolic discounter. Of course, assuming that the household financial situations (such as income and assets) of naı¨ve hyperbolic individuals are poor (which is indeed confirmed statistically to some extent), it is certainly possible that their loan applications get rejected on the basis of their poor ability to repay. However, since the results in Table 5.3 are obtained after excluding the effects of other variables like income and assets, such an explanation will not hold true. Instead, it would be more logical to conjecture that even when their household financial situations do not look particularly good in terms of being able to sufficiently cover future repayments, hyperbolic and naı¨ve individuals try to borrow the maximum amount at which the application could actually be rejected and, as a result, their loan applications are rejected at a higher probability.

5.3.5 Hyperbolic Discounting and Multiple Debts

The above argument that hyperbolic discounting increases excessive debt is important whenever we attempt to understand self-destructive behavior of falling deeper into debt. The behavior of heavily indebted individuals is hyperbolic in two respects. First, the type of debt is often short term and involves high-interest loans obtained through means such as credit cards or unsecured consumer loans. Because hyperbolic individuals discount earlier repayment at a higher rate, they accept the burden of a higher interest rate when the debt is for a shorter term. Second, heavily indebted individuals continue to obtain new loans and accumulate large numbers of loans—and in large amounts—in order to repay interest, right up to the point of debt consolidation or personal bankruptcy. This, too, can be considered a naı¨ve hyperbolic individual’s characteristic behavior, to keep making the immediate interest payment and repeatedly put off a painful decision such as debt consolidation or personal bankruptcy. Alternatively, debt consolidation and 5.3 Hyperbolic Discounting and Debt Behavior 129 personal bankruptcy can be considered a type of commitment device that ties the hands of the future self, as explained above when I discussed payday loans. However, the fact that they cannot use such a measure at an earlier stage to break out of the progression of a state of heavy indebtedness is also explained as the behavior of naı¨ve hyperbolic individuals. An online survey led by a group of Osaka University and Waseda University researchers under the supervision of Professor Yoshiro Tsutsui and conducted among 2,853 individuals, including those who had borrowed unsecured consumer loans in the past, measured the respondents’ level of present bias, based on the difference between the discount rate for the immediate future and the discount rate for 1 year later. While the respondents who had never borrowed unsecured consumer loans showed an average present bias of 81.1 %, those who had borrowed unsecured consumer loans showed a bias of 118.7 %. As for those who had experienced debt consolidation, their present bias was a whopping 151.39 % (Tsutsui et al. 2007). The following episode related to the cap interest rate also suggests the relationship between hyperbolic discounting and multiple debts. The Supreme Court ruling issued in January 2006 determined that when a debtor ﬁles a complaint, the lender must refund the money that he or she overpaid, given the “gray zone” lending rates that had been legal in the past (i.e., the rates that fell between the cap rate of 20.0 % stipulated by the Interest Rate Restriction Act and the cap rate of 29.2 % stipulated by the Investment Act). The ruling essentially banned lenders from offering loans at a “gray zone” interest rate. In response, consumer loan companies tightened their loan screening and reduced the number and amount of unsecured consumer loans they made available (shown later in Fig. 5.11). In this process, high credit risk consumers who had been borrowing money at a high rate were pushed out of the market. As described in the previous section, hyperbolic individuals are much more likely to have had a rejected loan application than non-hyperbolic individuals. Based on our estimate, the gap has widened by 0.4–0.8 percentage points following the 2006 Supreme Court ruling (Ikeda et al. 2010b). This suggests that a higher proportion of hyperbolic discounters were included in the high credit risk consumers who were removed from the market upon the elimination of “gray zone” interest rates. It can be said that this is a piece of indirect evidence that hyperbolic discounting leads to excessive debt.

5.3.6 The Sign Effect and Borrowing Aversion

In the discussion above, we have looked at the effect of hyperbolic discounting on people’s preferences for debt holding. However, as explained at the beginning of this chapter, time discounting also inﬂuences our debt behavior through two additional paths. One is the sign effect (an effect under which people do not discount future payment or loss), which should work to strengthen the tendency 130 5 Overborrowing, Overeating, and Addictive Behavior

Table 5.4 The sign effect, impatience, and debt holding behavior The effect of the The effect of impatience presence of the increased by 1 standard sign effect deviation (SD) Overall Probability of having a debt Decreases by 6.1 Increases by 5.9 percentage debt percentage points points Amount of debt Decreases by JPY Increases by JPY 200,000 230,000 Excessive Probability of debt 30 % of Decreases by 3.4 Increases by 2.6 percentage debt income percentage points points Probability of having a credit Decreases by 1.6 Increases by 2.2 percentage card debt percentage points points Probability of having used (Decreases by 0.2 Increases by 1.1 percentage consumer financing percentage points) points Probability of having had a (Decreases by 0.4 Increases by 2.9 percentage loan application rejected percentage points) points Probability of experiencing (Decreases by 0.2 Increases by 0.4 percentage debt consolidation/personal percentage points) points bankruptcy Excessive debt tendency (Decreases by Increases by 0.24 index 0.11) Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. The figures in parentheses are not statistically significant. The effect of the presence of the sign effect is the difference between the respondents with the sign effect and those without. Impatience is defined based on the standardized mean of four discount rates obtained from the questions on intertemporal choice with different settings. For details, see Ikeda and Kang (2015) to avoid taking loans and thus restrain people from becoming indebted. The other is that we can expect a higher discount rate that makes people consume in a more present-oriented manner, leading them to face a larger debt. Table 5.4 indicates that such a prediction is fairly realistic and valid. It estimates the extent to which the presence of the sign effect and an increase in the degree of impatience influence people’s debt behaviors, where the effect of hyperbolic discounting is excluded, along with factors such as age, gender, and economic attributes (for more details, see Ikeda and Kang 2015). Three facts can be read from this. First, as expected, the two aforementioned factors have strong effects on debt behavior, especially on the probability of holding debt and the amount of debt. In particular, the respondents who exhibit the sign effect have a 6.1 percentage-point lower probability of holding debt and JPY 230,000 less debt than the respondents lacking this effect. This impact of the sign effect on borrowing aversion is far from small; it is actually larger than the effect of hyperbolic discounting observed in Table 5.3. Second, however, the association between the sign effect and excessive debt holding is not overly large, and its statistical significance is also weak. Third, in contrast, we can see that impatience works so as to aggravate the preferences for debt holding on all attributes. 5.4 Obesity and Underweight 131

5.4 Obesity and Underweight

5.4.1 Choosing One’s Body Weight Status

According to the 2008 National Health and Nutrition Survey conducted by the Ministry of Health, Labour and Welfare (MHLW), more than one in four (28.6 %) men and a little over one in ﬁve (20.6 %) women in Japan fall under the category of “obesity”. Here, “obesity” refers to the state in which the body mass index (BMI), calculated by dividing an individual’s weight (in kg) by the square of his or her height (in m), is 25 or higher. As shown in Fig. 5.6, the percentage of obese individuals is trending upwardly, especially for men. Many probably believe the percentage of obese people in Japan to be lower than that in the United States or European countries; however, as shown below, the obesity rate in Japan is not lower than that in Western countries. In reference to this point, we need to note that the deﬁnition of “obesity” differs between the Japanese criterion (a BMI of 25 or higher) established by the Japan Society for the Study of Obesity (JASSO) and the Western criterion (a BMI of 30 or higher) established by the World Health Organization (WHO) (see Supplement D). However, when one considers that these criteria are both established based on the probability of developing an obesity-related disease such as diabetes, we must conclude that obesity is also a big problem in Japan, even though the criteria are numerically different (see also Supplement E).

35% 30.4% 28.9% 28.6% 30%

23.9% 25% 21.8% 23.3% 21.2%

20% 21.8% 23.1% 20.9% 20.6% 20.4% 20.2% 15% 19.0% 10.7% 10.8% 9.5% 9.7% 10.1% 8.8% 10% 7.5%

5% 6.3% 6.4% 5.6% 5.3% 4.4% 4.3% 4.2% 0% 1982 1987 1992 1997 2002 2007 2008

Obese men Obese women Underweight men Underweight women

Fig. 5.6 Obesity rate and underweight rate in Japan. Note: Prepared based on the 2008 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare 132 5 Overborrowing, Overeating, and Addictive Behavior

In the meantime, women in Japan are generally becoming underweight (see Fig. 5.6). As of 2008, one in ten women (10.8 %) fall under the category of “underweight,” with a BMI of less than 18.5. While the problem of body weight status, such as obesity and underweight, is often discussed from the standpoint of medicine and nutrition, we can gain new and useful insights from the perspective of economics (and behavioral economics, in some cases) by viewing it as the decision-making problem of caloric intake. Because there is a time lag between when one takes in calories and enjoys the taste and when that consumption affects his or her body weight and health status, eating behavior, which involves considering one’s own health in the future and determining how many calories to consume and how much delicious food to enjoy in the present, is a typical intertemporal choice. If it is difficult to grasp the notion of the eating behavior as an intertemporal choice, you should be able to understand it by thinking of a woman who manages the amount of food she eats because she wants to wear her favorite dress to a party or someone who cuts down his or her alcohol intake or meal portions in order to prepare for a medical examination scheduled 1 month later. Setting aside the question of how far into the future one is thinking and how much he or she is motivated, the individuals in these examples are both deciding the amount and quality of the meal today by focusing on a benefit in the future. For people like actors or fashion models whose body weight status directly reflects in their monetary compensation, an intertemporal trade-off occurs in a most obvious way: their diet must be the kind that is managed quite sophisticatedly. An example would be a young woman who follows a strict diet to maintain her beautiful figure in order to find the best possible future husband. Sumo wrestlers are similar but have unique cases in that they actually try to maintain a higher caloric intake today in order to increase their income in the future. It is said that consuming as many calories as possible in order to gain weight and become larger is not an easy task, especially in the case of smaller sumo wrestlers. Since “to eat is to make an intertemporal choice,” as described, a person’s obesity level and health status depend on how impatient in terms of the subjective discount rate and how hyperbolic he or she is. In particular, in the case of naı¨ve gluttons who have a serious self-control problem under hyperbolic discounting and who cannot correctly take that problem into account, they will continue to neglect their own health. The resulting overeating will lead to self-destruction in the form of obesity. In this section, I will consider health problems such as being obese and being underweight from the perspective of intertemporal choices; I will demonstrate that self-control problems stemming from hyperbolic discounting indeed cast a shadow on health problems, including obesity. 5.4 Obesity and Underweight 133

5.4.2 Obese People Tend to Be Indebted

As we saw in Chap. 1, overweight individuals are much more likely to hold debt than individuals who are not overweight. This tendency is consistently observed even across various datasets. Although I used the 2005 survey data in Chap. 1, data from the similar survey conducted more recently (with a different sample population) and from a 2010 online survey also detected the same tendency. Table 5.5 shows the results of the online survey; they indicate that debtors exhibit a greater mean BMI and a higher percentage of obese individuals in either the male or female sample. Furthermore, using the excessive debt tendency index explained in the previous section, the number of excessive debt holders is calculated from the same online survey. The percentage of the excessive debt holders is then compared between the groups of obese individuals and nonobese individuals, as shown in Fig. 5.7. We can see that the excessive debt tendency stands out among obese individuals, both male and female. A similar relationship can also be observed in the form of a negative association between saving propensity and tendency to obesity when using macro-level data (Komlos et al. 2004). Figure 5.8 shows the household savings rate (the ratio of household saving to GDP) and the percentage of obese individuals in the 2001–2004 period in OECD developed countries in the form of a scatter plot. We can clearly see a negative correlation between the savings rate and obesity rate, with a correlation coefﬁcient reaching as high as 45 %.3 In addition, as far as the macro- level data tell us (and as long as we use the JASSO obesity criterion), the ﬁgure indicates that Japan is by no means the high-savings/low-obesity country it has been believed to be; instead, Japan is found in the upper left quadrant (low savings/high obesity), along with the United States.

Table 5.5 Stronger obesity tendency among debt holders Body weight status (%) Severely obese Obese Underweight Mean BMI BMI 30 BMI 25 BMI < 18.5 Men Debt holder 24.02 6.0 % 34.4 % 3.5 % Non-debt holder 23.23 4.0 % 24.4 % 4.7 % Significant difference *** *** Women Debt holder 21.70 3.7 % 13.2 % 15.3 % Non-debt holder 20.81 1.2 % 8.5 % 19.3 % Significant difference *** * * Note: Prepared based on the Japan Internet Survey on Preferences Relating to Time and Risk 2010. ***Denotes that the difference is significant at the 1 % level; *denotes that the difference is significant at the 10 % level

3 It was Komlos et al. (2004) who ﬁrst used a macro international comparison and showed that a lower savings rate corresponds with a higher obesity rate in this manner. 134 5 Overborrowing, Overeating, and Addictive Behavior

% of excessive debt holders

21.4%

15.3%

12.3%

6.7%

Nonobese individuals Obese individuals Nonobese individuals Obese individuals Women Men

Fig. 5.7 Obese people display excessive debt tendency. Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. The respondents whose excessive debt index is more than 1 SD higher than the mean (0) are deﬁned as excessive debt holders

0.35 US

0.30

Japan 0.25 Canada

0.20 New Zealand Australia

Obesity rate Czech Republic 0.15 Spain Portugal Finland Denmark Germany Belgium Austria 0.10 㻲㼞㼍㼚㼏㼑 Italy Switzerland Sweden 㻺㼛㼞㼣㼍㼥 0.05 (Japan/WHO standards)

0.00 0.00 0.02 0.04 0.06 0.08 0.10 0.12 0.14 0.16 0.18 Household savings rate

Fig. 5.8 Higher obesity rates among countries with lower savings rates: International comparison. Note: Prepared based on the WHO Global Database on Body Mass Index, OECD OUTLOOK, Villar and Quintana-Domeque (2009) 5.4 Obesity and Underweight 135

This type of negative association between savings and obesity rate has also been reported in a study that used micro-level data. It was a study that a group of three researchers, including Patricia K. Smith, conducted by using a large individual- level dataset from the National Longitudinal Survey of Youth 1979 (NLSY79) (Smith et al. 2005). Smith and others looked at whether the respondents increased their savings in the 1989 survey year and demonstrated that the group of individuals who had withdrawn savings or did not increase savings had a higher BMI and a higher probability of falling under the “obesity” category. These facts can be understood well, if you think of unnecessarily built-up subcu- taneous fat and visceral fat as a “health debt” that one takes on in order to enjoy eating each time. Once burdened with this “fat debt,” you would have to pay a variety of “interests,” such as clothing that no longer fits or additional medical expenses. In other words, how many calories to take in would change, depending on how one assesses the present benefits, such as the delicious taste and vitality obtained from eating food, against these types of future interests. The structure of the choices is exactly the same as that between borrowing money and consuming to realize today’s benefit and saving money for the future. As a result, impatient individuals who value the present more than the future are more likely to become indebted and build up fat. One of the reasons for a positive association between obesity level and debt holding and a negative association between obesity level and the saving propensity probably lies in the similarity between these intertemporal choices.

5.4.3 Obesity as Self-Destruction

Just like the intertemporal choice of holding debt, people’s caloric intake behavior and hence their body weight status (e.g., obesity) are probably inﬂuenced by the three aspects of their subjective discount rates: the discount rate level itself, present bias due to hyperbolic discounting, and the sign effect. Because the discount rate is an indicator of impatience level, the individual would give priority to eating in a present-oriented manner and end up increasing the obesity tendency when the indicator is higher. People who have a self-control problem under hyperbolic discounting would postpone dieting and prioritize the feast in front of them or choose fast food that can easily and quickly satisfy hunger over a healthy meal that takes time and effort to prepare (Cutler et al. 2003). Finally, the sign effect is expected to work against becoming obese because individuals who exhibit the sign effect have a stronger inclination to suppress the amount of caloric intake in order to avoid the “interest” they will incur—increased healthcare costs, tighter clothes, increased self-consciousness, etc.—when they take out a “loan” in the form of obesity. It is not unreasonable to think that the borrowing aversion tendency also works with obesity. Table 5.6 indicates that such a hypothesis is supported by actual data. This is part of a joint study that was conducted with Fumio Ohtake and Myon-Il Kang by using the results of the 2005 Osaka University survey. First, we can see that the degree of overweight increases—both in terms of BMI and the probability of being obese— 136 5 Overborrowing, Overeating, and Addictive Behavior

Table 5.6 The effect of time discounting on body weight status Probability of Probability of being Probability of BMI being obese severely obese being underweight Increase in Increases Increases by (Increases by 0.16 (Decreases by the degree of by 1.09 % 2.28 percent- percentage points) 0.83 percentage impatience age points points) Increase in the Increases Increases 2.81 Increases by 0.73 Decreases by 0.92 degree of hyper- by 0.96 % percentage percentage points percentage points bolic discounting points The sign effect Decreases (Decreases by Decreases by 1.06 Increases by 4.02 (yes/no) by 2.17 % 3.69 percent- percentage points percentage points age points) Note: Prepared based on Ikeda et al. (2010a). Factors such as gender, age, income, and assets are controlled. An increase in the degree of impatience means an increase in the discount rate by 1 SD. An increase in the degree of hyperbolic discounting means the change in effect when the tendency to procrastinate homework (on a 5-point scale), which is used as a proxy variable, increases by 1 unit of scale. The sign effect (yes/no) indicates the effect of the presence of the sign effect. The figures in parentheses are not statistically significant when the degree of impatience is higher or the level of hyperbolic discounting is more serious. For example, when the hyperbolicity level indicated on a 5-point scale increased by 1 unit, the probability of being obese was estimated to increase by 2.81 percentage points. Second, as expected, the sign effect works through its “borrowing aversion” effect to lower BMI; it shows that the BMI of individuals with the sign effect is smaller by 2.17 % than those without the sign effect. Although the effect on the probability of being obese is not statistically significant, the sign effect significantly increases the probability of being severely obese by more than 1 percentage point. The effect of increasing the probability of being underweight is particularly large; with the sign effect, the probability increases by as much as 4 percentage points. Table 5.6 does not distinguish whether an individual is a sophisticated person who can incorporate his or her self-control problems in the future or a naı¨ve person who cannot. As in the case of the debt problem, this point is particularly important when understanding obesity from the viewpoint of self-destructive choices. We can expect that individuals who cannot anticipate their own nature to grow impatient when dealing with immediate choices continue to procrastinate in their plans to care for their own health, such as dieting, and always choose excessive caloric intake. In the sense that the extra fats the individual accumulated in this way clearly run counter to long-term benefits, this can be considered self-destructive overeating. In fact, these predictions are supported to some extent by data. The effect of self- control problems on the degree of obesity, which is examined by using 2010 online survey data and dividing the sample population into naı¨ve and sophisticated, is shown in Fig. 5.9. The respondents are classified as “naı¨ve” and “sophisticated” based on whether or not they procrastinated with their homework assignments in their school days, in the same way as seen in the previous section. Just like the results in Table 5.6,we see the trend of hyperbolic respondents having a higher BMI and including a higher 5.4 Obesity and Underweight 137

BMI BMI Women Men (%) (%) 24.20 33.2% 35.0% 21.60 14.0% 24.01 12.2% 24.00 10.9% 21.38 30.0% 21.40 12.0% 27.6% 23.80 21.24 25.0% 10.0% 23.2% 21.20 23.60 20.0% 7.8% 8.0% 23.40 23.32 21.00 15.0% 6.0% 23.20 23.12 20.80 20.74 10.0% 4.0% 23.00 20.60 2.0% 22.80 5.0% 20.40 0.0% 22.60 0.0% Naïve hyperbolic Sophisticated hyperbolic Non-hyperbolic Naïve hyperbolic Sophisticated hyperbolic Non-hyperbolic discounters discounters discounters discounters discounters discounters Mean BMI Obesity rate (right axis) Mean BMI Obesity rate (right axis)

Fig. 5.9 Hyperbolic discounting and obesity. Note: Estimated based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010 percentage of obese individuals compared to non-hyperbolic respondents. We also see with the male sample population that the obesity rates display the predicted difference between naı¨ve and sophisticated individuals of a hyperbolic nature. Although the results for the female sample showed that the obesity rate was higher in the group of sophisticated hyperbolic discounters than in that of naı¨ve hyperbolic discounters, unlike in the male sample, this difference is small and within the statistical margin of error. Thus, it is especially among men that obesity is attributable to self-destructive overeating behavior under self-control problems. This positive correlation between hyperbolic discounting and obesity has also been reported by a research group consisting of Timothy J. Richards and colleagues, for example (Richards et al. 2010). They conducted an economic experiment involving 82 students at Arizona State University to estimate their discount rate; they demonstrated that students with a higher BMI have a higher degree of hyperbolic discounting. However, they interpreted this relationship as obesity causing hyperbolic discounting rather than hyperbolic discounting increasing the obesity rate. They argue that perhaps an individual’s short-term discount rate increases when he or she gains weight and becomes less healthy because the probability of surviving in the future decreases. The question of causal relationship, namely, whether obesity level determines the discount rate or the discount rate determines obesity level, as we have been discussing here, is difﬁcult to answer, unless we ultimately conduct a detailed statistical analysis. However, if you think about our everyday dietary habits, I do not think it is too difﬁcult to assess which of the “overweight individuals are largely discounting the future by thinking about the brevity of their own future” or “individuals who largely discount the future are prioritizing present satisfaction and becoming overweight” is more plausible. 138 5 Overborrowing, Overeating, and Addictive Behavior

5.4.4 Choosing Being Underweight

As we saw in Table 5.6, the probability of falling under the category of “underweight” is higher among those with the sign effect and is lower among those with a higher degree of hyperbolic discounting. However, this association may be a little strange if we take into account that being underweight is an unhealthy condition. In fact, it is known from medical studies that disease risk with respect to BMI is U-shaped or J-shaped; low-weight individuals have a higher disease risk than standard-weight ones, and their healthcare costs are higher, as is the case with obese individuals (Kuriyama et al. 2002; Flegal et al. 2005). For example, when calculated based on the estimation results presented at The Examination Committee of Criteria for “Obesity Disease” in Japan, JASSO (the JASSO Obesity Diagnostic Criteria Review Committee 2000), the rate of disease complication among men whose BMI is 18.5—the borderline value for being underweight—is around 2.32 %. This is the same value as that for obese individuals whose BMI is 25.6. As a reference, the rate for a standard body weight status (BMI ¼ 22) is 2.07 %. If low weight could lead to health hazards in this way, individuals with the sign effect and lower degrees of impatience and hyperbolicity should view the disutility of lower body weight in the future as serious and thus make the choice not to become underweight. However, our data indicate the opposite relationship. It is necessary to empirically analyze why those who do not discount the future are more likely to become underweight; however, it is conceivable that there is a cultural or social factor of some sort that encourages people to recognize low weight as beneficial. For example, in the wake of a 2006 incident in which a Brazilian female model died of anorexia, Italy established regulations to prevent fashion models from becoming underweight, such as prohibiting individuals whose BMI is less than 18 from working as a model. This kind of episode indicates that there is a sense of beauty in the market that is biased toward slimmer bodies. Figure 5.10 summarizes the distribution of “what you consider the ideal body weight status (ideal BMI)” by age group, based on the results of the 2008 National Health and Nutrition Survey. Compared to the distribution of men, there are two notable characteristics among women. The first is the fact that the BMI they consider to be ideal trended downward in the 20-year period between 1998 and 2008. This coincides with the fact shown in Fig. 5.6 that the underweight rate among women has been trending upwards (see also Supplement F). Second, the BMI that women, particularly those in their 20s and 30s, consider as ideal is much lower than the medically ideal level (BMI ¼ 22). It may be that because women have a longing for a slimmer body, a considerable “benefit” (i.e., benefit that exceeds the detriment of ill health) is created through the notion of “a slender body can satisfy one’s own sense of beauty.” This is probably the reason why we saw results indicating that the probability of being underweight decreases among individuals who have the sign effect and lower degrees of impatience and hyperbolicity, especially in the female sample population. 5.4 Obesity and Underweight 139

Men 1998 2008

22.5 22.5 22.5 22.5 22.5 22.4 22.3 22.2 22.1 22.1

21.6 21.5

20s 30s 40s 50s 60s 70s or older

Women

1998 2008 22.0 21.8 21.9 21.5 21.3 20.9 20.6

20.1 19.8 19.6

19.1 19.0

20s 30s 40s 50s 60s 70s or older

Fig. 5.10 The BMI considered to be ideal. Note: Prepared based on the 2008 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare. The standard (ideal) body weight status is BMI ¼ 22 for both men and women 140 5 Overborrowing, Overeating, and Addictive Behavior

(in JPY trillion) 60

(Year) 0 2002 2003 2004 2005 2006 2007 2008 2009

Outstanding unsecured consumer loans Pachinko ball rental fees

Fig. 5.11 Outstanding unsecured consumer loans and the total pachinko parlor sales. Note: Information on outstanding unsecured consumer loans is obtained from the Financial Services Agency’s website. The pachinko ball rental fees are obtained from the White Paper on Leisure by the Japan Productivity Center for Socioeconomic Development (JPC-SED)

5.5 Gambling, Smoking, and Drinking

Finally, let us briefly look at consumer behavior pertaining to cigarettes, gambling, and the like, which are addictive and detrimental in the long term. As I mentioned in Chap. 1, these behaviors correlate with each other while also having a strong association with other self-destructive choices, such as holding excessive debt and being obese (Ida et al. 2009; Ida 2010; Kang and Ikeda 2014). For example, see Fig. 5.11, which compares trends in outstanding unsecured consumer loans and total pachinko parlor sales (pachinko ball rental fees). As explained in the previous section, you will first see that the number of outstanding unsecured consumer loans began to decline after the Supreme Court approved debtors’ refund claims for overpaid interest. What is interesting is that the pachinko parlors’ sales also began to decline rapidly, along with the outstanding loans. It is as if these individuals had been borrowing money to play pachinko. In fact, as shown in Fig. 5.12, our online survey shows that subjects who gamble on a regular basis are extremely likely to have borrowed money from unsecured consumer loans in the past and indeed hold credit card debt.4 These findings seem to suggest that

4 Except where permitted by law, such as the Horse Racing Act, gambling is prohibited by the penal code. Pachinko parlors avoid being subject to the penal code by operating in the so-called three-store style in which a pachinko parlor, thrift shop (gift exchange ofﬁce), and gift wholesaler 5.5 Gambling, Smoking, and Drinking 141

Habitual gamblers Non-habitual gamblers

25.9%

19.8% 17.5%

10.5%

7.4% 7.5%

% of those who have borrowed % of credit card debt holders % of those who have excessive from unsecured consumer loans debt tendency

Fig. 5.12 Habitual gamblers tend to have excessive debt tendency. Note: Prepared based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. The respondents who gamble more than once a week are defined as habitual gamblers. Excessive debt holders are defined as respondents whose excessive debt tendency index is equal to or higher than 1 SD from the mean gambling habits have an impulsive self-destructive nature, rather than be a rational choice that takes long-term benefits into consideration. Figure 5.13 divides the online survey respondents into three groups, including naı¨ve hyperbolic subjects, sophisticated hyperbolic subjects, and non-hyperbolic subjects, in the same way as in the previous section and compares the percentages of individuals who have gambling, smoking, and drinking habits. In most cases, we can see that the group of naı¨ve hyperbolic subjects includes the highest percentage of habitual consumers, while the group of non-hyperbolic subjects includes the lowest percentage of habitual consumers. These associations remain the same even after taking into account other factors such as age, income, and attitudes toward risk, strongly indicating that self- destructive choices such as gambling and smoking are related to self-control problems that stem from hyperbolic discounting.

coordinate with each other. As a practical matter, however, virtually no one considers pachinko a mere game, rather than gambling. Here, I, too, take the position of viewing pachinko as gambling. 142 5 Overborrowing, Overeating, and Addictive Behavior

Men 40.0% 37.0% 35.3% 35.5% 35.0% 29.9% 30.0% 26.1% 25.0% 23.5% 23.0%

20.0% 16.2% 14.3% 15.0%

10.0%

5.0%

0.0% % of habitual smokers % of habitual gamblers % of habitual drinkers

Naïve hyperbolic discounters Sophisticated hyperbolic discounters Non-hyperbolic discounters

Women 18.0%

16.0% 15.4%

14.0% 13.2%

12.0% 11.1% 11.4%

10.0% 8.0% 8.0% 7.5% 7.5%

6.0% 4.3% 4.0% 4.0%

2.0%

0.0% % of habitual smokers % of habitual gamblers % of habitual drinkers

Naïve hyperbolic discounters Sophisticated hyperbolic discounters Non-hyperbolic discounters

Fig. 5.13 Hyperbolic discounting and the habits of smoking, gambling, and drinking. Note: Prepared based on the data from the Japan Internet Survey on Preferences Relating to Time and Risk 2010. The deﬁnitions of each habitual consumer are the same as in Fig. 3.8

5.6 Conclusions

In this chapter, I have presented a variety of data and shown that the self-control problems that arise under hyperbolic discounting actually lead to self-destructive choices that undermine long-term interests. A hyperbolic decision-maker tends to Appendix: An Illustrative Model of Hyperbolic Consumers 143 make choices that lead to overspending and undersaving in various settings, particularly when he or she is naı¨ve in the sense that he or she puts too much faith in his or her own perseverance. Examples include committing the income- consumption cycle where one spends as money comes in, incurring excessive debt through the use of credit cards and unsecured consumer loans, overeating that results in obesity, and excessive (and addictive) gambling and smoking. In contrast, the sign effect, which discounts future loss at a smaller rate than future beneﬁt, leads to borrowing aversion behavior and works to suppress consumption and debt.

Appendix: An Illustrative Model of Hyperbolic Consumers

In this appendix, I theoretically illustrate the borrowing behavior of naı¨ve and sophisticated hyperbolic consumers by using a simple three-period model. Let me specify the consumers’ discount function for future felicity with delay τ by the generalized hyperbolic discount function f(τ) a la Loewenstein and Prelec (1992) (see the discussions in Sect. 3.2.2 of Chap. 3): θ=α 1 ατ À forα > 0, f ðÞ¼τ; α; γ ðÞþ ð5:1Þ expðÞÀθτ forα ¼ 0; where θ > 0. The two function forms are consistent in that Àθ=α limα!0 ðÞ1 þ ατ ¼ expðÞÀθτ . The discount rate ρ, which is obtained by com- puting À f 0ðÞτ = f ðÞτ , is given as: θ ρτðÞ¼; α; θ ð5:2Þ 1 þ ατ

As seen from (5.2), the discount rate is declining in delay τ, which represents the usual property of hyperbolic discounters, that is, they are less patient in immediate future choices than in distant future choices. The degree of declining impatience is higher as α becomes larger. Especially, for two distinct delays τ1 and τ2 (τ1>τ2), the relative discount rates ρτðÞ1 =ρτðÞ¼2 ðÞðÞ1 þ ατ2 =ðÞ1 þ ατ1 , which are smaller than 1, depend solely on α: a large α implies a small ρ(τ1)/ρ(τ2). Parameter α thus represents the degree of hyperbolic discounting or declining impatience. Let cτ and u(cτ) denote period τ consumption and period utility function, respectively. The gross rate of interest R is constant. When the consumer is naı¨ve, 144 5 Overborrowing, Overeating, and Addictive Behavior

he or she determines his or her “optimal” consumption c1 in the initial period 1 from the intertemporal optimality conditions,

0 u ðÞc θ=α 1 1 α R 5:3 0 ðÞþ ¼ ð Þ u ðÞc2 θ=α u0ðÞc 1 þ 2α 2 R 5:4 0 ¼ ð Þ u ðÞc3 1 þ α and the lifetime budget constraint,

c2 c3 c1 þ þ ¼ W1 ð5:5aÞ R R2 where W1 is initial wealth holding. As 1 þ α > ðÞ1 þ 2α =ðÞ1 þ α , the conditions imply that the consumer puts a greater weight on the immediate gratiﬁcation from c1 than he or she expects to put on the period 2 immediate gratiﬁcation from c2. Since this tendency is stronger with α, a larger α results in larger debt holdings in the period. In period 2, the naı¨ve consumer re-determines (c2, c3) from the period 2 optimality condition,

0 u ðÞc θ=α 2 1 α R 5:5b 0 ðÞþ ¼ ð Þ u ðÞc3 which differs from the period 1 condition (5.4); marginal gratification from c2 is evaluated more highly than in (5.4). The realized c2 is thus larger than the level which was planned in the previous period, whereas the opposite is true for c3. To be more specific, if u(cτ) is specified by the power function,

c1Àγ À 1 ucðÞ¼ , γ > 0 1 À γ the naı¨ve consumer’s “optimal” consumption rates are given by

N λ ; : c1 ¼ 11W1 ð5 6Þ N λ N; : c2 ¼ 22W2 ð5 7Þ N λ N; : c3 ¼ ðÞ1 À 22 RW2 ð5 8Þ ÀÁ N N λ λ where W2 is wealth in period 2, RW1 À c1 , and 11 and 22 represent the realized marginal propensities to consume (MPC) in periods 1 and 2, respectively: Appendix: An Illustrative Model of Hyperbolic Consumers 145

1 λ ÈÉ; 5:9 11 ¼ =γ 1=γ ð Þ 1 þ RÀ1fgRfðÞ1 1 þ RÀ2 R2 f ðÞ2

λ 1 : : 22 ¼ =γ ð5 10Þ 1 þ RÀ1fgRfðÞ1 1

τ ’ α α N From these solutions, as f( ) s are decreasing in , a large implies a large c1 and a N small c3 . In this sense, naı¨ve consumers with stronger hyperbolic discounting are α N likely to hold larger debts. However, the effect of an increase in on c2 is N ambiguous because it raises the marginal propensity to consume from W2 whereas N it reduces W2 by raising c1. When the consumer is a sophisticated person who expects correctly the inci- dence of the preference reversal from (5.4) to (5.5), he or she ﬁrst solves (5.5) for (c2,c3) by taking c1 and hence period 2 wealth W2 as given. Once the optimal c2 and c3 are obtained as functions of c1, by substituting functions c2(c1) and c3(c1) into the lifetime utility maximization problem, the consumer determines the optimal c1 and hence c2 and c3. ’ S In the illustrative model, the sophisticate s optimal consumption ct in period t is obtained as

S λ0 ; : c1 ¼ 11W1 ð5 11Þ S λ S; : c2 ¼ 22W2 ð5 12Þ S λ S; : c3 ¼ ðÞ1 À 22 RW2 ð5 13Þ ÀÁ S S λ0 where W2 ¼ RW1 À c1 , and the MPC 11 in period 1 is deﬁned in the same way as in (5.9) by using effective discount factors f SðÞτ ðÞτ ¼ 1, 2 , instead of f(τ):

s λ0 λ = ; f ðÞ¼1 22 f ðÞþ1 ðÞ1 À 22 f ðÞ2 f ðÞ1 f sðÞ¼2 f ðÞ1 f SðÞ1 :

The solution differs from the naı¨ve consumer’s solution only in the MPC in period 1; it is deﬁned by using the effective discount functions f S(τ) instead of f(τ). The effective discount factor f S(1) for period 2 is a weighted average of the corresponding original discount factor f(1) and the original future one-period discount factor for period 3 computed as f(2)/f(1). Since, as is easily seen, f S(2)>f (1) and f S(2)>f(2), which means that the sophisticate behaves as if he or she had a lower discount rate when comparing felicities from c1and c2 and a higher discount rate when comparing felicities from c2 and c3 than he or she would if he or she were naı¨ve. Due to these opposite effects, it is theoretically ambiguous whether the ’ λ0 ’ λ sophisticated consumer s MPC in period 1 ( 11) is smaller than the naı¨ve one s( 11). Nevertheless, it may be natural to hypothesize that the sophisticated consumer would weaken somehow his or her overconsumption/undersaving and 146 5 Overborrowing, Overeating, and Addictive Behavior overborrowing because period 1 self has an incentive to use some devices to commit to his or her lifetime consumption plan. From (5.3), (5.4), and the lifetime S λ budget, the solution with commitment devices is obtained as c2 ¼ 21RW1 and S λ λ 2 λ c3 ¼ ðÞ1 À 11 À 21 R W1, where 11 is given by (5.9) and

=γ RÀ1fgRfðÞ1 1 λ ÈÉ: 21 ¼ =γ 1=γ 1 þ RÀ1fgRfðÞ1 1 þ RÀ2 R2 f ðÞ2

From this and (5.8), it can be shown that, with commitment devices, S N ƒ 1=γ ƒ 1=γ > ’ c3 À c3 / ðÞ2 À ðÞ1 0. In sum, the sophisticated consumer s solution satisﬁes the following: S N S < N S > N c1 ¼ c1 , c2 c2 , and c3 c3 , with commitment devices, S meaning that the sophisticated consumer restrains c2 and mitigates undersaving and/or overborrowing.

Supplement D: Obesity Criteria: Japan and the WHO

To determine whether an individual is obese or underweight, the body mass index (BMI) is usually used. In Western countries, a BMI of 30 or over is considered obese, in accordance with the criteria established by the World Health Organization (WHO). Meanwhile, the Japan Society for the Study of Obesity (JASSO) standards, which regard a BMI of 25 or over as obese, is used in Japan in accordance with the 2000 report released by the Examination Committee of Criteria for “Obesity Disease in Japan,” affiliated with the JASSO. This is because the committee confirmed the tendency that the risk for developing obesity-related health problems (impaired glucose tolerance, hypertension, lipid metabolism abnormality, hyperuricemia, and heart disease (abnormal electrocardiogram)) dramatically increases among Japanese people whose BMI is 25 or over. In other words, it takes into account that the Japanese have a unique predisposition for obesity-related health problems, even when a BMI value would not be diagnosed as obese by the Western standards. The differences between these two standards are as shown in Table 5.7. Whereas individuals whose BMI is 25 or over but less than 30 are identified as Class I obese based on the JASSO standards, the WHO considers them overweight (preobese), a state that is on the brink of becoming obese. Both the JASSO and WHO standards define underweight as a BMI of less than 18.5; normal, as a BMI of 18.5 or over but less than 25; and standard (ideal) weight—with which the disease risk is minimized—as a BMI of 22. While the body weight criteria in Japan are stricter in the sense that one is considered obese at a lower BMI value, the JASSO separately defines cases in which one develops or is expected to develop a health problem due to being obese as an “obesity disease.” The diagnostic criteria for disease obesity is that an Supplement E: “Super Size Me”: The State of Obesity in the... 147

Table 5.7 Body-weight-status criteria BMI JASSO criteria WHO criteria BMI < 18.5 Low weight (underweight) Low weight (underweight) 18.5 BMI < 25 Healthy weight Healthy weight BMI ¼ 22 Standard (ideal) weight Standard (ideal) weight 25 BMI < 30 Obese (Class I) Overweight (preobese) 30 BMI < 35 Obese (Class II) Obese (Class I) 35 BMI < 40 Obese (Class III) Obese (Class II) 40 BMI Obese (Class III) Obese (Class III) Note: The JASSO criteria are based on the JASSO Obesity Diagnostic Criteria Review Committee (2000) individual who was determined to be obese (a BMI of 25 or over) meets one of the following: 1. The individual has an obesity-related health problem (e.g., type 2 diabetes, hypertension, hyperuricemia, gout, cardiac infarction, cardiac angina, etc.) that requires him or her to lose weight. 2. The obesity of the individual is a high-risk one, such as visceral fat obesity. It may be an obesity disease, rather than just obesity, that can be explained well under the framework of choices regarding gains and losses in the present and future, because there are many cases in which an individual is not actually overweight even when his or her BMI is high. This is particularly true among men with a muscular build. In fact, in the case of men (whose muscle proportion is larger), the correlation between the personal discount rate and BMI is not detected as strongly as in the case of women. In this case, it may be because being obese is determined based just on BMI.

Supplement E: “Super Size Me”: The State of Obesity in the United States and Europe

What would happen if you were to eat every single meal at McDonald’s for 30 days? Morgan Spurlock volunteered to be a guinea pig for this ridiculous but interesting experiment and recorded the course of events as a movie. It is in the American documentary ﬁlm “Super Size Me,” which was released in 2004. The experiment is conducted under rough rules, including the following; 1. He must eat McDonald’s products three times a day. 2. He cannot walk more than 5,000 steps a day, which is the walking distance of an average American. 3. When offered by the clerk, he must accept and eat a “super size” meal. 148 5 Overborrowing, Overeating, and Addictive Behavior

How was Mr. Spurlock after 30 days of the experiment? His condition was terrible; his weight had increased from 84.1 to 95.2 kg (an increase of 11.1 %, in terms of percentage), a severe inﬂammation was observed in his liver, and he even began exhibiting manic-depressive tendencies. The title of the movie makes a pun on the McDonald’s “super size” menu items, which are very large in portion size, by turning the phrase into a verb and making the sarcastic and bitter statement that McDonald’s is “trying to make me fat.” In the background of this movie, there is an explosive increase in the obese population that the United States has been experiencing since the late 1970s. As Fig. 5.14 shows, the percentages of preobese and obese are trending at levels exceeding 30 % after 2000; additionally, as of 2008, two in three individuals aged 20 or older in the United States are categorized as overweight or obese. In 2002, two minors living in New York City ﬁled a lawsuit for damages against McDonald’s, claiming that they became obese because of McDonald’s food. The federal district court dismissed the complaint, saying that there was no clear causal relationship; however, it was an incident that symbolized just how serious the obesity problem has become in modern American society. Although growth levels vary, this trend of growth in the size of the obese population is a common phenomenon seen in developed countries and East Asia. The United Kingdom, the country with the world’s second highest obesity rate, is developing a system to address this problem by establishing a position called “Minister for Fitness” in 2006, among other things.

34.4 34.3 33.6 35.1 32.7 33.4 31.5 32.3 32.1 33.6 32.9 31.3 32.2 30.9

23.2

15 14.5 13.4

6.2 5.4 5.1 5 6 3 0.9 1.3 1.4 (Year)

1960–1962 1971–1974 1976–1980 1988–1994 1999–2000 2001–2002 2003–2004 2005–2006 2007–2008

Overweight (25 ≤ BMI < 30) Obese (BMI ≥ 30) Extremely obese (BMI ≥ 40)

Fig. 5.14 Changes in the obesity rate in the United States (%). Note: Prepared by the author based on data from the US Department of Health and Human Services (DHHS) and Centers for Disease Control and Prevention (CDC)’s FastStats). The age groups are already adjusted to the US 2000 baseline Supplement F: Reporting One’s Own Weight as Lighter 149

Supplement F: Reporting One’s Own Weight as Lighter

The two BMI distributions shown in Fig. 5.15 summarize women’s data obtained from two national surveys conducted 2 months apart, around 2005. The distribution in the dark color contains the results of the National Health and Nutrition Survey conducted in November 2004 by the Ministry of Health, Labour and Welfare (MHLW), and the distribution in the light color contains the results of a survey that Osaka University conducted in February 2005 (the Japan Household Survey on Consumer Preferences and Satisfaction 2005). The ﬁgure shows the percentage distribution of women in Japan in each range of BMI, as shown in the horizontal axis. Samples in each survey were collected through an appropriate random sampling to ensure that there was no regional or age-speciﬁc bias. These large-scale surveys had sample sizes exceeding 2,000. So, how do these two distributions differ from each other? Let us study the graph and offer some thoughts. The answer is that, whereas the distribution in the dark color is higher in the obese range (where BMI is higher) as well as in the underweight range (where BMI is lower), the distribution in the light color is higher in the range of ideal body type, where the BMI falls between 19 and 25. Why does such a difference occur when both are the results of large-scale national surveys on Japanese women’s body types?

(%) 18 Actually measured data (2004) Self-reported data (2005)

Underweight Obese 10

0 Less 15-16 16-17 17-18 18-19 19-20 20-21 21-22 22-23 23-24 24-25 25-26 26-27 27-28 28-29 29-30 30-31 31-32 32-33 33-34 34-35 Larger than 15 than 35 BMI (women)

Fig. 5.15 Women’s BMI distribution: Actually measured versus self-reported. Note: Range “15–16” in the horizontal axis represents that 15BMI<16. Prepared by using actually measured data from the 2004 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare and self-reported data from the Japan Household Survey on Consumer Preferences and Satisfaction 2005 conducted by Osaka University 150 5 Overborrowing, Overeating, and Addictive Behavior

There is actually a large difference between them; whereas the MHLW’s histogram (in dark color) is based on real data obtained by measuring the height and weight of subjects, the graph in the light color is based on self-reported data obtained in the survey. When surveying weight by using the self-reporting method, many respondents often report their height and weight by adjusting them toward what they consider desirable. Because individuals who are on the heavy side are especially likely to report their weight lighter and height taller than what they truly are, the obesity rate is likely to be underestimated when it is based on self-reported data. These ﬁndings thus exhibit what is called self-report bias. We can clearly see that this type of self- report bias is taking place in the example above, since the self-reported data (light color) is particularly lower than the measured data in the obese range (where the BMI is 25 or over) and actually higher in the range of normal weight. In fact, as shown in Table 5.8, calculating the percentages of obese individuals and underweight individuals by gender by using these two datasets yields results that strongly suggest self-report bias. In particular, while the measured data show that 20.1 % of women are obese, our self-report survey indicates only 14.3 % of them are obese. Assuming there is no sampling bias in either dataset, these ﬁndings imply that many obese women are reporting their weight as being lighter (or their height as being taller). Based on a simple calculation, it means that 12 % of obese men and more than 28 % of obese women reported themselves as not being obese. That said, as long as the personal discount rate and the level of hyperbolic discounting do not correlate with self-report bias, there is no statistical issue, even when analyzing the relationship between obesity and either discount rate or hyperbolic discounting by using survey data that might feature self-report bias. For example, I introduced earlier results indicating that the tendency to become obese increases as the individual becomes more hyperbolic. If there is no association between the extent of underreporting one’s own weight and how hyperbolic that individual is, the results can be trusted “as is.” If that is not the case, however, some sort of consideration is needed of the level of detected correlation. If obese and hyperbolic individuals are more likely to underreport their own weight in a survey, we will not be able to observe a true positive correlation between hyperbolicity and obesity, even if there is one, because underreporting

Table 5.8 Actually measured data and self-reported data % of obese individuals % of underweight individuals Actually measured Self-reported Actually measured Self-reported data data data data Men 27.3 % 24.0 % 7.3 % 5.7 % Women 20.1 % 14.3 % 15.3 % 14.3 % Note: Prepared by using actually measured data from the 2004 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare and self-reported data from the Japan Household Survey on Consumer Preferences and Satisfaction 2005 conducted by Osaka University Supplement F: Reporting One’s Own Weight as Lighter 151 will mask the true correlation, or even if we did observe a positive correlation, it would be underestimated. How one should handle self-report bias is a difﬁcult issue. In the United States, for example, researchers have estimated a simple equation based on the body size data of the same subjects, obtained by measurement and by self-reporting, to correct self-reported data (Burkhauser and Cawley 2008). Therefore, they normally go through a procedure to adjust bias by using such an equation. However, it is not possible to apply that corrective equation to Japanese data, which have a completely different distribution of body type and constitution. Since we still do not have such a dataset in Japan, the only thing we can do is speculate on self-report bias by comparing measured data and self-reported survey results obtained around the same time, as shown above. Chapter 6 Coping with Self-Destructive Behavior

6.1 Introduction

The standard economics known as neoclassical economics assumes that humans are quite rational subjects who always act consistently, like a machine, when solving an optimization problem. Therefore, in neoclassical economics, there are no such things as self-control problems, inconsistent behaviors, or regrettable behaviors. If there is a problem, it occurs only in cases where the choices are distorted due to incomplete information or some kind of transaction constraints or in cases (such as those involving pollution) where someone’s choice bypasses the market and directly influences others (in what is called an externality). As long as there is no such problem, our choices should be rational, either privately or socially, so that efficient resource allocation would be attained through the price mechanism of the market. However, when facing in reality the difficult problem of self-control, as explained in the previous chapters, we are often tempted by short-term gains and end up making self-destructive choices. Many smokers constantly wish they could cut down the number of cigarettes they smoke. People often have the experience of having eaten too much and regretting it later. Many individuals who keep using a credit card to shop so that their debt hardly gets smaller would eventually feel fed up with the amount of interest they had to continue to pay. How can we address these issues? In this final chapter, I would like to consider how to cope with the self-control problem and avoid self-destructive choices. In so doing, there are two types of measures. One is the wisdom and means for self- control in decision-making, namely, measures that address the problem of how each one of us as a decision-maker can ensure long-term interests while facing self- control problems. The other consists of policy directions concerning what kind of frameworks can be designed to help people’s self-control and improve their choices, when one is in a position to design a framework to help others make choices. The latter involves a

© Springer Japan 2016 153 S. Ikeda, The Economics of Self-Destructive Choices, Advances in Japanese Business and Economics 10, DOI 10.1007/978-4-431-55793-7_6 154 6 Coping with Self-Destructive Behavior

Fig. 6.1 Avoiding self-destructive choices wide range of issues, from the upbringing of children at home to rule-making within a school or company and even to designing a national system. In what follows, let us consider the issues step by step. First, we will consider the ways by which each individual can improve his or her own choices. The overall discussion is summarized in Fig. 6.1; referring the ﬁgure would help to understand the following sections.

6.2 Means of Avoiding Self-Destructive Choices

6.2.1 Taking into Account the Lenient Future Self

When a decision-maker is faced with a self-control problem, he or she is always tempted to prioritize his or her present self’s gratification at a given moment by scrapping the long-term plan, ultimately causing extensive damage to the decision- maker. In order to avoid such self-destructive behaviors, he or she must first thoroughly understand the structure of self-control problems and make a sophisticated choice that takes into account the lenient future self. Putting otherwise, when making a plan to save money, lose weight, or abstain from something, it is necessary to ensure that the plan is sufficiently feasible by realizing that the 6.2 Means of Avoiding Self-Destructive Choices 155 discount rate will suddenly go up and the future self will become impatient immediately prior to executing the plan. Needless to say, the kind of plan that even the short-sighted, impatient self can execute would not generate a great result; however, it can often ensure greater benefits in the long run, compared to the inconsistent behaviors that would occur if the decision-maker were so naı¨ve that he or she were unaware of the preference reversal. In Wong’s field experiment that I introduced in Chap. 4, 80 % of the 450 subjects were unaware or only partially aware of their own self-control problems, even though they were students at Singapore’s most prestigious national university (see Table 4.3). More than one in four in the entire population of my online survey was also this type of naı¨ve decision-maker (see Table 5.2). As the debt and obesity data shown in the previous chapter indicate, one should be able to considerably improve the quality of one’s choices by becoming aware of the structure of one’s self-control problems and thereby learning to make sophisticated decisions that take into account the future self’s gratification.

6.2.2 The Self-Control Problem and Willpower That You Can Realize Only by Being Inconsistent

So, how can we know the degree of one’s own hyperbolic property or the seriousness of one’s own self-control problems? If we were to call the self-regulation ability that enables us to cope with strong temptations at hand and thereby attain long-term interests “willpower,” getting to know the seriousness of one’s own self- control problems closely relates to the question of how one can test one’s own willpower. As a matter of fact, we can only learn the seriousness of our own self-control problems and the strength of our own willpower through experience. It may be true that we can probably estimate our self-control problems to some extent by learning from examples in books and daily life or observing the behavior of parents and other relatives. However, the bottom line is that you can never know your own personal attribute regarding how inconsistent you tend to be unless you actually act inconsistently several times. This has two important implications. First, it means that some sort of willpower test is needed to ascertain the seriousness of one’s own self-control problems. In other words, you need to take on a task that would require willpower—to save a fixed amount of money every month, to jog the predetermined course every morning, etc.—and create an opportunity to find out how serious your own self- control problems are and what level of ability you have in handling them. Saving a fixed amount of money every month and jogging every morning in themselves have long-term benefits, and even if you lose that intense fight, there is the significant secondary benefit of realizing through the test your own willpower level. 156 6 Coping with Self-Destructive Behavior

Roland Beńabou and Jean Tirole say that the seriousness of a decision-maker’s self-control problems and the strength of his or her willpower are signaled through his or her own choices and behaviors, in what is called “self-signaling” (Beńabou and Tirole 2004). I explained earlier that a self-control problem arises when a conflict of interest (agency problem) arises between the long-term self as a principal (planner) and the short-term self as an agent (doer). If information on the attribute of agent can be obtained through self-signaling from daily behavior, it would enable the long-term self—the principal—to anticipate the short-term self’s behavior and take some sort of action. However, a difficult task that requires you to reject a pleasure at hand can work as a test of willpower only when you voluntarily put yourself “on the line,” where you could be tempted if you let down your guard; the test mostly loses its meaning when you are externally compelled to perform the task regardless of your own will. It may be related to the fact that children who had extremely strict upbringings often grow up to become dogmatic adults with no self-control—or, conversely, children who grew up freely are often able to consistently make definite choices later in life. Restraining the impulse for an immediate gain can be regarded as self-control only when one restrains oneself voluntarily with the intention to attain certain predetermined long-term benefits. Second, in order to know the level of one’s own hyperbolic inclination, it becomes necessary to analyze past behavior and to accurately memorize the results. However, this is not an easy task as one might expect for at least for two reasons. The first is the difficulty inherent in the analysis. How well your action plan is executed usually depends largely on external factors, in addition to your self- control. For example, when a plan to lose weight falls through, it would be a difficult task to analytically identify whether it was because of your own weak self-control or because of the party you were suddenly invited to by your boss. Furthermore, the task becomes even more difficult, given that the short-term self who is the executor (agent) will have all kinds of justifications and excuses to blame the boss rather than one’s own weak self-control. To complicate matters, the more intelligent you are, the cleverer the excuse will be, as the short-term self (agent) and the long-term self (client) have identical intellectual capacities. The short-term self’s reasoning, such as “I took a break from dieting because declining to go to the party with my boss could be detrimental to my career. It is a sensible and rational choice to ensure the long-term interest,” may sound like the reasoning of the long-term self who considered the future. The second reason is that accurately memorizing every single bitter experience of setback is an extremely painful task. Many readers must have the experience of ceasing to record one’s weight or caloric intake when beginning to fail to lose weight. In contrast, people willingly remember successful experiences because they make one feel proud and confident. As a result, there is often a risk of remembering the overrated past performance of self-control and underestimating one’s own hyperbolic inclination versus the actual experience. The opposite risk is also conceivable. It is possible that one cannot stop testing one’s own willpower when he or she cannot have faith in it for some reason, even 6.2 Means of Avoiding Self-Destructive Choices 157 when his or her past self-control performance has been perfect (e.g., successfully abstaining from something for a long time, etc.) and there are many data points indicating that his or her self-control problems are not overly serious. Such individuals are at risk of developing compulsive and neurotic behaviors, such as anorexia and workaholism. It is similar to how some avidly religious believers continue to test their own faith by imposing strict precepts on themselves and begin behaving in a dogmatic and fundamentalist way. The notion that these ascetic behaviors are actually connected, below the surface, to the self-control problem of hyperbolic discounting might seem paradoxical; however, it is understandable if it is viewed as a case of not being able to escape the blind faith that there is a fierce and uncontrollable lion inside of you.

6.2.3 Addressing Willpower Depletion

Even if you understand your self-control problem, you still need to have sophisticated cognitive abilities and strong willpower to take this problem into account when making decisions. When you can see with your own eyes the gratification that can be attained just by reaching out, to believe that choosing the gratification will make you lose the long-term benefit—a vague notion that can be seen only in abstract terms—is quite an intellectual process that requires high cognitive power. It requires a considerable amount of willpower to actually choose the abstract, long- term benefit over the concrete pleasure at hand here. However, it is well known that willpower can become depleted. For example, it has been reported that when subjects in an experiment were asked to complete tasks that require attention and concentration, both the quality and quantity of work they were told to subsequently perform declined, and the choices they made became impulsive (Baumeister and Vohs 2003; Burger et al. 2011). Once willpower is depleted, making painful choices becomes more difficult until willpower is recov- ered. Those who are faced with self-control problems thus need to take into account the possibilities of willpower depletion if they are to make a painful but sound choice. To do so, there are two possible measures. One is to choose long-term interests by conserving your willpower and cognitive ability as much as possible. Using a commitment device, as described in the previous section, is a typical method. If one can completely tie one’s own hands in advance, the long-term action plan should be executed automatically regardless of one’s willpower. In addition, dividing time periods for plans and activities into shorter sub-periods will help in reducing the severity of self-control problems and thereby making decision-making somewhat easier. The other method is to make choices in an environment where your willpower can be used efficiently; in other words, make choices in an environment where you are not easily affected by your instincts or impulses. Let us discuss these in order. 158 6 Coping with Self-Destructive Behavior

6.2.4 Two Types of Commitment Device

As I explained in Chap. 4, those who are aware of their own self-control problems are able to protect their long-term interests by using various commitment devices to tie the hands of their present self at a given future moment, namely, the future doer. There are roughly two types of commitment method, as summarized in Fig. 6.1. One is external commitment, which is enforceable based on external arrangement and rules such as contracts, laws, and institutions. The other, which is not externally enforceable, is called internal commitment or soft commitment. As discussed in Chap. 4, it is possible to restrict unplanned overconsuming behaviors by turning assets into “the goose that lay the golden eggs” or an illiquid form such as real estate or stock. Since you are subject to constraints that stem from external reasons, such as a contract or the nature of the assets themselves, most of these methods have strong property of external commitment. For the same reason, piggy banks and accounts such as installment savings and pensions that are costly to close are also considered external commitment devices. Patricia Sourdin studied the relationship between self-control problems and old-age pension enrollment by using data on household expenditures in Australia between 1988 and 1999 (Sourdin 2008). There, she created a proxy variable for the respondents’ self-control problems based on their drinking and smoking behavior; she demonstrated that respondents with serious self-control problems were more likely to be enrolled in an old-age pension. This is an example where old-age pension is used for an external commitment device to deal with self-control problems.

6.2.5 Soft Commitment Devices

In contrast, soft commitment is an act of intentionally placing some sort of psychological cost without using means such as contracts in order to force oneself to make a choice that is in line with long-term interests. Below are some examples. • Tell others what your dreams and goals are. • Have your collaborator or assistant work in your ofﬁce. • Keep the door to your ofﬁce/study room open. • Study/work at a library or public facilities. • Do not bring home work. • Pool coins and convert them into a large bill. • Do not apply for a credit card/do not carry a credit card/lower the line of credit. • Purchase smaller packages of snacks and potato chips/do not keep any snack at home. • Choose a color such as white and black for the new car so that it is easy to notice when the car gets dirty. • Do not wear loose clothing 6.2 Means of Avoiding Self-Destructive Choices 159

• Brush your teeth immediately after a meal. • Do not watch the first episode of a drama series. When you profess your dream or goal, it reinforces your precommitment to achieve that goal, although it involves the risk of the cost that your credibility and honor could be damaged if you were to fail. Having a collaborator in your office will remove your freedom to work whenever you want and in whatever outfit you want; however, it will at least tie you to the word processor screen when you are tempted to escape your work and surf the Internet. The same effect is expected when you leave your office door open or use the library. Deciding not to bring any work home will put greater pressure on you to finish your work before the end of work hours. By purchasing potato chips in smaller packages, you can impose guilt on yourself whenever you open a new bag. The same is true when you use a smaller dinner plate. Although you will lose some convenience—in terms of not being able to use a vending machine—when coins are converted into a large bill, you would be hesitant to spend it because it is unpleasant to break a large bill. Because soft commitments are voluntary in nature and do not depend on a contract, external commitments that are enforceable are often more useful from the perspective of self-restraining, which is the original purpose of precommitment. However, with external commitments, self-signaling does not work well. As described earlier in this chapter, we need to accurately understand our own self- control problems by receiving information on our choices and the subsequent outcomes as feedback. The benefit of an external commitment lies in the fact that it can firmly settle the choice, regardless of willpower. However, because of that benefit, the chosen behavior and its outcome do not contain information that can help gauge one’s own willpower. In that sense, a soft commitment device, whose efficacy somewhat depends on one’s own initiative and willpower, has the benefit of allowing self-signaling to function and, if successful, increasing one’s confidence in one’s own willpower.

6.2.6 Personal Rules

Many people discipline themselves by creating their own rules such as “I do not keep any sweets at home” and “I do not gamble at all.” Here, following George Ainslie’s terminology (Ainslie 2001), let us call those rules “personal rules.” A version of the soft commitment is to identify a behavior that protects the long-term interests as a principle, turn it into a personal rule, and follow it. Let us summarize again what happens in our minds and discuss the benefit of the personal rules. Both the short-term self (devil) who is tempted by the immediate gain and the long-term self (angel) who thinks of benefits in the distant future are competing with each other in our minds. The self as angel is the planner, and the self as devil is the doer. Now, let us say you are about to go on a diet from today. With a feast in front of you, the devil whispers, “Why do not you wait until tomorrow to start your 160 6 Coping with Self-Destructive Behavior diet?” This proposal may be a good idea because having a feast today and starting a diet tomorrow will give you gratification today and good health in the future. However, the sophisticated angel would realize that this is actually a proposal with no prospect of success because the credibility of the dieting plan is largely compromised once it is scrapped. The next time the same situation occurs, the angel will be defeated much more easily. A point being made here is that it is not appropriate just to compare the benefit of two choices (eat today versus restrain myself today) when making an intertemporal choice such as whether to go on a diet or whether to continue with the diet; such comparison leads the devil to win under hyperbolic discounting. Instead, it is essential to make a decision on whether to eat as if choosing from a series of choices of “continue eating” or “continue restraining myself,” based on the understanding that choosing to “eat today” would be the same as choosing to “keep eating after today.” In other words, you take the similar choices that will be repeated in the future over a long period of time and make a choice for all of them at once. George Ainslie describes such a creative way of decision-making as “bundling” or “sum- ming” the long-term outcomes of repetitive choices and evaluating them all at once (p. 84, Ainslie 2001). Perseverance increases as one takes future interests more into account because of the nature of hyperbolic discounting; therefore, we should be able to avoid self-destructive choices and ensure long-term interests by bundling together the future benefits of a given choice. Even those who question themselves about whether or not to have a snack now and choose to have a snack would decide not to have a snack if it were a choice between “continue snacking from now on” and “continue not snacking from now on.” Now, establishing a personal rule is regarded as an act of understanding repetitive and agonizing choices as a bundle of choices and turning the choice into a principle to protect long-term interests. For example, setting a personal rule of “never snack” means that when deciding whether or not to snack, one would always view it as a series of choices of “whether or not to continue snacking from now on” and turn it into the principle of “never snack,” which will result in a great gain as a bundle. Ainslie discusses in detail, including discussions from the perspective of psychiatry, about the pros and cons of turning choices into personal rules (Ainslie 2001). Based on economic theory, Beńabou and Tirole (2004) derive the use of internal (soft) commitments, including personal rules, as an optimal strategy for sophisticated decision-makers. There are two important points in setting these personal rules. First, a personal rule must be clear enough that cheating is not possible. “I do not eat sweets” is better than “I do not snack,” “I will not have a credit card” is better than “I will not use installment payments with a credit card,” “I will not drink beer at all” is better than “I will not drink more than one bottle of beer,” and so on. To borrow Ainslie’s expression, you define the boundary of the rule by using a “bright line” that anyone can understand because, in response to the angel’s strategy of setting a personal rule, the short-term self—the devil—will use justification and exceptionalization in order to make you break the rule. 6.2 Means of Avoiding Self-Destructive Choices 161

Justification is something an individual uses to fool oneself into choosing a short-term interest rather than a long-term one. It can help make you think that “lottery is not gambling,” for example. It enables you to buy a lottery ticket without feeling guilty about breaking the personal rule to “never gamble.” Once this type of rationalization is done, soccer betting next becomes an extension of lottery, and it goes on to undermine the personal rule little by little. Exceptionalization is a devil’s tactic, so to speak; it is used arbitrarily to exclude only the immediate choice from the rule by means of justification. For example, to enjoy gambling, only the year-end lottery might be excluded from the rule. How- ever, it is very possible that you will begin making such an exception for all lotteries. So as not to be fooled by the devil’s wiles, including justification and exception, the boundary of personal rules must be drawn with a bright line that is as simple as possible and cannot be transgressed. There is no doubt that the battle over this line will be an evenly matched one because the devil will draw fully upon the same intellectual ability as the angel. Second, when a personal rule is successfully kept and worked as a precommitment for an extended period of time, it could actually become an obsession and harm the decision-maker. As mentioned earlier, rules and plans have a self-reinforcing nature in which they become stronger as you follow them longer and conversely become weaker every time you break them. Therefore, the function of a personal rule as a commitment device can be enhanced by continuing to adhere to the rule; however, when it goes too far, it could actually make your behavior dogmatic and result in a large loss in the long run. Examples include fastidiousness, anorexia, and excessive stinginess. In order to avoid these adverse effects, it is also necessary to devise ways to intentionally break the rule, such as eating whatever you like and sleeping in once per month, to reset and make the rule relative. We should always note that carefully balanced choices—like standing on the edge of a proverbial knife—are required in order to maximize the long-term gain.

6.2.7 Dividing Planning Horizon into Shorter Sub-periods

Hyperbolic consumers, especially naı¨ve ones, tend to end up spending money in a way in which they spend much when they get income and thereafter gradually reduce spending. This is the income-consumption cycle, which I explained in the previous chapter, in connection with receiving food stamps and pension payments. I have already pointed out that this cycle is involved with an undersaving problem in the sense that people cannot save while they have extra money. One way of coping with the income-consumption cycle is to lower the amount of paycheck and increase the frequency of paycheck issuance. Put otherwise, you shorten the consumption horizon for which you have to plan. This method is effective for two reasons. First, you can thereby limit the amount of income at hand and minimize the damage that stems from unplanned overconsumption. 162 6 Coping with Self-Destructive Behavior

Second, a shorter planning period will make it easier to imagine the outcome of choices, thus requiring less cognitive ability and willpower. In fact, Takashi Unayama and Melvin Stephens report that after the pension payment period was shortened in February 1990 from 3-month intervals to 2-month intervals, the pension cycle observed prior to the change significantly weakened (Melvin and Unayama 2011). This result is consistent with our discussion here. The effectiveness of shortening the planning period intervals can also be confirmed from the aforementioned experiment among students conducted by Ariely and Wertenbroch; compared to the group that was given one final deadline and asked to submit all three tasks on that day, the group that was given three deadlines set at equal intervals and asked to submit one task per deadline performed better in terms of both quality and quantity. To teach small children how to consume in a planned manner, some people begin by giving their children an allowance every 3 days and then gradually widening the interval to every week, every other week, and so on. This is an approach that actually uses the aforementioned method of shortening the time period to make the children’s choices easier. It first nurtures a sense of discipline in spending the allowance money evenly during a short planning period of 3 days and then teaches the techniques of long-term consumption by increasing the length of the period while making the child realize the benefit of spending his or her allowance evenly. Interestingly, this teaching method has also been known to be effective in instilling a sense of self-control in pigeons. Behavioral psychologists A. W. Logue and James E. Mazur successfully taught four pigeons a sense of self-control in restraining themselves from taking an immediate small food and instead choose a delayed larger food by first training them to choose from similarly delayed small and larger foods and then gradually shortening the length of delay for the small food (Mazur and Logue 1978). They call this method of gradually imprinting the benefit of waiting and weakening the impulsiveness to relativize the immediate benefit as a “fading procedure.” As a note, according to Logue and Mazur (1981), the three pigeons (excluding one of the four that died during the experiment period) retained this learned sense of self-control even 11 months after the experiment. This result suggests that the fading procedure is actually effective to some extent when developing self-control.

6.2.8 Rounding Up the Troops While the Enemy Is Still Weak

Our tendency to get caught up in the immediate gain and pursue a short-term interest is actually an essential survival skill as the external environment worsens. Given its survival-based reason for existence, an impulsive choice rooted in such an instinct is so strong in extreme situations that it usually does not allow one to give even a moment to consider long-term interests. In other words, in order to put your weak willpower to work effectively and make a choice appropriate for a long-term 6.2 Means of Avoiding Self-Destructive Choices 163 interest, even by just a little, it is necessary to avoid environments in which this instinct or impulsiveness is turned on when making a choice. For example, the amount of food you order will be excessive if you go to a restaurant while you are extremely hungry because you then wind up prioritizing the short-term interest. If you wish to choose a well-balanced meal in terms of nutrition and portion, you should avoid being overly hungry while making that choice. Increasing the frequency of meals that you eat would be a good idea. This method is similar to shortening the planning period interval in order to avoid the income-consumption cycle. Another possible method is not to engage in other activities that require cognitive ability when making a choice about matters that involve self-control problems, such as meals. It is not possible to drive a car safely while discussing business on a cell phone. Likewise, it is not possible to make a well-balanced choice that controls the short-term self and ensures long-term interests when you are using your cognitive ability and the work of willpower in another matter. This point has been demonstrated by Baba Shiv and Alexander Fedorikhin, two marketing researchers in the United States, through an experiment (Shiv and Fedorikhin 1999). After dividing their subjects into two groups, they gave the task of memorizing large numbers (seven-digit numbers) to one group and the task of memorizing small numbers (two-digit numbers) to the other group. Then, while they were performing the task, the researchers asked the subjects whether they would like a fruit salad or chocolate cake. The results showed that the subjects in the group with the more difﬁcult task (i.e., memorizing the seven-digit numbers) were more likely to choose chocolate cake. Their food choice can be considered to become more impulsive because the limited cognitive capacity and willpower required for self-controlled decision-making were being assigned to another task. In a sense, in order to make a long-term choice, it is necessary to “round up the troops” known as cognitive capacity and willpower before the “enemies,” such as instinct and impulsiveness, grow large.

6.2.9 Hard to Be Sophisticated

Thus far, we have considered how to avoid self-destructive choices by understanding self-control problems. However, this is not necessarily enough, as many of us are not exactly capable of noticing the self-control problems that we face and making a sophisticated choice that completely takes into account the lenient future selves in the ﬁrst place. I had given the example of committing to a healthy lifestyle by prepaying a gym membership fee for 1 year. When making the decision of whether or not to go to the gym today, a naı¨ve individual tends to come to the realization that going to the gym is more onerous than expected and postpone the training. As a result, even though the membership fee was prepaid for an extended period, it ends up being more 164 6 Coping with Self-Destructive Behavior expensive than a contract in which one pays a fee each time he or she goes to the gym. In fact, Stefano Della Vigna and Ulrike Malmendier used data on the 7,752 members of three health clubs in the United States to study the relationships among membership fee, gym usage frequency, and contract period; they demonstrated that many members behaved in such an irrational manner (DellaVigna and Malmendier 2006). For example, members with a monthly contract priced at more than USD 70 were using the gym only 4.3 times per month on average, meaning that they are paying more than USD 17 per visit. Given that it would cost USD 10 per visit if they were to use a ten-visit pass, they are making a very expensive choice. This is exactly the same as the case of credit card users who wind up paying a higher interest rate after being tempted by a low teaser rate (see the previous chapter). These behaviors—in which one intends to use something as a commitment device but fails and winds up paying a higher cost—are also examples of self- destructive choices. It seems that an optimistic estimation of self-control problems in the future underlies these behaviors. If people have this sort of somewhat naı¨ve aspect, improving their welfare by providing some type of external intervention and increasing the efﬁciency of resource allocation throughout society would be an important agenda. Let us think about this issue next.

6.3 Interventions That Allow Choices

6.3.1 Libertarian Paternalism

In standard economics, which assumes that people always make rational choices, free choices and trades essentially maximize the level of social welfare whenever resources are limited. For efficient resource allocation, the right of individuals to choose freely should thus be guaranteed. As explained in Chap. 1, the idea that we should regulate the choices people make and intervene in order to improve their welfare is called paternalism. In traditional economics, paternalistic policies are essentially considered undesirable. However, as we have seen thus far, people’s decision-making is affected by difficult selection biases such as hyperbolic discounting; instead of maximizing long-term interests, people actually fall for self-destructive choices. What can we do to address such problems while continuing to offer people the freedom of choice? In the field of behavioral economics, an idea has been proposed to intervene in people’s choices in order to improve the welfare of society by merely changing the choice framework without forcing them to make certain choices. This idea is called libertarian paternalism (Thaler and Sunstein 2003, 2009) or benign paternalism (Benjamin and Laibson 2003). Here, I will use the term libertarian paternalism. 6.3 Interventions That Allow Choices 165

A good example is the introduction of automatic registration. Even if there were systems such as national and corporate pensions that you know from a long-term perspective you should enroll in, if you had to indicate your will to participate and take necessary steps to enroll, many people would end up choosing not to enroll because of the related hassle. One of the proposals of libertarian paternalism is to change systems in which people cannot enroll unless they indicate their intention to an automatic registration system in which people are automatically enrolled when they become eligible, unless they indicate their will to reject enrollment. A system in which you are required to indicate your will when choosing to enroll or participate is called an opt-in system, while a system that mandates you to indicate your intention when choosing to cancel or not to participate is called an opt-out system. In short, introducing an automatic registration system means shifting from the opt-in system to the opt-out system. Such a change is a paternalistic intervention in the sense that it intentionally inﬂuences people’s enrollment choices; however, it 100 % guarantees freedom of choice because members always have the right to opt out (choose to cancel). This is libertarian paternalism, which intervenes while guaranteeing freedom of choice. As you can see from this example, libertarian paternalism proposes to design the choice framework so that people will voluntarily (in a broad sense) choose what is desirable for them. So, how can you make people choose a certain option, as a magician does? You can actually use people’s selection bias to your advantage and pave the way so that they are least resistant to choosing the option that you want them to choose. Richard Thaler and colleagues call this type of slight encourage- ment a “nudge” (Thaler and Sunstein 2003, 2008). It is the same idea as that behind a magician who takes advantage of the habits of the audience to make him or her choose an intended card. Let me explain this more speciﬁcally.

6.3.2 “Nudging” Decision-Makers by Changing the Default

The initial setting that is applied when one indicates no intention or will is called the “default.” Changing the default choice is one of the most effective techniques in nudging decision-makers. People often have a selection bias that tries to maintain the current condition because they have to incur a psychological burden when choosing an option that alters the current condition. This is the status quo bias, which I explained in the previous chapter. Because of this bias, people have a strong tendency to get “hung up” on and choose the default. When this “default bias” interferes with their desirable choice, we can use the same bias to actually nudge the behavior of the decision-makers toward a better option by setting the desirable option as the default. The introduction of an automatic registration system, as mentioned in the previous section, intends to nudge individuals with a strong status quo bias toward enrolling by switching from the opt-in system (with the default being “not enroll”) 166 6 Coping with Self-Destructive Behavior to the automatic registration system or opt-out system (with the default being “enroll”). It should be noted that changing the default like this would have no effect if all decision-makers were rational because they would always choose the best option, regardless of the way in which choices are presented. Intervention methods that use a default bias is something not found in traditional economics. There are numerous reports of attempts to improve choices by changing the default. For example, initiatives to actually introduce the automatic registration system that I just discussed are seen in various pension systems. Introduction of the automatic registration system is under way, especially overseas, where enrollment in a public retirement pension is not mandated as in Japan (Thaler and Sunstein 2008). Some examples are Pension Legislation enacted in 2006 in the United Kingdom, the Pension Protection Act of 2006 in the United States, and the KiwiSaver Act that came into effect in New Zealand in 2007 (Carroll et al. 2009). The introduction has also been successful in the defined contribution corporate pension plan, or 401(k), in the United States. According to a study conducted by Brigitte Madrian and Dennis Shea, the enrollment rate had actually improved from 49 to 86 % just by changing the 401(k) enrollment system from standard opt-in to automatic registration (Madrian and Shea 2001). The change in the prescription format that Japan implemented in 2008 to promote the use of generic drugs and curb healthcare costs is also an intervention that changed the default (Iwamoto 2010). In the past, the doctor signed (or wrote the name or placed the seal) on the line of the prescription slip that said “can be filled with a generic drug” whenever the drug specified by the doctor could be switched to a generic one. However, the format was changed so that the doctor signed (or wrote the name or placed the seal) on the specified line only when the prescription could not be filled with a generic drug (Promotion of the Use of Generic Drugs in: Main Revisions in the FY 2008 Revision of the Medical Payment System, the Ministry of Health, Labour and Welfare). This can be considered a libertarian paternalistic measure that tries to promote the use of generic drugs by changing the default to “can be filled with a generic drug.” According to a study conducted by the National Federation of Health Insurance Societies (Kenporen), the percentage of individuals who have used generic drugs has dramatically increased following this default change, from 17.6 % in 2008 to 47.4 % in 2011 (National Federation of Health Insurance Societies 2008, 2011).

6.3.3 Nudging Hyperbolic People

Since many self-destructive choices, including undersaving and obesity, seem to be related to hyperbolic discounting, as seen in the previous chapter, it would be very useful if we could actually use the same hyperbolic discounting to nudge people toward choosing future-oriented options. 6.3 Interventions That Allow Choices 167

One way to use hyperbolic discounting is to set up a choice framework in a way that the options that undermine the long-term interests will have a large and immediate cost, while the desirable option can be chosen without any hassle. This intervention should nudge hyperbolic individuals who take the immediate effort serious toward the option that is desirable in the long run. A sandwich experiment conducted at a fast food restaurant by Julie Downs, George Loewenstein, and Jessica Wisdom, a research group around Carnegie Mellon University, is an interesting field experiment that demonstrates the effectiveness of such an intervention (Downs et al. 2009). They first prepared three versions of menus—A, B, and C—with the items listed in a different order. Menu A featured low-calorie products on the front page, while Menu B listed equal numbers of low- and high-calorie products on the front page, and Menu C featured high- calorie products on the front page. Since the same products could be found on all the menus if the customer looked at all the pages, the menus did not actually impose any restriction. The key here is that the psychological cost (the hassle) of choosing a product with the same calories differs by menu. For example, when choosing a low-calorie item, while you can choose one from the items listed on the front page if Menu A is presented, you cannot choose the same item from Menu C without going through the trouble of turning the pages. Based on this field experiment, Downs and others showed that the probability of customers choosing a low-calorie item—and the actual number of calories customers consumed there—was heavily influenced by which menu was presented; customers chose low-calorie items when presented with the low-calorie menu (A) and high-calorie items when presented with the high-calorie menu (C). For example, customers who were presented with the low-calorie Menu A were 48 percentage points more likely to choose low-calorie items than the customers who were presented with the mixed Menu B. The results also showed that the customers who were presented with the high-calorie Menu C chose low-calorie items only at a probability that is 47 percentage points lower than in the case of being presented with the mixed Menu B. This indicates the possibility of improving people’s meal choices just by adding a slight default change that actually harnesses the status quo bias that stems from hyperbolic discounting. Similar intervention experiments that change the level of hassle related to food choices are also under way at cafeterias in junior high schools, high schools, and universities in the United States. For example, some cases have been reported where making changes such as placing a salad bar where the line for the cashier will pass and moving the fruit display to the front of the cashier drastically increases the consumption of these healthy foods (Schwartz 2007; Just and Wansink 2009). These days, similar arrangements have also been found at university co-op cafeterias in Japan; these are probably based on the same thinking. For that matter, placing products that appeal to impulsiveness, e.g., potato chips and chocolates on sale, just before getting to the checkout in a supermarket is also the same type of attempt to nudge hyperbolic consumers (although they have the opposite effect on health). 168 6 Coping with Self-Destructive Behavior

A project called “Smarter Lunchrooms,” which aims to improve diets in schools by applying behavioral economics insights, is spreading through the work of a Cornell University research group led by David Just and Brian Wansink. There, creative designs similar to those explained in the sandwich experiment are proposed in various forms to make it easier for individuals to choose healthy foods while selectively placing a slight psychological burden on unhealthy foods and making them more difﬁcult to choose (Just et al. 2008; Lee 2012).

6.3.4 Making People Commit to Future Savings

Another way of using hyperbolic discounting is to create a mechanism by which people can commit now to a patient choice in the future. Although hyperbolic individuals apply a high discount rate when making a choice that relates to immediate gratiﬁcations, they are patient when making a choice that related to distant future gratiﬁcations. For example, although they might not be able to save money now, even when recommended to do so, they would probably be willing to participate in a savings plan in the future. Therefore, presenting an option that allows them to commit now to such a future savings plan would be a way of harnessing hyperbolic discounting. The best example is a social experiment of the SMarT program that Richard Thaler and Shlomo Benartzi conducted by using a real 401(k) (Benartzi and Thaler 2004). SMarT, which stands for Save More Tomorrow, is a program devised in an effort to use 401(k) to increase the amount of savings among employees. This program offers a plan that automatically increases the 401(k) contribution rate whenever the employee gets a raise and encourages employees who have been reluctant to increase the contribution rate despite recommendations to enroll in the plan. Employees are free to cancel the plan after enrollment. In that sense, this program meets a requirement of libertarian paternalism. Unlike the automatic registration mentioned in the previous section, this program requires employees to express their intention to enroll; therefore, it is not a program that intends to increase the enrollment rate by working on the status quo bias. In fact, the automatic registration system actually has a problem, in which many individuals exhibit status quo bias once they are automatically enrolled and stay with the plan’s default—set at a low contribution rate (about 3 %)—so that the savings rate ultimately never increases. The SMarT plan was devised to overcome that problem. The SMarT plan, which increases the contribution rate whenever a worker receives a raise, has two characteristics that are perfect for hyperbolic individuals with a low propensity to save, so that they can increase their savings rate. First, hyperbolic individuals whose discount rate is lower for the future are more receptive to saving money in the future than to saving money today. A plan that allows them to commit to future savings is just what they need. 6.3 Interventions That Allow Choices 169

Second, hyperbolic individuals tend to stay in the same plan because they are strongly affected by status quo bias. Meanwhile, their savings rate would continue to increase because the contribution rate increases each time they get a raise. Whereas the automatic registration system uses status quo bias to increase the enrollment rate, the SMarT plan uses status quo bias to increase the savings rate. Furthermore, the SMarT plan has an advantage that allows one to avoid the negative effect of loss aversion. Assuming that people are concerned about the amount of monthly take-home pay after the pension contribution is withheld, individuals with a strong tendency of loss aversion would shun a plan that increases the contribution rate, even when there was no raise, because the amount of take- home pay would decrease each time and thus engender a strong sense of loss. The SMarT plan, which increases the contribution rate only when there is a raise, can preclude such a loss aversion effect. As a result, the SMarT plan has indeed helped increase the rate of employee enrollment in the 401(k) and the amount of their installment savings. Thaler and others report that, in the case of a medium-sized American manufacturer who became the ﬁrst company to implement the SMarT program, 78 % of eligible employees enrolled in the SMarT plan at the time of program introduction in 1988 and a whopping 80 % of them continued to participate through to the end of the implementation period (40 months), which spanned four salary-review cycles. The savings rate, which was 3.5 % on average, increased to 13.6 % during that time. Based on these results, more than one-third of large employers in the United States have, as of 2007, introduced the SMarT method or a similar method that automatically increases the rate of contribution to their 401(k) (Thaler and Sunstein 2008).

6.3.5 Reverse Thinking: Asymmetric Paternalism

As we can see from these real-life examples, the idea of libertarian paternalism is a form of reverse thinking that attempts to improve choices by actually using selection biases such as hyperbolic discounting and status quo bias, which tend to lead to self-destructive choices. Speciﬁcally, it addresses the situation by setting “enroll” as the default—a condition that allows them to enroll by doing nothing— when there are many individuals who would otherwise do nothing and not enroll in the pension due to status quo bias. Alternatively, when people cannot save money today because they are hyperbolic, libertarian paternalism establishes a mechanism through which hyperbolic individuals are more likely to want to save by creating an option that allows them to commit to a future savings plan. As a result, libertarian paternalistic interventions are often characterized by a particular property: although they affect decision-makers who exhibit selection bias, they do not affect rational decision-makers who do not exhibit such bias. In a way, it intervenes by “marking the option buttons” with paint that only decision- makers with a speciﬁc selection bias can see, to selectively target only those 170 6 Coping with Self-Destructive Behavior individuals. Such a characteristic is called asymmetric paternalism (Loewenstein et al. 2007). Asymmetric paternalism becomes very useful when external parties (and even the decision-makers themselves) cannot tell which decision-makers have selection bias. This stands in contrast with how conventional paternalism, which intervenes through taxation and trade regulation, results in a problem in which the regulation traps everyone, including rational decision-makers with no such problem, in the same manner.

6.3.6 Putting It into Practice

When actually designing a social system based on libertarian paternalism under consumers’ heterogeneity, it is necessary to take some practical caution. For example, when considering some sort of new pension system, what do we need to watch out for to actually design the enrollment mechanism? Here, we should keep two major principles in mind. First, the default needs to be consistent with the rational judgment of society at large. For example, when mandating the individual to choose one of the options, it is important that the default be set to the one that the majority of decision-makers with rational judgment would choose. That is, whether the enrollment in some sort of a new system should be done using an automatic registration or a standard opt-in method should be determined based on the criterion of whether or not the majority of eligible, rational individuals would choose to enroll. Richard Thaler and Cass Sunstein call this principle the “market-mimicking approach” (Thaler and Sunstein 2003). As a way of retrofitting this market-mimicking approach, we could revise the default after introducing a system so as to minimize the number of those who cancel the default. This is a method in which we can go ahead and launch a system with one default and then revise it if many individuals opt out from that default. A good example is a 401(k) in the United States that switched to an automatic registration system with “enroll” as the default because many individuals opted out from the “do not enroll” default (i.e., they enrolled) under the standard opt-in enrollment system. However, there is a problem with this method. First, although this method requires predicting the rational choices of decision-makers, making such a prediction is sometimes simply impossible. There is no doubt that predicting choice is difficult, but even when testing a default and collecting data, you will never know if the observed data comprise selection results that are completely free of the influence of status quo bias. Second, although this is more of a question of having a default itself, setting one default when there are a variety of decision-makers poses the risk of diverting many people from their own unique optimal choices. The second principle is a method that mandates all decision-makers to clearly indicate their choice in order to avoid these problems. A group of researchers 6.4 Considering Policies 171 including Gabriel Carroll proposed to mandate employees to explicitly indicate their will within 30 days of employment to enroll or not to enroll in the 401(k); the aim of the intervention is to solve the 401(k) problem wherein the rate of pension premium contribution stays low at the default setting when an automatic registration system is used (Carroll et al. 2009). At a financial services company that actually introduced this system, the enrollment rate increased from 41 % under a standard opt-in system to 69 % upon the introduction of the new system; additionally, the 5 % contribution rate (the rate of installment saving, relative to the salary) achieved over a 30-month period under the opt-in system was achieved in just 3 months post-employment under the new system. A system that requires one to make important decisions by setting a deadline also has the advantage of preventing decision-makers with hyperbolic discounting from procrastinating a decision on an important issue. That said, since you are compelling individuals with a strong selection bias to make a difficult and painful decision, it is essential that they are sufficiently educated through the provision of advance briefing on the choices in question.

6.4 Considering Policies

6.4.1 Interventions for Smoking Cessation

Let us begin by thinking about the regulating of smoking. First, there is no doubt that cigarettes are medically harmful goods (the Ministry of Health, Labour and Welfare 2002). Given the extent of its health risk, I personally think the consumption of cigarettes should be strictly regulated in the long run and smoking should be banned completely in 20–30 years at the latest, if possible. Needless to say, issues will arise, such as decreased tax revenues, which strain the national budget, and the loss of livelihood among tobacco, among others, when the smoking rate drops due to regulation; however, I will move the discussion along without getting into those issues. Permitting harmful consumption goods in anticipation of tax revenue would be “putting the cart before the horse,” as would be the case with opium or other drugs. The impact on tobacco farmers should be addressed from the perspective of industrial policy; not regulating harmful consumption goods in order to protect the vested interests of existing industries that cannot remain solvent under competition is also like “putting the cart before the horse.” However, when actually thinking about ways of regulating smoking, it might be necessary to separately consider current smokers who are already cigarette- dependent and future smokers who are not. With current smokers, since the government has already permitted the consumption of cigarettes even though cigarettes are known to be very addictive, it is neither fair nor realistic to suddenly prohibit smoking and inflict significant pain (Ida 2010). Having been a heavy smoker, I completely understand the pain that comes 172 6 Coping with Self-Destructive Behavior with being forced to cut down smoking. For now, I think a reasonable policy would be to gradually induce smokers to cut down and quit smoking through measures such as raising, in phases, the tobacco tax. In doing so, perhaps the government can make the commitment now to transition to a complete ban on smoking at a certain point in the future (20 years from now, for example), to allow smokers to somewhat take that into consideration and begin adjusting their smoking behavior from now on. Because a social benefit arises from being able to save healthcare costs if people were to smoke fewer cigarettes and became healthier, it is rational to create a mechanism by which society could share some of the cost related to getting smokers to cut down or quit smoking. In that sense, the Japanese government’s 2006 policy, enacted to allow health insurance to cover outpatient smoking cessation, is an appropriate measure. We could also provide subsidies for using smoking cessation drugs or smoking reduction aids. Another approach is for entities such as health insurance associations to take the lead and organize smoking cessation groups that can function as a commitment device for smokers who wish to quit or cut down smoking. Perhaps a reasonable level of success can be achieved if scientific data are obtained and reasonable advice on smoking cessation methods is provided through the help of medical doctors. These are measures that bear existing smokers in mind. The situation is largely different when thinking about restrictions on future smoking by those who are currently underage or who have not yet been born because they do not have smoking habits at this point, even if we were to regulate smoking now. I will call those who have not yet reached the legal smoking age “potential smokers” to imply that they could begin smoking in the future. Based on the assumption that cigarettes are harmful habitual goods, it is desirable to regulate future smoking among potential smokers at an early stage. In particular, smoking among those who just turned the legal age should be strictly regulated. As an intervention, we could institute a licensing system for smoking, for example. The idea is to create a mechanism so that a smoker’s license is issued only for those who applied from now on, and people, including those who are already over the age of 20, cannot smoke without a license. Just like a driver’s license, smokers would be required to carry their license when smoking, and violators would be subject to a penalty. Another idea is to require individuals to take a class at the time of license issuance (and as part of compulsory education) to learn about the harmful effects of cigarettes. This system is a policy that changes the traditional default, which allows everyone to freely smoke after turning 20, to one that does not allow people to smoke cigarettes unless they opt-in through a form of smoker’s license application. It is a libertarian paternalistic policy in the sense that people are still completely free to choose to smoke; however, the regulation is slightly stronger in the sense that one can be penalized for smoking unless he or she goes through formalities. A smoker’s license system would be effective in restraining potential smokers under the age of 20 from smoking in the future, from two perspectives. First, since individuals who might start smoking are not nicotine-dependent, restricting their 6.4 Considering Policies 173 option to smoke would not inflict the kind of suffering that smokers would experience. For individuals who have a strong hyperbolic tendency and a strong status quo bias, it should be much easier to continue being a nonsmoker without applying for a license. Second, the generation of potential smokers’ parents—particularly current smokers with a strong tendency of hyperbolic discounting—should be receptive to restraining current minors (and themselves) from smoking in the future; this is because, unlike when making a short-term decision that relates to the gratification of current generations, when making a decision that relates to the future (i.e., the next generations’) gratifications, they can make future-oriented decisions under a low discount rate. This is the same as in the case of the previously mentioned SMarT plan, which made hyperbolic employees commit to collecting future savings. According to the 2008 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare (MHLW), more than 60 % of smokers want either to quit or to cut down smoking (see Fig. 6.2). Those who realize that the initial choice of starting to smoke was a self-destructive choice that led to the present predica- ment of “I cannot quit even though I want to” should be able to try and make the sophisticated choice of committing to an environment that prevents their children’s generation from repeating the same mistake. I have suggested at the beginning of this section that smoking should be eventually banned completely. However, we could ban individuals who have just turned the legal age and do not have the problem of nicotine dependency from starting a new smoking habit at an earlier stage. As much as I want to say “do this immediately, if possible,” it would probably take several years of preparation to reduce the number of underage smokers. Of all the individuals who had a habit of smoking as of 2008, the percentage of those who had started smoking while still underage was 29.1 % among men and 16.5 % among women (2008 National Health

70%

60%

50% 25.5% 32.9% 40%

30%

20% 37.4% 28.5% 10%

0% Men Women Want to quit smoking Want to cut down smoking

Fig. 6.2 Percentage of smokers who want to quit or cut down smoking. Note: Prepared based on the data from the 2008 National Health and Nutrition Survey by the Ministry of Health, Labour and Welfare, Japan. Individuals who indicated their intention to quit smoking: Those who said “I want to quit smoking” or “I want to cut down smoking” in response to the question “Do you want to quit smoking?” 174 6 Coping with Self-Destructive Behavior and Nutrition Survey, the Ministry of Health, Labour and Welfare). Perhaps the ban would be feasible 10 years or so from now. Upon implementation, we could ban individuals under the age of 20 from smoking by refusing to issue them a smoker’s license.

6.4.2 Reducing Obesity

In the previous section, I used examples such as the sandwich experiment and the Smarter Lunchrooms project to explain how we can nudge people toward a healthy diet by changing the choice framework appropriately. Here, let us brieﬂy discuss the metabolic syndrome examination and policies that utilize food labeling, in connection with the obesity problem. In an effort to address obesity and promote health, many countries mandate manufacturers to display nutritional information, including the number of calories therein, on food products. Although nutrition labeling has not been mandated in Japan, there are standards established by the MHLW in accordance with the Health Promotion Act. Some reports say that 82 % of food products already have a label such as the one shown in Fig. 6.3, which is in compliance with the standards (“Main Points of Discussions Over Food Labeling,” the Consumer Affairs Agency Food Labeling Division 2011). However, based on the results of econometric analyses conducted thus far, we know that these policies are not very effective as obesity countermeasures. For example, although the Nutrition Labeling and Education Act (NLEA) enacted in 1993 in the United States mandates calorie labeling on food products, when Jayachandran Variyam and John Cawley estimated its effect based on changes in obesity levels following the mandate, there was no signiﬁcant difference except that

Fig. 6.3 Nutritional labeling 6.4 Considering Policies 175

BMI values among non-Hispanic white women had declined by 0.3 (Variyam and Cawley 2006). Taking this with the results of the earlier sandwich experiment, it might be that rational consumers who actually do not have a hyperbolic discounting tendency and status quo bias (and are therefore less likely to be obese) are those who tend to look up accurate data on calorie and nutrition to improve their diet. If that is the case, the calorie-labeling requirement might have become paternalism with opposite asymmetry, exerting a stronger influence on consumers with no self-control problem. Such a speculation would also explain the fact that only white, non-Hispanic women reduced their BMI after the NLEA took effect. Likewise, analysis carried out using the 1994–1996 Continuing Survey of Food Intakes by Individuals (CSFII) data in the United States reports that while the introduction of the calorie-labeling system significantly reduced BMI among nonobese individuals, it had no effect on obese individuals (Scharff 2009). We could expect to improve choices considerably by providing accurate information, if people behaved rationally; however, if the cause of obesity lies in irrational choices based on selection bias, as we have seen thus far, it is not surprising that food labeling does not have a great effect. In Japan, the so-called metabolic syndrome examination (Specific Medical Checkup/Specific Health Guidance) system was introduced in April 2008. Under this system, insurers who operate health insurance are required to offer health examinations to policyholders aged 40–74 and provide health guidance based on the results. The government is also considering an increase in the contribution amount that insurers are required to make to health insurance for the elderly (i.e., the healthcare system for the elderly aged 75 or older) in the future, as a penalty for those who do not provide such guidance. Although its consequence with regard to the insurance premiums of individual policyholders remains uncertain, we can say that this is a system that asks all health insurance associations, by offering monetary incentives, to work on health issues such as obesity.1 How should this medical examination system be viewed? First, the system will make it easier for individuals to improve their diet, based on accurate health information; this is because it requires people—even policyholders who have never gone to the doctor even for just a health check-up because of their strong tendency to procrastinate—to undergo regular health check-ups and receive health guidance. Second, if the fine imposed on insurers is ultimately passed on to policyholders who cannot resolve their obesity problem, it essentially requires individuals with higher health risks to pay higher insurance premiums and therefore improves resource allocation. Making insurance premiums reflect risk will help prevent

1 The healthcare system for the elderly aged 75 or older itself is currently under review for a significant revision, including outright abolition; however, it is possible that a system will be introduced in the future that will “pass down” to insurance premiums the increased burden of healthcare cost due to issues such as obesity. 176 6 Coping with Self-Destructive Behavior moral hazards, such as gaining fat without much consideration and while relying on health insurance. Third, if the fat they gained is the result of the self-destructive choice of procrastination in caring for their health, promoting improved decision-making by imposing fines will theoretically lead to a long-term gain among policyholders. However, there is the problem that we cannot tell which fat was gained on account of hyperbolic discounting. Moreover, since the current case is about a universal healthcare program in which people have no choice but to enroll, it is not persuasive to argue for punishing obesity only on the basis of the unobservable preferences of policyholders. The problem is also tricky. David Cutler and Edward Glaeser estimate that up to 72 % of individual differences in BMI are due to genetic factors (Cutler and Glaeser 2005). In that sense, excess fat is a type of negative inheritance from the parents; however, unlike a regular monetary inheritance, we do not have the freedom to reject it. When imposing a fine on this type of “debt,” there is the problem of fairness, which cannot be determined solely on the basis of allocation efficiency. We must carefully scrutinize whether this issue can be addressed solely by the current income redistribution policy. Finally, in order for the above discussion to be valid, developing appropriate health standards based on medical and statistical knowledge and formulating fair penalty rules for insurers would become the basic premise. For example, there have been discussions from a variety of perspectives, such as the diagnostic criteria for metabolic syndrome in Japan and the appropriateness of defining metabolic syndrome as an obesity-related disease (Hara et al. 2006). In the absence of appropriate health standards, the interventions proposed above would actually result in large resource allocation distortions.

6.4.3 Intervention in the Consumer Credit Market

As seen in the previous chapter, empirical data directly or indirectly suggest that hyperbolic discounting leads to excessive and multiple debts. As our 2010 online survey also indicates, the cases of naı¨ve consumers who underestimate the self- control problems of their future self are particularly problematic. Even though they think at the time of borrowing that they have an adequate plan for future repayment, they wind up postponing the repayment or borrowing more money in order to repay because they have not taken into account the fact that their discount rate would suddenly increase when the time to repay arrives. Because of this, they start to borrow money with credit cards after falling for certain tempting offers, such as low teaser rates or special points for signing up, and end up paying higher interest rates due to late payments. According to a survey conducted by the Financial Services Agency before the “gray zone” rate was lowered, only 40 % of the debtors who borrowed unsecured consumer loans paid off their debt within 7 years, and 30 % have had incidents such as overdue accounts. After 7 years, the average debt 6.4 Considering Policies 177 balance among those who had not paid off their debt was JPY 660,000, or 3.6 times the initial loan amount (the Financial Services Agency document “Amendment to the Money Lending Business Act”). Countries such as France and Germany have instituted a cap interest rate from the standpoint of protecting borrowers who have bounded rationality. In Japan, the Money Lending Business Act adopted in December 2006 to revise the prior Money Lending Business Control Law lowered the cap interest rate from 29.2 % to 20 % in June 2010.2 In addition to lowering the cap interest rate, this Act includes regulations on the total loan amount, such as a ban on lending an amount that exceeds one-third of the borrower’s annual income. At the same time, it stipulates that credit information agencies be put in place to allow lenders to understand a borrower’s ability to repay, based on information such as the total debt balance. If hyperbolic discounting is a sort of distortion inherent in consumer preferences, we should theoretically be able to add policy distortions such as taxation and subsidies to nudge loans and savings to come to levels that are desirable in the long run (Laibson 1998; Krusell et al. 2002, 2010). However, a simple taxation on loans would restrict loans across the board, including appropriate lending transactions that are not based on hyperbolic discounting (or a sophisticated choice, even if it was based on hyperbolic discounting). Such an adverse distortion effect needs to be minimized. One conceivable policy is an approach that taxes only loans with interest rates that exceed a certain level. Since a large proportion of consumers who try to borrow money even at regular interest rates are likely naı¨ve borrowers with a strong hyperbolic discounting tendency, we should be able to selectively restrict to some extent excessive debt among borrowers who have a problem, if we were to tax only the transactions at a sufficiently high interest rate. In that sense, this approach has an asymmetric paternalistic nature. The cap interest rate regulation can be considered a special case of loan tax policy that levies a high tax in order to prohibit lending money at an interest rate that exceeds the cap rate (currently 20 %). However, it is difficult to say whether the current cap rate of 20 % is sufficiently high to act as a qualifier to identify hyperbolic borrowers. This is a quite empirical question; going forward, we need to assess the level while monitoring trends in the consumer loan market. For example, there is a report indicating that liquidity declined significantly and strained the welfare of the average consumer in the Oregon state, U.S., due to a uniform payday loan regulation (Zinman 2010).

2 The Supreme Court decision issued in January 2006 determined that an interest rate up to 29.2 %, which had been allowed as constructive repayment as per the Investment Law, cannot be allowed in practice, where constructive repayment (or repayment regarded as valid) refers to explicitly agreed loans with a higher than legal interest rate. Therefore, it became possible for a debtor to demand a refund for the payment beyond the cap interest rate (e.g., 20 % for loans under JPY 100,000). As a result, the actual maximum interest rate in the consumer ﬁnancing market was reduced in the ﬁrst half of 2006. 178 6 Coping with Self-Destructive Behavior

Another issue stemming from the cap interest rate regulation is that borrowers with poor credit might be shut out from the consumer loan market and end up going to loan sharks. The Money Lending Business Act includes stipulations that reinforce penalties for loan sharks; however, it is probably necessary to view this as a safety net issue in the context of social security rather than a mere a financial market issue. Other potential measures are setting upper limits on the interest rate and a penalty that are applied when a debtor becomes delinquent (Heidhues and Koszegi€ 2010). Whether borrowing money with a credit card or through consumer financing, an extremely high interest rate is usually applied when delinquency occurs. Hyper- bolic and naı¨ve consumers know this; however, they wind up paying that high overdue interest rate and incurring a large welfare loss because they underestimate their own ability to repay. Therefore, by implementing regulations that help keep this overdue interest rate within a reasonable range, we can somewhat prevent naı¨ve borrowers from suffering a loss that is larger than that incurred through their own fault. Meanwhile, it will also curb excessive loans because the lenders will reduce the number of less profitable loans. Since only delinquent loans would be subject to this regulation, it would mainly target and regulate hyperbolic and naı¨ve borrowers. In that sense, this intervention can be considered an asymmetric paternalistic policy. The Credit Accountability Responsibility and Disclosure Act (Credit CARD Act), a credit card reform legislation passed in the United States in 2009, is in fact an application of this policy. In the past, the so-called post-introductory interest rate or default interest rate—an outrageously high interest rate compared to the introductory interest rate—was applied whenever the debtor became delinquent during the credit card’s introductory period. However, the amendment banned this practice and stipulated that the penalty interest rate and fees be kept within a reasonable range.

6.5 Issues and Future Tasks

In the previous two sections, I have discussed what kinds of interventions are possible when long-term interests are interfered with, due to selection biases such as hyperbolic discounting. Libertarian paternalism, a behavioral economics idea based on new empirical insights, is a superb technique that actually takes advantage of the root cause of self-destructive choices; however, it is of course not a “magic bullet” that can always solve the problem. Before I conclude, let us consider the issues and future tasks. The ﬁrst is more of a noteworthy point than an issue. It is the fact that libertarian paternalism remains an intervention, even though it guarantees by deﬁnition freedom of choice among decision-makers. It is true that it does not change the number of choices; however, it still in fact imposes an invisible regulation by changing the psychological burden on the decision-maker based on the choice he or she makes. 6.5 Issues and Future Tasks 179

Libertarian paternalism is a form of paternalism; policymakers have to intervene on the basis of that responsibility. Applying libertarian paternalism indiscriminately to a problem just because it allows freedom of choice is not acceptable when the appropriateness of the intervention is unclear. Whether or not to intervene should be determined based on whether there should be an intervention rather than on whether it is easy to intervene. The following excerpt from an editorial by George Loewenstein and Peter Ubel is insightful. Indeed, it seems in some cases that behavioral economics is being used as a political expedient, allowing policymakers to avoid painful but more effective solutions rooted in traditional economics.... Behavioral economics should complement, not substitute for, more substantive economic interventions. If traditional economics suggests that we should have a larger price difference between sugar-free and sugared drinks, behavioral economics could suggest whether consumers would respond better to a subsidy on unsweetened drinks or a tax on sugary drinks. But that’s the most it can do. For all of its insights, behavioral economics alone is not a viable alternative to the kinds of far-reaching policies we need to tackle our nation’s challenges. (New York Times, July 14, 2010) Second, any technique that uses behavioral bias to nudge people to make a certain choice is in itself an important achievement of behavioral economics and psychology; however, depending on how it is used, it could be a means of bringing about social benefits or of robbing others of personal benefits. It is likely that market players have always known and taken advantage of consumers’ selection biases, such as hyperbolic discounting and status quo bias. They might have been practic- ing behavioral economics for much longer than us, researchers. Moreover, at this stage, there is no indication that the technique of nudging individuals toward a certain choice is always used to generally improve society. It seems that lenders in the consumer credit market are generating profits by taking advantage of consumers’ hyperbolic discounting (Ide 2007). Credit card companies offer teaser rates and special sign-up points to earn large profits from hyperbolic and naı¨ve consumers. Gym owners set a “just right” monthly fee level to attract naı¨ve individuals who are planning to lose weight and ultimately have them pay a higher usage fee. The same children who were nudged toward nutritious lunches by the Smarter Lunchrooms project are also nudged toward specially priced junk food placed near the cash registers of supermarkets and convenience stores. Needless to say, the players mentioned here are by no means violating a law. Nudging an individual toward a choice—a method advocated by libertarian paternalism—is a double-edged sword precisely because it does not violate the freedom of choice. In thinking through like this, it seems that policy direction that does not depend much on a selection framework is desirable in the long run, although harnessing the habits of decision-makers in devising a selection framework would be useful and important as short-term and transitional policy. For example, it is necessary to provide various educational opportunities to make people aware of the negative 180 6 Coping with Self-Destructive Behavior effect of these selection biases. Meanwhile, it seems important also to begin to create a framework that lacks any default on the premise of voluntary decision- making. It is also important to create an environment in which people can develop perspectives by which they can recognize long-term benefits. For example, ethics and a sense of protecting the public interest should be developed. Put in terms of Ainslie’s picture of a tree, it is essential that we develop eyes that allow us to always perceive the building in the distance (the long-term interest) as being larger than the tree within a shorter distance, even when we are close to it. In his classic book Passions within Reason: The Strategic Role of the Emotions, Robert H. Frank (1988) emphasized that emotions such as love and altruism can make people commit to long-term interests.

6.6 Conclusions

In this chapter, based on empirical findings in economics and psychology that were reviewed in previous chapters, we have discussed how we can handle the self- control problem, namely, the conflict of interests between the present self (short- term self) and the future self (long-term self), and avoid self-destructive behaviors. In terms of decision-makers’ techniques, one needs first to understand the seriousness of one’s own self-control problems by reviewing daily choices and behaviors and thereby making sophisticated choices that incorporate any self-control problems. Once one understands one’s own self-control problems, there are creative ways of effectively using limited cognitive abilities and willpower to ensure long- term gratifications. Using a commitment device to “tie the hands” of the future self is an effective method. Shortening the planning horizon is another method. As for ways of helping the members of various organizations—ranging from countries to families—with their decision-making, I have introduced a new way of thinking called liberation paternalism. This is an intervention method that actually harnesses the selection bias of decision-makers and nudges them toward long-term interests without restricting their freedom of choice. Already used in some real-life settings such as pension systems and the layout of school cafeterias, this method should continue to provide effective prescriptions by which to incrementally improve systems in the future. However, the wisdom of using selection bias (or exploiting selection bias, to be precise) to nudge consumers could also become a way for market players to seize private benefits. In the long run, it is important to create educational opportunities and make people aware of the negative effects of these selection biases. In addition, it is probably necessary to begin developing rules and frameworks that ask people to make voluntary decisions without relying on the design of default settings. References

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A Body mass index (BMI), 4, 131, 134–136, Abstentious decision-making, 73, 75 138, 139 Abstinence, 77–82 Bonds, 95 Accumulation, 57, 106 Borrowing aversion, 31, 32, 114, 129, 130, Aesop, 62, 87 135, 136 Agency, 15, 18, 156 Borrowing constraints, 91 Agency-cost hypothesis, 38 Borrowing interest rate, 35 Ainslie, George, 50, 85, 159, 160, 180 Be´nabou, Roland, 156, 160 Akrasia, 1, 98 Brain, 62, 64 Alling, 50 Bright line, 160 Allowance cycle, 114 Burkhauser, 151 Angel, 18, 159–161 Anomaly, 10, 25 Anorexia, 139, 157, 161 C Ant and the Grasshopper, The, 62–64 Cake, 7, 53, 163 Anticipation, 39 Calorie, 132, 167, 174, 175 Anxiety, 39 Cap interest rate, 121, 129, 177 Apple, 4, 6, 16, 77 Carroll, Gabriel, 166, 171 Ariely, Dan, 99, 100 Cawley, John, 151, 174 Asymmetric paternalism, 169–170 Certainty effect, 59, 61 Ausubel, Lawrence, 119, 120 Chapman, Gretchen, 27, 29, 31, 37, 39 Automatic registration, 165, 168 Cho¯san-boshi, 21–22 Cleaning, 70, 71 Cognitive ability, 18, 162 B Cognitive judgment, 19 Bankers, 9–11 Cognitive science, 9 Behavioral economics policy, 2, 9, 19–21, Commitment devices, 16, 17, 86, 87, 97, 164, 179 146, 158 Behavioral psychology, 89 Common difference effect, 44 Benartzi, Shlomo, 168 Common marmosets, 21 Benign paternalism, 165 Constructive repayment, 177 Benjamin, 165 Consumer credit market, 176–178 Benzion, Uri, 26, 28 Consumer loans, 13, 121, 125, 129, 141, 176 β region, 62, 64 Consumption, 29, 31, 57, 92–93, 143 βδ model, 62 Context, 25, 33, 41, 42, 68

Continuing Survey of Food Intakes by Exponential discounting, 9, 45–49, 51, 54, 59, Individuals (CSFII), 175 72–74, 77, 94, 122 Corporate pension, 21, 165, 166 External commitment, 158, 159 Cotton-top tamarins, 21 Externality, 153 Cows, 49 Extramarital sexual relations, 8 Credit Accountability Responsibility and Disclosure Act (Credit CARD Act), 178 Credit card, 13, 86, 93–95, 116, 117, 122, 125, F 128, 158, 160, 178, 179 Fading procedure, 162 Credit information agencies, 177 Fashion models, 132 Cutler, David, 4, 135, 176 Fast food, 135, 167 Fastidiousness, 161 Fedorikhin, Alexander, 163 D Field experiment, 100, 155, 167 Dazai, Osamu, 111 Figner, Bernd, 64 Deadlines, 99–100 Financial innovation, 96–97 Debt, 57, 93, 116–130, 176, 178 Flexibility, 87, 96–97 Debtor, 31 Food-stamp nutrition cycle, 115, 116 Debt puzzle, 93–95 401(k), 20, 86 Declining impatience, 143 Framing effect, 33–35 Decreasing marginal utility, 27, 29–30 Frank, Robert H., 38, 180 Default, 20, 165, 166 French, 41 Default interest rate, 178 Functional magnetic resonance imaging Deﬁned contribution pension, 86 (fMRI), 62, 63 Delay, 5, 7, 9, 11, 26, 51, 57, 143 Delay premium, 33, 35, 42 Delay/speed-up asymmetry, 32–33 G Delinquent, 178 Gain-loss asymmetry, 29–31 δ region, 62, 64 Gains of trade, 97 Depletion, 107–109 Gambling, 3, 4, 109, 113, 140–142, 161 Devil, 18, 159, 161 Generic drugs, 166 Diabetes, 131 Genetic factors, 4, 176 Diet, 18, 51, 132, 160 Glaeser, Edward, 4, 176 Discounted utility model, 9, 25 Glimcher, Paul, 64 Discount factor, 50, 51, 145 Golden eggs, 17, 87–97, 111, 114, 158 Discount function, 46–48, 50, 51, 143 Gray zone, 129, 176 Discount rate, 7–11, 13, 22, 25, 26, 28–30, 36, Greek, 1, 17, 41 41, 43–45, 47, 50, 51, 61, 94, 103, 104, Gym, 163 113, 135, 138, 143, 150 Domino, 65, 68 Dopamine, 62 H Downs, Julie, 167 Habits, 3 Drink, 113, 140–142, 160, 179 Habituation, 39–40 Dual personality, 50, 51, 62, 64, 68 Hariri, Ahmad, 63 Dual self, 67–111 Headache, 37 Health, 6, 13, 29, 31, 53, 57, 109, 113, 132, 135, 140, 167, 175 E Healthcare system for the elderly aged 75 or Economic experiment, 13, 22, 30, 117, 138 older, 175 Education, 86, 87, 108, 109 Health insurance associations, 172 Elasticity, 27, 31 Health Promotion Act, 174 Evans, Gary W., 109 Herrnstein, Richard, 11, 49 Exceptionalization, 160 Hirota, 89 Excessive debt, 95, 125–128, 130, 133, 134, Hitchens, Robert, 38 141, 177 Homework, 13, 55, 123, 136 Index 189

Human capital, 38, 56, 87, 106 K Hybrid cars, 5 Kable, Joseph, 64 Hyperbolic discounting, 11–16, 18, 43–65, Kahneman, Daniel, 31, 105 67, 68, 70, 74, 80, 87, 116–130, 137, Kang, Myon-Il, 135 142, 166 Keren, Gideon, 44, 61 Kinari, Yusuke, 26 KiwiSaver Act, 166 I Ida, 140, 171 Ide, 179 L Ikeda, S., 8, 13, 126, 127, 129, 130, 136, 140 Laibson, David, 17, 62, 87, 89, 93–95, 97, Illiquid asset, 17, 86, 87, 91, 93, 95–97 165, 177 Immediacy effect, 44, 47 Libertarian paternalism, 20, 164, 165, 168, 178 Impatience, 7, 10, 21, 25–42, 46, 136, 140, 143 License, 73, 96, 172, 174 Improving sequences, 35–42 Liezi, 37 Impulsiveness, 21, 162, 163, 167 Limbic system, 62 Inconsistent choices, 50–57 Loan sharks, 121, 178 Increasing proportionate sensitivity, 26–27 Loewenstein, George, 36, 39, 41, 44, 47, 62, Indulgence, 77–82 64, 143, 167, 170, 179 Inertia, 20 Logue, A.W., 162 Inheritance, 176 Loss aversion, 10, 31, 169 Installment savings, 50, 86, 158, 169 Loss bias, 30–31, 35, 42 Insurance, 86, 91, 166, 172, 175 Lottery, 161 Interest rate, 7, 11, 22, 28–31, 36, 42, 45, 118–122, 177 Interest Rate Restriction Act, 129 M Intertemporal choice, 4, 5, 25, 27, 43, 62, Madrian, Brigitte, 166 103, 132 Magnitude effect, 10, 26–28 Interventions, 164–174, 176–179 Malmendier, Ulrike, 164 Introductory period, 118, 120, 178 Marginal propensities to consume (MPC) Investment Act, 129 92, 144 Iwamoto, 166 Marginal propensity to save (MPS), 92 Market-mimicking approach, 170 Marriage, 86 J Marshall, Alfred, 30 Japan Consumer Credit Association, 93 Mastrobuoni, Giovanni, 115 Japan Household Survey on Consumer Matching Law, 49–50 Preferences and Satisfaction, 2, 14, 23, Matthews, 49 32, 40, 149, 150 Mazur, James E., 50, 162 Japan Internet Survey on Preferences Relating McClure, Samuel, 62, 64 to Time and Risk, 3, 44, 45, 56, Medial orbitofrontal cortex, 64 123–125, 127, 133, 134, 137, Medical, 132, 135, 138 141, 142 Meier, Stephen, 13, 116 Japan Society for the Study of Obesity Mental accounting, 28, 93 (JASSO), 131, 138 Mental ﬁxed cost, 27–28 JASSO Obesity Diagnostic Criteria Review Metabolic syndrome, 175 Committee, 133, 138, 147 Miyajima, 171 Jevons, William S., 39 Money Lending Business Act, 177 Just, David, 167, 168 Money Lending Business Control Law, 177 Justiﬁcation, 156, 160 Monkeys, 5, 21–22, 36, 49, 62 190 Index

Moral hazards, 175 Planning horizon, 161–162 Movie, 41, 75–78, 84 Pleasures from anticipation, 39 Multiple debts, 128–129, 176 Policies, 171–178 Murooka, 123 Post-introductory rate, 118, 120, 178 Potential smokers, 172 Precommitment, 16, 79, 84, 85, 87, 96, 97 N Preference reversal, 53, 85, 98, 145, 155 Naı¨ve, 15, 69–72, 76–78, 97–102, 107, 123, Prefrontal cortex, 62, 64 128, 136, 143, 178 Prelec, Drazen, 30, 31, 41, 45, 47, 143 Naı¨ve income-consumption cycles, 114–116 Preproperation, 75–78 Nakagawa, 166 Prescription, 166 National Federation of Health Insurance Present bias, 11, 43, 44, 47, 49, 70, 129 Societies (Kenporen), 166 Present orientation, 7, 8 National Health and Nutrition Survey, 131, Principal, 15, 18 139, 149, 150, 173, 174 Prisoner’s dilemma, 84 National Longitudinal Survey of Youth, 135 Procrastination, 12–14, 55, 56, 70–73, 83 National pension, 86 Prospect theory, 31, 61 Neuroeconomics, 62 Psychological time, 57, 59 Neuroscience, 62 Nicotine addiction, 6 NLSY79, 135 Q Nudge, 165–168, 179 Quasi-hyperbolic discounting, 48, 62 Nutrition, 163 Quintana-Domeque, 134 Nutrition Labeling and Education Act (NLEA), 174, 175 R Rabin, Matthew, 73, 75, 82, 98 O Ramachandran, 59 O’Donoghue, Ted, 73, 75, 82, 98 Rank reversal, 120 Obesity, 2, 3, 113, 131–140, 146–147, 174–176 Reference point, 33, 39 Odyssey, 17, 85 Regulations on the total loan amount, 177 Ohtake, Fumio, 135 Repetitive transcranial magnetic stimulation Ono, 30 (rTMS), 64 Opportunity cost, 28, 78, 79 Retirement pension, 166 Opt-in, 165, 166, 170–172 Revised Money Lending Act, 125 Opt-out, 20, 165, 166, 170 Revolving credit, 116, 125 Overweight, 133, 138 Ricardian equivalence theorem, 95–96 Richards, Timothy J., 138 Roelofsma, Peter, 44, 59, 61 P ROSCA, 123 Pachinko, 140, 141 Parietal cortex, 62 Partially naı¨ve, 98–100, 102 S Paternalism, 20 Saito, 166 Payday loan, 121–123, 177 Salad, 163, 167 Pension, 158, 161, 162, 166, 169–171 Samuelson, 9, 59 Pension-Consumption Cycle, 115, 116 Sato, 59 Pension Legislation, 166 Saving, 81, 88, 89, 92, 94, 133, 134, 168–169 Pension Protection Act, 166 Savings interest rate, 35 Permanent income hypothesis, 88–92 Savor, 39–41 Personal bankruptcy, 125, 126, 128 Schamberg, Michelle A., 109 Personal rules, 159–161 Scharff, 175 Physical time., 59 Self-control problem, 14–15, 67–111, 155–157 Pigeons, 11, 49, 62, 85, 162 Self-report bias, 150 Piggy banks, 86, 158 Self-signaling, 18, 156, 159 Index 191

Self-trapping, 84–87 Temple, 49 Sellitto, Manuela, 64 Thaler, Richard, 26–28, 92, 164–166, Seniority-based wage, 38 168–170 Shapiro, Jesse, 115 Time deposits, 86 Shea, Dennis, 166 Time discounting, 9–11, 59, 63, 129, 136 Shefrin, Hersh, 28 Time inconsistency, 53, 101 Shiv, Baba, 163 Tip, 27 Shui, Haiyan, 119, 120 Tirole, Jean, 156, 160 Sicherman, Nachum, 36, 39 Tobacco tax, 172 Sign effect, 10, 29, 114, 126, 129, 130, 135, Tobacman, Jeremy, 122 136, 138 Tsutsui, Yoshiro, 129 Skiba, Paige, 122 Tversky, Amos, 31 Smart, 69 SMarT, 168, 169 Smarter Lunchrooms, 168, 179 U Smith, Patricia K., 134 Ubel, Peter, 179 Smoking, 3, 4, 19, 109, 113, 140–142, 171–174 Unayama, Takashi, 162 Smoothing, 15, 81, 105 Undersaving, 17, 81, 86, 95, 114, 123, 145, 146 Soft commitment, 19, 158–159 Underweight, 131–140, 149 Sophisticated, 15–18, 69, 70, 72–75, 78–80, 84, 85, 93, 97–102, 110, 111, 122–124, 136, 140, 145, 157, 163–164 V Sourdin, Patricia, 158 Variyam, Jayachandran, 174 Specific Medical Checkup/Specific Health Vigna, Stefano Della, 164 Guidance, 175 Villar, 134 Speed-up cost, 33, 35 Volunteer Income Tax Assistance Sprenger, Charles, 13, 116 (VITA), 116 Standard body weight status, 138, 139 Voucher, 33–35 Status quo bias, 121, 165, 167–170, 173, 175, 179 Stephens, Melvin, 162 W Stevens, Jeffrey, 21 Wage profile, 5, 36–38 Stinginess, 161 Wansink, Brian, 167, 168 Striatum, 63 Weber-Fechner Law, 59 Strotz, Robert H., 85 Weinberg, Matthew, 115 Subjective time, 59 Wertenbroch, Klaus, 99, 100 Subsidy, 179 Willpower, 1, 18, 80, 102–110, 155–157, Summer school, 86 162, 163 Sumo, 132 Winquist, Jennifer, 27 Sunstein, Cass, 164–166, 170 Wong, Wei-Kang, 8, 13, 100, 101, 126, 127, Supermarket, 167 130, 140, 155 Super Size Me, 147–148 Woolverton, 50 Survey of Household Economy,90 Workaholism, 157 Working memory, 109 World Health Organization (WHO), 131, 134, T 146–147 Takahashi, Taiki, 59 Tanaka, Saori, 63, 123 Teaser rate, 118–121, 176, 179 Z Teeth, 57, 159 Zauberman, 59