Tuesday, December 2, 2014

The genesis of 'time value of money' is probably the limited lifespan of us humans

I studied time value of money during MBA. Till yesterday, I had accepted the existence of this as a matter of fact, as if this was another law of nature akin to Newton's laws of motion. But yesterday a small thought occurred to me - does time value of money exist because us humans have a limited lifespan? What if there existed a guy who never aged and never died? Would he too value INR 100 today more than INR 105 after a year [assuming the prevalent interest rate is 10% p.a., thus making INR 105 look like a bad deal to us mortals]? Probably not, because he would be in no hurry to get money. From his perspective, waiting one year to get INR 105 is also okay [assuming he can't take the INR 100 and invest it elsewhere to get INR 110 after a year], since he has a limitless life ahead, and he doesn't really spend any time of his life. Would time-driven interest rates even exist?

Which brings me to the money value of time. Since we all [currently] have limited lives, every second of our life has a value, and it is this money value of time which gives rise to the time value of money.

Update [21-Jun-15]: There's of course this oddity in this post, where on one hand I say that the prevalent interest rate is 10% p.a., and on the other hand I say that the immortal guy cannot invest the INR 100 anywhere to get INR 110 after a year. I need to think more about this idea when I'm free, to remove this oddity.

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