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Sunk Costs: When to Cut Your Losses?

Jan 17, 2013 • Behavioral Economics, Businesses, Demand, Supply, and Markets, Economic Debates, Government, Macroeconomic Measurement, Regulation, Thinking Economically, Uncategorized • 219 Views    No Comments

Several days ago, during a phone call, I was asked to “hold” for a moment. 5 minutes passed. No one returned. I considered hanging up but thought, I’ve already waited 5 minutes. They will have been wasted if I leave. 10 minutes passed. Still no one.

The Jets are having the same experience with their quarterback. Paid $8.25 million next year whether he plays or not, Mark Sanchez has had 2 mediocre seasons. Just as I waited 5 minutes, and then 10 minutes, the Jets too feel they have an investment.

My 10 minutes and their $8.25 million are “sunk costs.” Whatever we paid is gone. Thinking rationally, we should look to what the future will cost us. More time waiting on the phone? More losing games?

According to one psychologist who has studied sunk costs, the bigger the past cost, the more unrealistic people are about its rosy future potential. Because they perceive waste and even harm to a reputation, people demonstrate “cognitive dissonance,” an unrealistic assessment of their future behavior. As a result, they continue the behavior rather than accepting a loss and moving on.

So, as Boeing ponders problems with its 787 Dreamliner and you decide whether to wait for the end of a boring video, your sunk cost should not affect your decision about continuing. Instead, compare future cost and benefit.

Sources and Resources: Thanks to James Surowieki for an excellent New Yorker column on sunk costs that took me to psychologist Hal Arkes’s study of sunk costs. More on athletes and sunk costs is here.

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