The Hyperbolic Consumption Model: Calibration, Simulation, and Empirical Evaluation

TLDR

Laboratory and field studies show discount rates are higher in the short run than in the long run, a pattern captured by hyperbolic discount functions. This paper simulates savings and asset allocation decisions of households with hyperbolic preferences. The simulations compare hyperbolic households to exponential households to assess differences in borrowing and consumption patterns. Hyperbolic households borrow more frequently, exhibit stronger consumption‑income comovement and a sharper consumption decline at retirement, and their simulations align with observed consumption and balance‑sheet data better than exponential models.

Abstract

Laboratory and field studies of time preference find that discount rates are much greater in the short run than in the long run. Hyperbolic discount functions capture this property. This paper presents simulations of the savings and asset allocation choices of households with hyperbolic preferences. The behavior of the hyperbolic households is compared to the behavior of exponential households. The hyperbolic households borrow much more frequently in the revolving credit market. The hyperbolic households exhibit greater consumption income comovement and experience a greater drop in consumption around retirement. The hyperbolic simulations match observed consumption and balance sheet data much better than the exponential simulations.