Money and Time Preference (By Saifedean Ammous)

Sound money is chosen freely on the market for its salability, because it holds its value across time, because it can transfer value effectively across space, and because it can be divided and grouped into small and large scales. It is money whose supply cannot be manipulated by a coercive authority that imposes its use on others. From the preceding discussion, and from the understanding of monetary economics afforded to us by Austrian economics, the importance of sound money can be explained for three broad reasons: first, it protects value across time, which gives people a bigger incentive to think of their future, and lowers their time preference. The lowering of the time preference is what initiates the process of human civilization and allows for humans to cooperate, prosper, and live in peace. Second, sound money allows for trade to be based on a stable unit of measurement, facilitating ever-larger markets, free from government control and coercion, and with free trade comes peace and prosperity. Further, a unit of account is essential for all forms of economic calculation and planning, and unsound money makes economic calculation unreliable and is the root cause of economic recessions and crises. Finally, sound money is an essential requirement for individual freedom from despotism and repression, as the ability of a coercive state to create money can give it undue power over its subjects, power which by its very nature will attract the least worthy, and most immoral, to take its reins.

Sound money is a prime factor in determining individual time preference, an enormously important and widely neglected aspect of individual decision making. Time preference refers to the ratio at which individuals value the present compared to the future. Because humans do not live eternally, death could come to us at any point in time, making the future uncertain. And because consumption is necessary for survival, people always value present consumption more than future consumption, as the lack of present consumption could make the future never arrive. In other words, time preference is positive for all humans; there is always a discount on the future compared to the present.

Further, because more goods can be produced with time and resources, rational individuals would always prefer to have a given quantity of resources in the present than in the future, as they could use them to produce more. For an individual to be willing to defer her receipt of a good by a year, she would have to be offered a larger quantity of the good. The increase necessary to tempt an individual to delay her receipt of the good is what determines her time preference. All rational individuals have a nonzero time preference, but the time preference varies from one individual to another.

Animals’ time preference is far higher than humans’, as they act to the satisfaction of their immediate instinctive impulses and have little conception of the future. A few animals are capable of building nests or homes that can last for the future, and these have a lower time preference than the animals that act to the satisfaction of their immediate needs such as hunger and aggression. Human beings' lower time preference allows us to curb our instinctive and animalistic impulses, think of what is better for our future, and act rationally rather than impulsively. Instead of spending all our time producing goods for immediate consumption, we can choose to spend time engaged in production of goods that will take longer to complete, if they are superior goods. As humans reduce their time preference, they develop the scope for carrying out tasks over longer time horizons, for satisfaction of ever-more remote needs, and they develop the mental capacity to create goods not for immediate consumption but for the production of future goods, in other words, to create capital goods.

Whereas animals and humans can both hunt, humans differentiated themselves from animals by spending time developing tools for hunting. Some animals may occasionally use a tool in hunting another animal, but they have no capacity for owning these tools and maintaining them for long-term use. Only through a lower time preference can a human decide to take time away from hunting and dedicate that time to building a spear or fishing rod that cannot be eaten itself, but can allow him to hunt more proficiently. This is the essence of investment: as humans delay immediate gratification, they invest their time and resources in the production of capital goods which will make production more sophisticated or technologically advanced and extend it over a longer time-horizon. The only reason that an individual would choose to delay his gratification to engage in risky production over a longer period of time is that these longer processes will generate more output and superior goods. In other words, investment raises the productivity of the producer.

Economist Hans-Hermann Hoppe explains that once time preference drops enough to allow for any savings and capital or durable consumer-goods formation at all, the tendency is for time preference to drop even further as a “process of civilization” is initiated.+

The fisherman who builds a fishing rod is able to catch more fish per hour than the fisherman hunting with his bare hands. But the only way to build the fishing rod is to dedicate an initial amount of time to work that does not produce edible fish, but instead produces a fishing rod. This is an uncertain process, for the fishing rod might not work and the fisherman will have wasted his time to no avail. Not only does investment require delaying gratification, it also always carries with it a risk of failure, which means the investment will only be undertaken with an expectation of a reward. The lower an individual's time preference, the more likely he is to engage in investment, to delay gratification, and to accumulate capital. The more capital is accumulated, the higher the productivity of labor, and the longer the time horizon of production.

To understand the difference more vividly, contrast two hypothetical individuals who start off with nothing but their bare hands, and differing time preferences: Harry has a higher time preference than Linda. Harry chooses to only spend his time catching fish with his hands, needing about eight hours a day to catch enough fish to feed himself for the day. Linda, on the other hand, having a lower time preference, spends only six hours catching fish, making do with a smaller amount of fish every day, and spends the other two hours working on building a fishing rod. After a week has passed, Linda has succeeded in building a working fishing rod. In the second week, she can catch in eight hours double the quantity of fish which Harry catches. Linda's investment in the fishing rod could allow her to work for only four hours a day and eat the same amount of fish Harry eats, but because she has a lower time preference, she will not rest on her laurels. She will instead spend four hours catching as many fish as Harry catches in eight hours, and then spend another four hours engaged in further capital accumulation, building herself a fishing boat, for instance. A month later, Linda has a fishing rod and a boat that allows her to go deeper into the sea, to catch fish that Harry had never even seen. Linda's productivity is not just higher per hour; her fish are different from, and superior to, the ones Harry catches. She now only needs one hour of fishing to secure her food for a day, and so she dedicates the rest of her time to even more capital accumulation, building better and bigger fishing rods, nets, and boats, which in turn increases her productivity further and improves the quality of her life.

Should Harry and his descendants continue to work and consume with the same time preference, they will continue to live the same life he lived, with the same level of consumption and productivity. Should Linda and her descendants continue with the same lower time preference, they will continuously improve their quality of life over time, increasing their stock of capital and engaging in labor with ever-higher levels of productivity, in processes that take far longer to complete. The real-life equivalents of the descendants of Linda would today be the owners of Annelies Ilena, the world's largest fishing trawler. This formidable machine took decades to conceive, design, and build before it was completed in the year 2000, and it will continue to operate for decades to offer the lower-time-preference investors in it a return on the capital they provided to the building process many decades ago. The process of producing fish for Linda's descendants has become so long and sophisticated it takes decades to complete, whereas Harry's descendants still complete their process in a few hours every day. The difference, of course, is that Linda's descendants have vastly higher productivity than Harry's, and that's what makes engaging in the longer process worthwhile.

An important demonstration of the importance of time preference comes from the famous Stanford marshmallow experiment, conducted in the late 1960s. Psychologist Walter Mischel would leave children in a room with a piece of marshmallow or a cookie, and tell the kids they were free to have it if they wanted, but that he will come back in 15 minutes, and if the children had not eaten the candy, he would offer them a second piece as a reward. In other words, the children had the choice between the immediate gratification of a piece of candy, or delaying gratification and receiving two pieces of candy. This is a simple way of testing children's time preference: students with a lower time preference were the ones who could wait for the second piece of candy, whereas the students with the higher time preference could not. Mischel followed up with the children decades later and found significant correlation between having a low time preference as measured with the marshmallow test and good academic achievement, high SAT score, low body mass index, and lack of addiction to drugs.

As an economics professor, I make sure to teach the marshmallow experiment in every course I teach, as I believe it is the single most important lesson economics can teach to individuals, and am astounded that university curricula in economics have almost entirely ignored this lesson, to the point that many academic economists have no familiarity with the term time preference altogether or its significance.

While microeconomics has focused on transactions between individuals, and macroeconomics on the role of government in the economy, the reality is that the most important economic decisions to any individual's well-being are the ones they conduct in their trade-offs with their future self. Every day, an individual will conduct a few economic transactions with other people, but they will partake in a far larger number of transactions with their future self. The examples of these trades are infinite: deciding to save money rather than spend it; deciding to invest in acquiring skills for future employment rather than seeking immediate employment with low pay; buying a functional and affordable car rather than getting into debt for an expensive car; working overtime rather than going out to party with friends; or, my favorite example to use in class: deciding to study the course material every week of the semester rather than cramming the night before the final exam.

In each of these examples, there is nobody forcing the decision on the individual, and the prime beneficiary or loser from the consequences of these choices is the individual himself. The main factor determining a man's choices in life is his time preference. While people's time preference and self-control will vary from one situation to the other, in general, a strong correlation can be found across all aspects of decision making. The sobering reality to keep in mind is that a man's lot in life will be largely determined by these trades between him and his future self. As much as he'd like to blame others for his failures, or credit others with his success, the infinite trades he took with himself are likely to be more significant than any outside circumstances or conditions. No matter how circumstances conspire against the man with a low time preference, he will probably find a way to keep prioritizing his future self until he achieves his objectives. And no matter how much fortune favors the man with a high time preference, he will find a way to continue sabotaging and shortchanging his future self. The many stories of people who have triumphed against all odds and unfavorable circumstances stand in stark contrast to the stories of people blessed with skills and talent that rewarded them handsomely, who nonetheless managed to waste all that talent and achieve no lasting good for themselves. Many professional athletes and entertainers, gifted with talents that earn them large sums of money, nevertheless die penniless as their high time preference gets the better of them. On the other hand, many ordinary people with no special talents work diligently and save and invest for a lifetime to achieve financial security and bequeath their children a life better than the one they inherited.

It is only through the lowering of time preference that individuals begin to appreciate investing in the long run and start prioritizing future outcomes. A society in which individuals bequeath their children more than what they received from their parents is a civilized society: it is a place where life is improving, and people live with a purpose of making the next generation's lives better. As society's capital levels continue to increase, productivity increases and, along with it, quality of life. The security of their basic needs assured, and the dangers of the environment averted, people turn their attention toward more profound aspects of life than material well-being and the drudgery of work. They cultivate families and social ties; undertake cultural, artistic, and literary projects; and seek to offer lasting contributions to their community and the world. Civilization is not about more capital accumulation per se; rather, it is about what capital accumulation allows humans to achieve, the flourishing and freedom to seek higher meaning in life when their base needs are met and most pressing dangers averted.

There are many factors that come into play in determining the time preference of individuals. Security of people in their person and property is arguably one of the most important. Individuals who live in areas of conflict and crime will have a significant chance of losing their life and are thus likely to more highly discount the future, resulting in a higher time preference than those who live in peaceful societies. Security of property is another major factor influencing individuals’ time preference: societies where governments or thieves are likely to expropriate individuals’ property capriciously would have higher time preference, as such actions would drive individuals to prioritize spending their resources on immediate gratification rather than investing them in property which could be appropriated at any time. Tax rates will also adversely affect time preference: the higher the taxes, the less of their income that individuals are allowed to keep; this would lead to individuals working less at the margin and saving less for their future, because the burden of taxes is more likely to reduce savings than consumption, particularly for those with a low income, most of which is needed for basic survival.

The factor affecting time preference that is most relevant to our discussion, however, is the expected future value of money. In a free market where people are free to choose their money, they will choose the form of money most likely to hold its value over time. The better the money is at holding its value, the more it incentivizes people to delay consumption and instead dedicate resources for production in the future, leading to capital accumulation and improvement of living standards, while also engendering in people a low time preference in other, non-economic aspects of their life. When economic decision making is geared toward the future, it is natural that all manner of decisions are geared toward the future as well. People become more peaceful and cooperative, understanding that cooperation is a far more rewarding long-term strategy than any short-term gains from conflict. People develop a strong sense of morality, prioritizing the moral choices that will cause the best long-term outcomes for them and their children. A person who thinks of the long run is less likely to cheat, lie, or steal, because the reward for such activities may be positive in the short run, but can be devastatingly negative in the long run.

The reduction in the purchasing power of money is similar to a form of taxation or expropriation, reducing the real value of one's money even while the nominal value is constant. In modern economies government-issued money is inextricably linked to artificially lower interest rates, which is a desirable goal for modern economists because it promotes borrowing and investing. But the effect of this manipulation of the price of capital is to artificially reduce the interest rate that accrues to savers and investors, as well as the one paid by borrowers. The natural implication of this process is to reduce savings and increase borrowing. At the margin, individuals will consume more of their income and borrow more against the future. This will not just have implications on their time preference in financial decisions; it will likely reflect on everything in their lives.

The move from money that holds its value or appreciates to money that loses its value is very significant in the long run: society saves less, accumulates less capital, and possibly begins to consume its capital; worker productivity stays constant or declines, resulting in the stagnation of real wages, even if nominal wages can be made to increase through the magical power of printing ever more depreciating pieces of paper money. As people start spending more and saving less, they become more present-oriented in all their decision making, resulting in moral failings and a likelihood to engage in conflict and destructive and self-destructive behavior. This helps explain why civilizations prosper under a sound monetary system, but disintegrate when their monetary systems are debased, as was the case with the Romans, the Byzantines, and modern European societies. The contrast between the nineteenth and twentieth centuries can be understood in the context of the move away from sound money and all the attendant problems that creates.

This text is taken from the book: "THE BITCOIN STANDARD"