Quick Definition: The Sunk Cost Fallacy says that people are more likely to commit to an activity if they’ve made a significant financial or time investment.
Picture this: you're at a fancy Las Vegas buffet, enjoying a delicious meal. You get full, but then remember this buffet cost over $100. So we get up and force yourself to grab just one more snack or dessert, trying to eek out as much value as you can from your 100 bucks. At the end of the meal, you're stuffed and a little nauseous. But you feel like you "got my money's worth."
The question is, why do we do that to ourselves?
The answer lies with a cognitive bias called the Sunk Cost Fallacy.
What Is the Sunk Cost Fallacy?
The Sunk Cost Fallacy says that people are more likely to commit to an activity if they’ve made a significant financial or time investment. This can be summed up by the saying, “throwing good money after bad.”
Your investment might not be paying off, but when you have a sunk cost you start to mentally justify your continued involvement.
Sunk Cost is a form of Loss Aversion that leads to irrational decisions. Understanding the psychology of sunk costs can help us to identify problematic decision-making in our lives.
Let's dig into this psychological conundrum that influences decision-makers across the board.
Sunk cost fallacy is a form of cognitive bias. Like any cognitive bias, it begins to cloud our decision-making process.
It begins when we have a lot of invested time or invested money in something. This something can be a relationship, business, or even a hobby. Because we have so much invested time in this thing, we are averse to abandoning it.
The result is that we invest more money, effort, or time into this thing. Even if this thing is detrimental to us, we continue to invest in it even when there is no benefit.
In the intro example, we imagined a buffet restaurant. We got our money's worth by eating our fill. But since we paid a significant sum of money, this sunk cost drove us to get even more money's worth.
Eating more didn't do us any good, it made us bloated and sick. At the end of the day, we didn't gain anything useful by forcing ourselves to eat more. But we did so because we didn't want to "waste" our investment.
However, the sunk cost fallacy is not always a bad thing. It can lead to a rational decision to continue a good habit. If we spend time and money learning to play piano, then that sunk cost could drive us to keep working hard at it.
Real-World Examples of Sunk Cost at Work
Costco's Membership Fee:
When someone pays a membership fee to shop at Costco, they want to get their money’s worth. They’re likely to buy things they otherwise wouldn’t. Marketing professor Kusum Ailawadi illustrated Sunk Cost at work in customers’ minds this way:
“I’m going to make sure I get my money’s worth [from this membership fee] by shopping in the club store every chance I get.”
The Sunk Cost Fallacy helps drive Costco’s bottom line. A 2017 study found that people who shop at club stores, like Costco, end up visiting the store more frequently and spending more than they would if they weren’t a member.
Panera Bread's unlimited coffee subscription:
Panera, the U.S.-based bakery-café chain, has introduced an unlimited coffee subscription. Called Unlimited Sip Club (previously called MyPanera+Coffee), the program provides unlimited hot coffee, iced coffee, or hot tea at all Panera restaurants for an annual fee of $199 plus tax (or $8.99 a month).
The $8.99 that leaves customers’ bank accounts each month has a powerful effect on their behavior. When deciding where to go for their morning (or afternoon) coffee, people are more likely to choose Panera because they’re afraid to lose out on the benefits of money they’ve already spent.
The Concorde Fallacy
Concorde was a line of supersonic jets that boasted a luxury experience and ultra-short, supersonic travel times. However, the Concorde did not have the success it hoped for. Instead of cutting their losses, the British and French governments continued to fund the project, even after it was clear that it was not economically viable.
This example of the Sunk Cost Fallacy at work is so famous that it got it's very own name: "The Concorde Fallacy."
How To Avoid (or Use) the Sunk Cost Fallacy
Like many things in life, we can avoid sunk cost fallacy with some introspection. When making decisions, we need to take a step back and ask why. Are we making a rational decision, or are we scared of losing the time and money we've spent on it?
For example, maybe you decide to move to another country for a job. You cross the Atlantic with high hopes for the future and spend thousands of dollars acclimating to a new culture. But the company you've flown halfway across the world to join turns out to have a terrible culture and you soon find yourself being treated abusively by management.
You've taken such a big risk and spent so much time and money that you might consider sticking it out to make the move "worth it." But if you thought about your situation objectively, you might find more happiness and a better job if you cut your losses and flew back home.
We stick with this career because we're late in the game. If we think about it critically, we might find more happiness and economic opportunity if we quit.
But the Sunk Cost Fallacy can also work to our benefit (if we know how to trick ourselves a little bit).
For example, you buy an expensive Peloton bike to force yourself to work out more often. Or buy more expensive clothes for the office so you're forced to dress in a more considered way.
What matters most of all is that we recognize the Sunk Cost Fallacy when it rears it's head (for good or for bad).
