INCOME SMOOTHING AND SELF‐CONTROL: THE CASE OF SCHOOLTEACHERS

Experimental economics is frequently criticized on the grounds that the incentives offered to subjects in the laboratory are too low to give the results any validity. In particular, when the results reject the standard economic maximizing model, the presumption is frequently made that anomalies will go away if incentives are raised to levels faced in the "real world." Indeed as Camerer and Hogarth (1999) have recently noted, it is "an open question what results from the laboratory tell us about incentives in naturally occurring environments." (1) In this article we report the choices made by subjects in one such naturally occurring environment, the choice of payment pattern by California public schoolteachers. We calibrate the size of their incentives and show that (depending on the discount rate chosen) not insignificant amounts of income may be given up by large numbers of individuals (all of whom are college graduates) to implement what may be considered a sensible consumption plan, but one that is not optimal according to the standard income smoothing utility-maximizing model. I. THE CHOICE PROBLEM Teachers usually work 10 months in a 12-month academic year, so that if they are paid only during their working period, they receive no salary in July and August. In the standard economic model of intertemporal financial planning, however, the absence of summer salary payments would present no problem because teachers could simply save some fraction of their salary, arranging whatever summer consumption pattern was desired within the overall budget constraint. Moreover, because the income saved would accumulate interest, this strategy would dominate a strategy of asking that the same annual salary be paid in 12 equal installments. Several authors (e.g., Thaler 1980; Schelling 1984; Thaler and Shefrin 1981; Loewenstein and Prelec 1992; Laibson 1997; Rabin 1997) have questioned the validity of the standard model and proposed an alternative approach. (2) In this new approach, the teacher may well agree that the optimal plan is to smooth consumption by saving with interest during the earning months, but executing this optimal plan is not without cost. Thaler and Shefrin (1981), who explicitly note the schoolteachers' planning problem, argue that these implementation costs, or costs of self-control, could change the behavior of teachers and make them willing to enter an implicit savings program at zero interest even though that would lower the present value of their income. An obvious question for field investigation is "how many do this and at what cost?" In addition, for those teachers who enter such schemes, it is of interest to know if they see themselves as being challenged by issues of self-control. II. THE DATA Our data come from two questionnaires. The first questionnaire (see Appendix A) was sent to 259 school districts in California. (3) Replies with usable data were received from 130 districts (50%). A follow-up telephone survey checked on the possibility that a school district might pay interest to teachers who choose to have their 10 months' salary paid over 12 months and also that teachers might choose to be paid over an 11-month period. (4) A second questionnaire (shown in Appendix B) was sent to all teachers in one of the school districts identified in the first survey as offering a 12-month payment option. (5) We obtained 121 responses with at least some useful information, a response rate of 32%. Given the personal nature of some of the questions, this response rate is reasonable, though it does, of course, raise a question about the representativeness of our sample--and its small size suggests that only tentative conclusions can be drawn from it. III. CHOICES OFFERED AND TAKEN In the first survey, 71 school districts (55%) did not offer their employees any choice of salary arrangement. Of these, 37 (with 15,205 teachers) paid salaries on a 10-month basis, 15 (with 11,284 teachers) paid on a 12-month basis, and I 0 districts paid teachers who work 10 months on a 10-month basis and those who work 12 months 12 times. …