Work detail

Time and risk preferences in economic development: Three essays

Author: PhDr. Michal Bauer, Ph.D. (3.4.2009)
Year: 2009 - summer
Leaders: prof. RNDr. Jiří Hlaváček CSc.
Work type: Dissertations
Language: English
Pages: 105
Awards and prizes:
Abstract: The thesis studies the role of time and risk preferences in the context of economic development, with particular focus on countries with lower income and less developed economic institutions. Wide range of important economic decisions is affected by individual willingness to postpone consumption and to bear risk. If people discount future pleasures heavily they are less likely to save, invest or send children to school. If they value future gratification intellectually but have difficulties to resist current temptations and suitable commitment devices are not available, they may ex post regret some of their decisions. If individuals or firms are averse to financial risk, they are less likely to make a profitable investment.
I have been motivated by a few simple questions. How are the individual attitudes to time and risk formed? Can the experimental measures developed for the lab environment and educated subject pools in rich countries be successfully applied in the field labs in lowincome countries? Can we learn something new about why people remain poor if we complement the usual survey information with experimental measures of time and risk preferences? Shall we expect firms operating in environments with less developed economic institutions to be more or less risk averse than those producing in developed economies?
The thesis consists of three papers. In the first paper “The impact of education on subjective discount rate in Ugandan villages” we elicit a subjective discount rate for a varied sample of Ugandan villagers. In accordance with other studies, we have found the discount rate to decrease with education. In any cross-sectional study, it’s difficult to infer the direction of causality from correlation. Does education make people more patient, or are
more patient individuals more willing to invest in their human capital? The paper provides the first evidence for the causal effect of education on discount rate. We exploit two different sources of variation in education: school frequency across villages and the number of the respondents’ school-going years that overlap with the era of the dictator Idi Amin’s rule. For men, we find that education has a significant impact on their discount rate, similar in magnitude for both types of instruments and robust to observable characteristics. This finding highlights the importance of education in economic development.
The second paper “Behavioral foundations of microcredit: Experimental and survey evidence from rural India” draws a link between popularity of microcredit and desire for self-discipline. We integrate experimental measures of time discounting and risk aversion for a sample of 573 villagers in south India with survey data on their financial activity. One third of participants made choices consistent with hyperbolic preferences (more impatient now than in the future), and would be made better off if they could discipline their time inconsistent preferences. While hyperbolic preferences have been often associated with difficulties to save and strategies to commit for saving, we describe links to borrowing as well. We find that “hyperbolic” women save a lower share of their savings at home and save less in total levels. Women with hyperbolic preferences are also more likely to borrow—and to do so through microcredit institutions specifically. The finding highlights the role of the fixed and frequent installment schedule ubiquitous in microcredit contracts. While microcredit contracts are celebrated for mitigating informational asymmetries, the evidence suggests that they also offer helpful, though costly, structure for people with self-discipline problems who seek to accumulate capital but who lack suitable contractual saving devices.
The third paper examines the determinants of firm’s attitude to risk. The model developed in the paper is an extension of Greenwald and Stiglitz’s model (1993), which singly implies risk-averse behavior if a firm’s production is financed by debt. Our model incorporates more general assumptions about a firm’s financing: access to the equity market and the possibility of a soft budget constraint. Both features are closely associated with different stages of economic development. The model demonstrates several interesting implications. A soft-budget constraint, a feature that is typical primarily for developing or emerging economies, can lead to excessively risky production strategies. In the environment without soft-budget constraint, improving access to capital markets enhances the willingness of managers to bear risk up to the production level associated with risk-neutral firm. A degree of uncertainty about future prices may have opposite effect on production, depending on financial situation of the firm.
Downloadable: Disertace M. Bauer


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