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April 27, 2005
Time is Money
TIME IS MONEY: TIME PRESSURE, INCENTIVES, AND THE QUALITY OF DECISION-MAKING
Do time pressure and time-dependent incentive schemes have an influence on the quality of decision-making in economics and finance? A recent discussion paper on strategic interaction out of the Max Planck Institute (series) investigates the effects of time pressure on the quality of economically relevant decision-making. In particular, the article address two research questions: (i) Is there a tradeoff between the quality of decision-making and time pressure? (ii) How do time-dependent incentive schemes affect the (possible) trade-off between the quality of decision-making and time pressure?
ABSTRACT:
"Many decisions in economics and finance have to be made under severe time pressure. Furthermore, payoffs frequently depend on the speed of decision-making, like, for instance, when buying and selling stocks. In this paper, we examine the influence of time pressure and time-dependent incentive schemes on the quality of decision-making in an experimental beauty-contest game. We find that convergence to equilibrium is faster and payoffs are higher under low time pressure than under high time pressure. Interestingly, time-dependent payoffs under high time pressure lead to significantly quicker decision-making without reducing the quality of decisions."
QUOTES:
"Investment decisions – like trading stocks – are the prime example for the relevance of time pressure and time-dependent incentive schemes. Watching the floors of the New York Stock Exchange, for instance, convinces even the layman that trading is, typically, prone to severe time pressure, yielding the conclusion that there is not much time to decide in order to make money in some instances. But, more than that, time is money, because profits from trading (both for the principal investor and the agent trader) may depend crucially on the speed of the trader’s reaction to relevant new information…"
"Finally, consumers – the main decision-making agents in economics – often have to make decisions under time pressure. Think, for instance, of shopping a few minutes before shops close or participating in an auction. Some companies seem to be willing to exploit the existence of time pressure as part of their sales strategy by offering special discount prices for a typically rather narrow time period. Shopping TV-channels, like Home Shopping Europe (HSE), provide another example for deliberately inducing time pressure. When selling products with a limited number of available items (or at least, when the impression of scarcity of items is intended), the number of sold or still available items is updated and shown on the TV-screen after each purchase, thereby pushing consumers to make a quick decision if they are interested in the product..."
"Psychology offers several explanations for a negative influence of time pressure on the quality of decision-making. Time pressure induces subjects to rely more heavily on heuristics or so-called rules of thumb for decision-making in complex environments.6 It has long been established that such heuristics – even in the absence of time press - frequently result in systematic decision-making errors (Tversky and Kahneman, 1974; Wickens and Holland, 2000). Time pressure adds to the pitfalls of heuristics, because it prevents a thorough (and time-consuming) check of the internal logic of decisions and its consistency with the expected behavior of other subjects and because it induces subjects to focus on the most salient cues when making a decision, even if these cues are of no importance for the decision to be made (Wallsten and Barton, 1982). Besides affecting actual decisions, time pressure has also an influence on the willingness to gather information and process it before even making a decision. This phenomenon is known as ‘closing of the mind’ (Kruglanski and Freund, 1983), meaning that people seek cognitive closure and stop considering multiple alternatives..."
"Our results suggest that convergence to the game-theoretic equilibrium is faster and payoffs are higher with a very weak time constraint (practically no time pressure), compared to a situation where subjects face a rather tight time constraint of only 15 seconds to decide. Hence, time pressure has a negative effect on the quality of decisions and on subjects’ performance. Our time-dependent incentive scheme in case of time pressure induces significantly quicker decision-making and, on average, even improves the quality of decision-making instead of reducing it, even though the latter effect is not statistically significant. We suspect that the time-dependent incentive scheme induces a shift in the effort levels exerted by subjects that offsets the negative effect of the decrease in decision-making time on the decision’s quality. The opportunity to gain considerably higher payoffs seems to trigger higher concentration or effort levels. Hence, our results suggest that if decisions have to be taken under severe time pressure, the use of time-dependent monetary incentives should be considered as an appropriate means to speed up decision making significantly without generally deteriorating decision-making quality..."
ABOUT THE AUTHORS:
Martin G. Kocher is an Assistant Professor in the Department of Economics, Institute of Public Finance, University of Innsbruck, Austria. Homepage
Matthias Sutter is Professor of Economics, Max Planck Institute for Research into Economic Systems, Strategic Interaction Group. Homepage
Posted by DSN at April 27, 2005 10:16 AM