IDEAS home Printed from https://ideas.repec.org/a/aea/aejmic/v3y2011i4p35-67.html
   My bibliography  Save this article

Mnemonomics: The Sunk Cost Fallacy as a Memory Kludge

Author

Listed:
  • Sandeep Baliga
  • Jeffrey C. Ely

Abstract

We offer a theory of the sunk cost fallacy as an optimal response to limited memory. As new information arrives, a decision-maker may not remember all the reasons he began a project. The sunk cost gives additional information about future profits and informs subsequent decisions. The Concorde effect makes the investor more eager to complete projects when sunk costs are high and the pro-rata effect makes the investor less eager. In a controlled experiment we had subjects play a simple version of the model. In a baseline treatment subjects exhibit the pro-rata bias. When we induce memory constraints the effect reverses and the subjects exhibit the Concorde bias. (JEL D24, D83, G31)

Suggested Citation

  • Sandeep Baliga & Jeffrey C. Ely, 2011. "Mnemonomics: The Sunk Cost Fallacy as a Memory Kludge," American Economic Journal: Microeconomics, American Economic Association, vol. 3(4), pages 35-67, November.
  • Handle: RePEc:aea:aejmic:v:3:y:2011:i:4:p:35-67 Note: DOI: 10.1257/mic.3.4.35
    as

    Download full text from publisher

    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/mic.3.4.35
    Download Restriction: no

    File URL: http://www.aeaweb.org/aej/mic/data/2010-0090_data.zip
    Download Restriction: Access to full text is restricted to AEA members and institutional subscribers.

    References listed on IDEAS

    as
    1. Claude Crampes & Carole Haritchabalet & Bruno Jullien, 2009. "ADVERTISING, COMPETITION AND ENTRY IN MEDIA INDUSTRIES -super-," Journal of Industrial Economics, Wiley Blackwell, vol. 57(1), pages 7-31, March.
    2. Tåg, Joacim, 2009. "Paying to remove advertisements," Information Economics and Policy, Elsevier, pages 245-252.
    3. Simon P. Anderson & Stephen Coate, 2003. "Market Provision of Broadcasting: A Welfare Analysis," Virginia Economics Online Papers 358, University of Virginia, Department of Economics.
    4. Mark Armstrong, 2006. "Competition in two‐sided markets," RAND Journal of Economics, RAND Corporation, vol. 37(3), pages 668-691, September.
    5. Peitz, Martin & Valletti, Tommaso M., 2008. "Content and advertising in the media: Pay-tv versus free-to-air," International Journal of Industrial Organization, Elsevier, vol. 26(4), pages 949-965, July.
    6. Jean‐Charles Rochet & Jean Tirole, 2006. "Two‐sided markets: a progress report," RAND Journal of Economics, RAND Corporation, pages 645-667.
    7. Victor Ginsburgh & David Throsby, 2006. "Handbook of the Eonomics of Art and Culture," ULB Institutional Repository 2013/152412, ULB -- Universite Libre de Bruxelles.
    8. Simon P. Anderson & Stephen Coate, 2005. "Market Provision of Broadcasting: A Welfare Analysis," Review of Economic Studies, Oxford University Press, vol. 72(4), pages 947-972.
    9. Jean J. Gabszewicz & Didier Laussel & Nathalie Sonnac, 2004. "Programming and Advertising Competition in the Broadcasting Industry," Journal of Economics & Management Strategy, Wiley Blackwell, pages 657-669.
    10. White, Alexander, 2013. "Search engines: Left side quality versus right side profits," International Journal of Industrial Organization, Elsevier, vol. 31(6), pages 690-701.
    11. Justin P. Johnson & David P. Myatt, 2006. "On the Simple Economics of Advertising, Marketing, and Product Design," American Economic Review, American Economic Association, pages 756-784.
    12. repec:rje:randje:v:37:y:2006:3:p:645-667 is not listed on IDEAS
    13. repec:rje:randje:v:37:y:2006:3:p:668-691 is not listed on IDEAS
    14. Mark Armstrong, 2005. "Public service broadcasting," Fiscal Studies, Institute for Fiscal Studies, pages 281-299.
    15. Mark Armstrong & Helen Weeds, 2005. "Public Service Broadcasting in the Digital World," Industrial Organization 0507010, EconWPA.
    16. Yongmin Chen & Michael H. Riordan, 2008. "Price-increasing competition," RAND Journal of Economics, RAND Corporation, vol. 39(4), pages 1042-1058.
    17. Grabowski, Henry G & Vernon, John M, 1992. "Brand Loyalty, Entry, and Price Competition in Pharmaceuticals after the 1984 Drug Act," Journal of Law and Economics, University of Chicago Press, vol. 35(2), pages 331-350, October.
    18. Jack H. Beebe, 1977. "Institutional Structure and Program Choices in Television Markets," The Quarterly Journal of Economics, Oxford University Press, vol. 91(1), pages 15-37.
    19. Jerome Adda & Valérie Lechene, 2004. "On the identification of the effect of smoking on mortality," CeMMAP working papers CWP13/04, Centre for Microdata Methods and Practice, Institute for Fiscal Studies.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Jakub Steiner & Colin Stewart & Filip Matějka, 2017. "Rational Inattention Dynamics: Inertia and Delay in Decision‐Making," Econometrica, Econometric Society, vol. 85, pages 521-553, March.
    2. Mukesh Eswaran & Hugh M. Neary, 2016. "The Evolutionary Logic Of Honoring Sunk Costs," Economic Inquiry, Western Economic Association International, vol. 54(2), pages 835-846, April.
    3. Fuhai HONG & Xiaojian ZHAO, 2014. "Sunk Cost as a Self-Disciplining Device," Economic Growth Centre Working Paper Series 1503, Nanyang Technological University, School of Social Sciences, Economic Growth Centre.
    4. Michael Seiler & Eric Walden, 2015. "A Neurological Explanation of Strategic Mortgage Default," The Journal of Real Estate Finance and Economics, Springer, vol. 51(2), pages 215-230, August.
    5. Calzolari, Giacomo & Nardotto, Mattia, 2011. "Nudging with information: a randomized field experiment on reminders and feedback," CEPR Discussion Papers 8571, C.E.P.R. Discussion Papers.
    6. Anouar El Haji & Sander Onderstal, 2015. "Trading Places: An Experimental Comparison of Reallocation Mechanisms for Priority Queuing," Tinbergen Institute Discussion Papers 15-063/VII, Tinbergen Institute.
    7. Cunningham, Thomas, 2013. "Biases and Implicit Knowledge," MPRA Paper 50292, University Library of Munich, Germany.
    8. Ho, Teck Hua & Png, Ivan P. L. & Reza, Sadat, 2017. "Sunk Cost Fallacy in Driving the World's Costliest Cars," MPRA Paper 82139, University Library of Munich, Germany.
    9. Spiegler, Ran, 2011. "‘But Can'T We Get The Same Thing With A Standard Model?’ Rationalizing Bounded-Rationality Models," Economics and Philosophy, Cambridge University Press, vol. 27(01), pages 23-43, March.

    More about this item

    JEL classification:

    • D24 - Microeconomics - - Production and Organizations - - - Production; Cost; Capital; Capital, Total Factor, and Multifactor Productivity; Capacity
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:aea:aejmic:v:3:y:2011:i:4:p:35-67. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Jane Voros) or (Michael P. Albert). General contact details of provider: http://edirc.repec.org/data/aeaaaea.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.