The sunk cost fallacy

You have bought a ticket for a theatrical performance, but it is boring. After half an hour you think that it’s better to go home again or to go to a friend who lives nearby. Nevertheless, you don’t. It would be a waste of money to leave the theatre, for you have paid for the performance. If you think so, you commit the sunk cost fallacy.
In order to explain this fallacy, let me first tell you what sunk cost means, since this term is confusing if you don’t know it. “Sunk cost” is an accounting term. It refers to expenses you have made that cannot be undone, anyhow. You have bought a theatre ticket and you cannot get your money back, when you don’t go. So you go, even when the roads are dangerous because of a heavy snowfall. Or, an economic example, a businessman has invested much money in a new project, but soon it becomes clear that it is very unlikely that the project will be a success. It would be better to stop with it and to invest the rest of the money reserved for the project in something else. However, the businessman decides to go on with the project only because he has invested already so much in it. Then this person commits the sunk cost fallacy. Since he cannot get his invested money back, anyhow, not the past investment should count, if he were rational, but only the variable costs of the project, its expected success and possible alternatives. But the person who commits the sunk cost fallacy does do so, because he feels bound to what he did in the past instead of rationally evaluating what it is better to do in the future.
Not only individuals commit this fallacy, also companies, institutions and governments do. The fiasco of the Concorde project is that famous that the sunk cost fallacy is also called the Concorde fallacy. In 1956 French and British engine manufacturers and their governments decided to develop a supersonic aeroplane, the Concorde. Much money was invested in the project, but soon it became clear that it would never be successful and that the costs would surpass the gains. Although the Concorde operated yet for 30 years or so, finally it was stopped, because it was a failure. Millions of dollars and much time had been wasted.
Why do people so often fall into the sunk cost fallacy trap? Above, I have given already a hint why this happens: What is rationally necessary is often not what is psychologically seen as desirable. Here are some reasons for this fallacy:
- A feeling of commitment: You don’t want to be the kind of person who easily gives up what you have started. Moreover, you feel a responsibility to bring to an end what you have begun, if others have supported you financially or otherwise.
- Loss aversion: The feeling that a loss feels worse than a possible gain.
- The framing effect: People tend to give positive and negative connotations to what they do. Continuing what you have started is seen as positive; ending unfinished what you have started is seen as negative. This framing effect also happens when stopping is the rational choice. Moreover, stopping a project is risky (so negative) if the future of what to do instead is open, even if it is the better choice.
- Overoptimism: The idea that later things will come right.
- The wish not to be wasteful. The sunk cost is seen as wasted once you stop a project without bringing it to an end.
Stopping activities and projects that you have begun but that you cannot successfully finish is important, not only because not doing so is irrational, but also because it leads to continuing (financial, psychological, etc.) investments in a loss-making business. The sooner you stop then, the better. So, when you are doing something, be it an activity in daily life, like going to a play, be it a financial investment, or whatever it is, and things don’t go as they should be (the play is boring; you’ll never recoup your investment; etc.), then ask yourself whether it is rational to go on. Distance yourself from your feelings and do what is objectively the best. Take the standpoint of a third person and think what she would do. Think of the points just mentioned and ask yourself whether they hinder you to do what you reasonably should do. Ask whether the alternatives are not much better, like going to a friend or invest the rest of your money in another project.

Postscript
I got the idea for this blog when reading an article about ending wars, in which the sunk cost fallacy was mentioned. Because the Ukrainian-Russian War has become a war of attrition (see my blog last week), continuing the war will bring high costs for both parties. However, if Ukraine would stop fighting now, it would not gain much, although many lives would be saved. How much it will be supported by the western countries, it would stay in the grip of Russia for a long time, with all its negative aspects, if it would stop. On the other hand, Russia would only gain by stopping now. Check the points above, and you’ll see that it will commit the sunk cost fallacy, if it will continue the war. By stopping the war, Russia can regain its lost prestige and it can build up again positive relations with the rest of the world; the whole world, not only a part of it. It would not only be profitable for Russia but for every country on this earth.

Click here and here and here for the sources.