Increased Liquidity, Procrastination and National Savings: Over the past few decades, increasingly sophisticated financial investment possibilities have enabled individuals to place their savings into assets that can be sold instantly if need be — as opposed to investments in more “illiquid” assets like land, assets that require time and effort to convert to cash.
A: Consider individual 1 whose intertem poral tastes can be characterized by the beta-delta model versus individual 2 whose intertemporal tastes are characterized in the more usual neoclassical “delta” model. Both individuals just inherited some money and intend to invest this for their retirement.
(a) Could an increase in the availability of liquid assets for investment purposes make individual 2 better off? Could it make individual 2 worse off?
(b) Now consider individual 1. Suppose this individual consults an investment planner who has observed this individual’s past savings and consumption decisions and recommends an investment strategy. Why might he recommend a strategy that focuses on illiquid assets?
(c) If individual 1 is aware of his time-inconsistency problem, will he accept the financial planner’s advice? Would he have any reason not to accept it if he is unaware of his self-control problem?
(d) Suppose that, instead of just having inherited money, the two individuals have just accepted a job in which their company contributes to a 401K retirement plan. The individuals now must choose between two investments for their retirement account: investment A consists of a mix of stocks and bonds that can be sold easily, while investment B consists of 10-year savings “certificates of deposit” that cannot be cashed out without a substantial penalty. (In both cases, there would be a tax penalty for withdrawing funds from the 401K plan, but, since it is the same for any 401K withdrawal, ignore this feature of 401K plans here.) Assuming identical rates of return on the two investments, which will cause individual 1 to accumulate more savings for retirement? What about individual 2?
(e) Suppose individual 1 also has reference-based preferences subject to endowment or status quo effects. If the company gets to choose the initial investment strategy but allows individuals to opt into a different strategy if they want to, which investment strategy would the company choose for its workers (assuming it cares about the level of retirement savings that employees undertake)?
(f) Over the past few decades, there has been a substantial decrease in national savings in the U.S. How might a behavioral economist use the idea of procrastination to explain this?