Infinite time and economics
Posted September 26, 2007on:
I was just looking at an interesting post from Philosophy, et cetera. They are discussing value when we have ‘infinites’. Now if we are looking at points in time with infinite resources this would be pointless for economists, as economics is the study of scarcity. If there are infinite resources, consumption is infinite and value is infinite.
However, they also discuss infinite time. Now if we have a game which is played infinitely into the future how do we decide the optimal choice of an individual? In order to work out the optimal choice of an agent economists will often discount the agents future consumption decisions. This implies that, if the ordering of preferences is expected to stay constant over time, an agent will value a unit of consumption more now than they will at any given point in the future (Ultimately it means that the game provides a finite value even though we have infinite time, as a result these values can be ranked allowing us to choose an optimum). Now exactly how we discount is constantly discussed by economists, especially since the way we commonly discount doesn’t hold true in empirical tests.
Now, even though I have spent a lot of time discussing discounting, that is not what I want to talk about. I want to talk about why and infinite horizon game or choice problem is sensible. Now you might say that no game between agents will be played for an infinite amount of time because everything has an end. However, that is not the way I see it. Infinite time is the idea of unbounded time. If we do not have a definitive end-point then we can view our game going on into infinity.
Let me explain. Ultimately, agents in a game will associated some probability to the game ending during a certain period. In this case they will either believe that their is 100% probability that the game will have ended at some set point, which acts as a boundry and so makes the game finite, or they believe that there is a probability that the game will end at each point in time, but they never associate a 100% probability to the gaming ending at a set point. In the second case we need to look at a infinite horizon game.
The discussion of discount factors is important when we go to look at a person’s choice in this way. In a sense the discount factor represents the likelihood that the game or choice problem will still be going during future periods, as well as a general preference people may have for consumption now instead of consumption tomorrow. As a result, even if we think that saying the current value of a pie in a year is greater than the current value of a pie in 10 years is silly, the fact that I place a higher value on being dead in 10 years than in one means I will value the pie in a year more (as I may never consume the pie in 10 years). Now my consumption choice may still be bounded (as I associate 100% chance of being dead at 800 😉 ). However there are cases where there may be point where a 100% probability is implied, eg the survival of a firm such as the Warehouse.
All this teaches us, is that we have to be careful that the horizon we choose to look over things makes sense, and that infinite does not mean the game or choice problem will never end, just that we are completely uncertain when it will end.