I’ll Gladly Pay You Tuesday for a Hamburger Today

Yesterday’s Wall Street Journal article about Facebook’s privacy issues and this morning’s NPR story about people giving up private information in order to play games got me thinking about the risks people face by agreeing to something pleasureful today, only to pay for it some time later.

Wimpy, the man who will gladly pay you Tuesday for a Hamburger today!

Pay Tuesday, Play Today.

Just like poor old Wimpy, Facebook users are being tempted by something they want immediately – in this case, it’s not about a moist delicious burger but about playing one of the popular games that a friend just invited them to play, like MafiaWars or Farmville.  Never mind if you like these games or not – the point is that many people play them and that means we can learn something about risky behavior from them.  The price for access to the game is giving up some personal information – birthday, location, friend list, possibly income info, etc.  The risk, of course, is that the information is used in ways the person doesn’t approve, such as targeted advertising or examining friends’ credit ratings to estimate your likelihood of defaulting (after all, we are judged by the company we keep).  In order to be allowed into the game, you have to agree to share the information.  And given how many people play these games, it’s quite clear that many feel it’s worth the price.

Behavioral Finance shows us that people have a very strong preference for immediate things, and we seriously discount the value of something even one week out, let alone farther.  In finance terms, we have a very large discount factor.  Behavioral Economists ask questions like “you can have $100 today, or a larger amount 2 weeks from now.  How much would I have to offer you in two weeks’ time for you to take that instead?”  In other words, $100 today = $X in two weeks.  Two things are fascinating about the results.

  • The first is that people require being paid much more than “normal interest rates” to accept a delayed payment.  If you put $100 into a bank savings account at 5% annual interest, in two weeks, you’d have $100.20 – meaning, you’d earn about 20 cents in those two weeks.  But people’s answer to the question of how much more they’d need to get for delaying the payment by two weeks is usually a LOT bigger – like $10 or $20, for a total of $110 or $120 for waiting the two weeks.  Put into annual interest rates, earning $20 on a $100 investment in only two weeks is equivalent to an annual interest rate of 9500%.  In other words, it’s going to cost a truly unreasonable amount to get someone to delay payment.
  • The second interesting result is that this discounting doesn’t happen if both payments are sufficiently far off in the future.  Let’s take the same two week delay between payments but this time, let’s put the first payment out 6 months.  The second payment would then be 6 and a half months out.  In this case, people don’t really care if the amounts are different – they’ll take $100 in 6 months as happily as $100 in 6 1/2 months.

To me, at least, this is amazing.  Delay really matters when it’s the difference between right now and a future date, but it doesn’t matter when its a delay between two future events.  It’s very similar to the general inclination people have to save $5 on a $10 purchase but not on a $500 purchase.  In this case, suppose an item is selling for $15 at a store just a block from you, and it’s selling for $10 a few blocks away.  People will, in general, walk the extra few blocks to save the $5.  But if the same two stores are selling some other, more expensive product, that $5 difference doesn’t matter as much.  Let’s say the nearby store has the product for $505 while the store a few blocks away carries it for $500.  In this case, most people won’t bother to walk.  My gut feel is that I agree with this (I won’t go out of my way to save $5 on a $500 item), but let’s think about this more closely: both ways, you save $5 by walking the exact same distance.  In one case, when the $5 is seen relative to $10 or $15, I will chose to walk and save the money.  In the other case, when the $5 savings is viewed relative to $500, I will chose to not save the exact same money.  And here I thought I was a rational person

From a risk management point of view, these choices we make can have negative financial consequences.  Since we overvalue immediate payment over a delayed payment, we’re likely to overlook a better opportunity because of that short-sighted gain. “Offer won’t last” or “sign up today” are common sales techniques that take advantage of this inclination.  Taking an immediate small gain can prevent us from realizing an even greater future gain.

Under-valuing things when they are seen in relation to things of higher value also leads to financial mistakes.  Many stores take advantage of this, making a tidy profit.  Once you’re in that Apple store, it’s much more convenient to buy that outrageously priced backup drive or cable than to go somewhere else to get it at a better price.  Besides, what’s another $50 when I just spent $500 on an iPhone or iPad?  Well, it’s $50.  And that can pay for plenty of hamburgers, for which I’d gladly pay next Tuesday.

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