Choosing between now and later...

I’m currently listening to the audio version of a book called 'Misbehaving' by the latest Nobel Prize for Economic Sciences winning professor - Richard Thaler. The book is brilliant, it’s a cross between economics and psychology. Two areas I’m really enjoying learning more about.

Economics is generally about research and making assumptions based on what would likely be optimum decisions. Humans make decisions based on emotion and psychology. Behavioural economics is a cross between the two! The book goes deep into Thaler’s research on behaviour, and how it seems to go against what would be considered rational by most economists.

I fully understand that I might have lost a load of people by this point. 

The book is based on actual research that was carried out by asking lots of different questions to students and friends over many years to show how answers are irrational. The area I’d like to focus on is the basic premise that, when given the choice between having something now or deferring until later, most people will take the instant gratification.

Example one, if you are offered a nice dinner this week or the same dinner in a years’ time, most people will take the dinner this week.

In this instance, people are said to be ‘discounting the future dinner’ by some percentage. This is now commonly known as present bias. This is where people value their now more than their future consumption of the same thing.

Thaler then gives another example where one could have Wimbledon quarter-final tickets now vs final tickets in two years’ time. Which would you take?

The book gives many other examples of this type of behaviour and it’s interestingly told. Where these questions become relevant to me/my clients is when Thaler looks at people’s propensity to buy/spend something today vs save/invest money for your future self.  

The findings are such that, when left to their own devices, the average human would take the option to have things now as opposed to deferring their gratification for a later date. Most people show a present bias. This is due to the uncertainty placed on the future gratification and the infinite options in the time period between now and later.

As people get older this trend slows, because people begin to develop a sense of mortality.

An interesting side note here is that those who are hard wired to defer gratification have a harder time changing that behaviour to spend in their future present!

In what seems an obvious conclusion, those who are better at deferring gratification earlier seem to realise their future goals more than those who don’t on an overwhelming basis (hindsight is always 20/20!).

In doing his research, Thaler created the Save More Tomorrow (SMarT) programme where people saved proportionately to their earnings and every time they received a pay rise, the percentage rose. The programme targeted human apathy, as he believed that most people would rarely opt out of this savings set up. Employees were given the option to speak to a financial consultant, who would offer them a fixed savings rate, or to join the SMarT plan. The results spoke for themselves.

The average savings rates of those employees who saw the consultant and chose to enter into the SMarT plan rose from 3.5% before they received advice to 13.6% after the 4 pay rises.

Savings rates for employees who opted for the consultant’s rate rose from 4.4% before the advice to 8.8% after 4 pay rises.

Of those workers who did not contact the consultant, savings rates fell from an initially higher 6.6% to 6.2%, and the contribution rate of those who had seen the consultant but did not go ahead with either the proposed rate or SMarT programme decreased from 6.1% to 5.9%.

The overall company average savings rate rose from 4.4% to 10.6% over a four pay rise period.  If you’re interested, more detail on the project can be found here:

http://faculty.chicagobooth.edu/richard.thaler/research/pdf/smartjpe.pdf

For me, the conclusion here is that behaviour changes through subtle, incremental changes can have a huge multiplier effect over time. This is not just about savings either. Getting fitter or eating healthier are other examples where people can really benefit from small steps. Keeping to the plan and not getting side-tracked is the next issue to look at so watch this space.

If you’d like to know how we @ Engage can help you find a better balance between now and later please do get in touch.