When we put time and effort into something, we’re motivated to make it work. We therefore often continue to invest into it even if it brings us losses. Examples include continuing to pump money into a failed business idea, or attending a play when sick only because the tickets were pre-purchased.
The Sunk Cost effect is a great example of our past efforts influencing our current decisions. It’s been demonstrated in a number of classic behavioural economics experiments over the years.
In one of these, conducted by Arkes and Blumer back in 1985, participants were offered various types of tickets to the local theatre. Some were offered the ticket at full price ($15), some were offered the ticket with a $2 discount and others were offered the ticket with a $7 discount. They found that those who paid full price used more tickets (i.e. attended more plays), over those who bought them at either of the two discount prices. Interesting, if a little crazy!
Even more crazy was another study in the same series, where it was found that people were willing to give up an opportunity that would be more enjoyable, as a result of the sunk cost effect. Basically, when asked to imagine themselves in a situation where they made a mistake and accidentally booked two ski tickets on the same date, most chose to give up the more pleasurable, yet less expensive ticket in favour of the less pleasurable, yet more expensive ticket. What this shows is that we’re more willing to give up a more positive experience to account for a larger cost that we’ve incurred. Alas, this raw number-crunching clearly overpowers our rational pursuit for a fulfilling life. I gently weep for humanity, I really do…
But it’s not all bad, however. In an recent study in Singapore on the effect of the sunk cost effect on car purchases (Ho, Png & Reza, 2014), researchers found that the larger the sunk cost in buying a car, the more the owner actually drove that car. Ha! This study therefore has strong implications for the pricing strategy of all durable goods.
Sunk Cost Fallacy in Driving the World’s Costliest Cars Article (Ho, Png & Reza, 2014)