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The Secret of Sunk Costs: Why Do We Always Remember Past Investments?
In economics and business decision making, a sunk cost (also called a retroactive cost) is a cost that has already been incurred and cannot be recovered. Sunk costs are in contrast to future costs, which are future costs that can be avoided if an action is taken. In the process of choosing the future, sunk costs often become a factor that people cannot ignore, affecting rational decision-making. Although economists emphasize that sunk costs are irrelevant for rational future decisions, in everyday life people are often influenced by past expenses. For example, in the case of car repairs or home maintenance, prior investments often make it difficult to make more rational choices.
"People often continue to invest without hesitation because of their past efforts, and even suffer greater losses."
The past principle and the marginal principle
According to traditional economics, only future costs are relevant to decision-making, and past mistakes should be viewed as "past water." That is why, when a new plant is estimated to cost $100 million and then the net worth forecast is reduced to $65 million, the company should abandon the project rather than spend another $70 million to complete it. On the other hand, if the forecast drops to 75 million, the rational decision would be to continue with the project. This principle is called the "past principle" or "marginal principle" and can be considered part of economic theory.
"Past obsessions often prevent people from making more rational choices."
The Sunk Cost Fallacy
Although the principles of the past existed in theory, the actual situation was quite different. The sunk cost fallacy causes people to continue investing with an unwillingness to give up when faced with a failed investment. This behavior is described as "throwing better money into a bad business" and refusing to face "stop losses." For example, many people choose to remain in an unhealthy relationship because they believe they have invested too much time and money. This is not limited to personal emotions, but also includes conflicts between countries. Many people believed that the war had to be completed or the lives lost in the past would have been in vain.
"The sunk cost fallacy is rooted in the depths of human emotion and is not easily overcome."
Psychological factors affecting sunk costs
Studies have shown that the sunk cost effect is related to several psychological factors: framing effect, overoptimism bias, personal responsibility and unwillingness to let others see the waste. Each of these factors can significantly influence a person's decision making. For example, when a choice is presented as a loss, individuals appear to be more cautious in their response, and this is particularly evident when the cost is large.
“People are naturally influenced by emotions when making choices, which makes sunk cost decisions more challenging.”
Planning continues to deviate
Another phenomenon related to sunk costs is the plan continuation bias, which expresses that when people face a changing situation, they still stick to their plans and are unwilling to revise them. This is particularly common in the fields of aviation and navigation, where many accidents occur largely because of the pilots' or captains' stubbornness, which ultimately leads to tragedy.
Conclusion
In economics and personal life, sunk costs often swing between rationality and sensibility. When decision makers consider future directions, whether they can look at past investments rationally is always a difficult question worth pondering.
