Poor decision-making: have you fallen for the Sunk Cost Fallacy?

Are you familiar with the term “sunk cost”? Do you understand it’s meaning? If you do understand it’s meaning, have you ever thought of applying it to situations in your own life? Applying this concept and looking at where you may have fallen for the “sunk cost fallacy” may surprise you.

When I was at university studying business, we learned about the concept of a “sunk cost”. A sunk cost refers to money spent that cannot be recouped. For example, if you purchase fuel for a fleet of company cars, that money has been spent and cannot be recovered. In other words, the money has been “sunk”.

In business we were taught that once that investment is sunk, you mustn’t dwell on it: the idea is to accept that the investment is sunk, and you move on.

When making a business decision, sunk costs should not enter the discussion because the money has already been spent and has nothing to do with the future direction of the business. According to Dr Elizabeth Essex who has a PhD in Organisational Behaviour,

“It’s a common business tenet that sunk costs should never be considered a relevant factor in decision-making. Using sunk costs as a factor in a decision is simply trying to justify past choices.”*

So why then, do we tend to factor in sunk costs when making decisions in our lives?

I suppose it comes down to us humans being fairly irrational.** We tend to think that if we’ve invested time or emotions or money into something, if we later choose to walk away, we feel as though we’ve wasted that time, emotion or money. We tend to think that if we stick at it, the investments already made will somehow have been for something. However as Essex points out, in that situation we are simply trying to justify that past decision; that is, we are being driven by our ego rather than by logic.

Here’s an example that I’m sure we can all relate to. Your friend (or perhaps yourself) continues to date someone even though both parties are clearly not happy in the relationship. The tumultuous relationship continues on and on, and you stick at it because you feel as though walking away would have “wasted” all that time you had spent together.

Another example: you chose to study in a particular field. After years of study you then enter that field and after some time, you realise that you don’t really want to continue working in that field. Despite knowing that it isn’t quite “you”, you continue to work in that field because you feel that walking away would have “wasted” all those years of study.

Ironically though, in both of these examples whilst the person continues on with the consequences of that decision to continue despite not being happy, they are forgetting another important principle. Opportunity cost.

Again something I learned when studying business, opportunity cost is the cost of the lost alternative. That is, when you make a decision – whatever it may be – you are also making the decision to not take an alternative path. There is a cost in that lost opportunity.

Following on from the above examples: the tumultuous relationship may make both parties feel as though their decision is wise – that they haven’t walked away from years of investment in the relationship. But the reality is that they are also choosing to continue to be unhappy. They are also choosing to give up alternative possibilities (which could be many and numerous, e.g. finding another partner to have a happy and fulfilling relationship with). Likewise, in the example of continuing on with a career that doesn’t meet your needs you are also choosing to not explore alternative career prospects that may give you satisfaction and fulfilment.

Interestingly, when we learn to stop considering sunk costs in our decision-making, not only can we move on from an unhappy situation sooner and embrace new possible future paths (how good is that!?), but we grow from that experience. In whatever “bad” decisions we make, there is always opportunity for growth and learning which we take with us into the future.

So, have a think about it. Where in your life have you taken sunk costs into your decisions? Are those decisions costing you dearly in terms of lost opportunity? Be upfront about it, because the sooner you are, the sooner you can make new decisions and embrace new and exciting possibilities!

/ Daisy

*”Sunk Costs: Definition and Examples” from Study.com (Available: http://study.com/academy/lesson/sunk-costs-definition-examples.html). 

** If you still think we are rational beings, please please please read some of Professor Dan Ariely’s work on irrationality. It’s fascinating!

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