Who throws good money after bad?

Abstract (via SJDM)

The sunk cost fallacy is the tendency to continue an endeavour once an investment in money, effort, or time has been made. We studied how people’s chronic orientation to cope with failing projects (i.e., action vs. state orientation) influences the occurrence of this sunk cost effect. We found that people with a state orientation, who have a tendency to ruminate about past events and have a hard time to let go of them, were especially prone to fall in the sunk cost trap. People with an action orientation, who more easily let go of past events, were not susceptible to the sunk cost effect. We discuss the implications of these results for the sunk cost fallacy literature.

Introduction (via SJDM)

It makes no sense to eat a dessert that you dislike, or pay a stock broker knowing that the money will be lost, right? Yet, many people do exactly this; they make investments that will be in vain to prevent wasting earlier investments. Having paid for a dessert, people thus feel they should finish it, even though the dessert is not to their liking; it would be a waste to “pay and not eat”. In a similar vein, people may be reluctant to sell their losing stocks, because by selling they would have to acknowledge that their prior investments were wasted.
This tendency to honor prior costs by holding on to failing projects is called the sunk cost fallacy (Arkes & Blumer, 1985; Staw, 1976). In more general terms, the sunk cost fallacy describes the tendency “to continue an endeavour once an investment in money, effort, or time has been made” (Arkes & Blumer, 1985, p. 124). People regularly use sunk costs to justify further investments in many decisions, ranging from the decision to eat a dessert one has already paid for (Thaler, 1985) to the decision to continue research and development of already outperformed products (Arkes & Blumer, 1985). This effect is not restricted to consumer behavior or economic decision making, but extends to many other decisions, including policy making. For instance, one of the important reasons to continue the war in Iraq was to prevent acknowledging that soldiers who fell in battle died in vain. The sunk cost fallacy thus influences many decisions, from very mundane to highly exceptional, and affects all sorts of people ranging from customers in restaurants to the most important and influential leaders.

Click Here To Read: Who throws good money after bad? Action vs. state orientation moderates the sunk cost fallacy

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26. March 2010 by Miguel Barbosa
Categories: Behavioral Economics, Curated Readings | Leave a comment

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