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Firm Investment Decisions Under Hyperbolic Discounting

Apr 2016
Working Paper
592
Minwook Kang, Lei Sandy Ye

This paper constructs a model of corporate investment decisions under hyperbolic discounting of present values. The hyperbolic discounted present value can be interpreted as reflecting irrational myopic preferences or, as this paper demonstrates, reduced-form implications of corporate agency issues. Both cases in an underinvestment problem for the firm, but the firm valuation criteria differ. We show that imposing revenue-neutral dividend taces or investment subsidies by an outside authority can overcome the firm's underinvestment problem and consequently increase all periods' present value of dividends. Lastly, under a multi-period extension with Cobb-Douglas returns functions, this paper shows quantitative implications of our model.

Publication Keywords: 
Present Bias
Hyperbolic Discounting
Corporate Investment
Underinvestment
Dividend Taxation
Investment Subsidy
Agency Problem
Asymmetric Information
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