Patience is a virtue, especially when it comes to building capital. But as with most virtues, it’s not always easy to muster, since it usually requires resisting temptations for gratification on the sooner side. Should you put the extra $1,000 earned this month in your retirement savings or use it to buy a new suit? Should you approve money from the firm’s “rainy-day” fund to cover travel for senior executives (yourself included) to a lavish conference this summer or let it continue to accrue as a buffer for future challenges? Such decisions – a type referred to by economists as intertemporal choices – are characterized by options that offer different rewards as time unfolds. That is, they contrast smaller pleasures or gains now with larger pleasures or gains later.
Almost everyone – from individual investors to CFOs of large corporations – would probably agree that the best way to choose between such options would be to objectively weigh the potential costs and benefits offered by each. But, as the past two decades of psychological research has revealed time and again, the human mind isn’t entirely objective. It’s a well-established fact that we discount the value of future rewards. For example, if given the choice between receiving $75 dollars today or $100 in a year, most people would opt for the former even though a 30% annual return on an investment is difficult to beat. Of course, discounting as a function of time isn’t inherently illogical. Some level of it makes good sense; you never can be absolutely sure you’re going to be around in the future to reap the reward. But our minds tend to discount future value quite excessively – a phenomenon that significantly contributes to problems ranging from credit-card debt to substance abuse.