I always made the assumption that in some way we as humans take rational decisions in a business context. Maybe we do something foolish at home, but at work we weigh options, calculate outcomes, and make logical decisions based on available information. Yes, right?
Then I encountered Daniel Kahneman's Thinking, Fast and Slow, and this comfortable assumption crumbled.
The book reveals a uncomfortable truth: we're far less rational than we'd like to believe. One of the most pervasive examples of our flawed reasoning is the sunk cost fallacy – our tendency to continue investing in failing ventures simply because we've already invested so much.
The blizzard we drive into
Kahneman paints a vivid picture: you've bought expensive concert tickets, but a dangerous blizzard hits on the night of the show. The rational choice is clear – stay home and stay safe. The money is already spent; driving into dangerous conditions won't bring it back. Yet many of us would venture out anyway, unwilling to "waste" the investment.
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This same flawed logic plays out at much larger scales. Consider this scenario from the book:
A company has spent $50 million on a struggling project. It's behind schedule, and forecasts look grim. The company can either invest another $60 million to salvage it, or put that money into a promising new project with better returns. What do they choose?
Too often, they choose to "drive into the blizzard" – throwing good money after bad rather than accepting the loss and moving forward strategically.
Why smart people make mistakes
The sunk cost fallacy isn't just about money – it's about psychology. As Kahneman explains, "a rational decision maker is interested only in the future consequences of current investments." But we're not purely rational. We're human.
Several psychological forces conspire against us:
- Loss aversion: We hate admitting we've made a mistake or wasted resources. The pain of acknowledging a loss often outweighs the logic of cutting our losses.
- Mental accounting: We create separate mental "accounts" for different investments. Once we've opened an account (bought tickets, started a project, entered a relationship), we feel compelled to see it through.
- Personal investment: The more we've invested – whether time, money, or reputation – the harder it becomes to walk away. This is especially true when our identity becomes tied to the decision.
The corporate boardroom knows better
Here's a fascinating insight from Kahneman: corporate boards often replace CEOs not because the new CEO is more competent, but because they don't carry the "mental accounts" of past decisions. The outgoing CEO, having championed the failing project, finds it nearly impossible to objectively evaluate whether to continue. The new CEO, unburdened by this history, can make the rational choice to cut losses.
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This reveals an important truth: the sunk cost fallacy isn't just a personal failing – it's a systematic bias that affects organizations and institutions.
How sunk costs can trap us
The sunk cost fallacy extends far beyond business decisions. Kahneman notes it "keeps people for too long in poor jobs, unhappy marriages, and unpromising research projects."
Think about your own life:
- That job no longer interests you, but you're "too far along" to quit
- The relationship that stopped working years ago, but you've "invested too much" to leave
- The business venture draining your savings, but you "can't quit now"
- The hobby or skill you're forcing yourself to continue because of the time already spent
In each case, we're letting past investments dictate future decisions, rather than honestly evaluating our current options.
Breaking free: The antidote to sunk costs
The good news? Research suggests we can overcome this bias, at least partially. Graduate students in economics and business – who explicitly learn about the sunk cost fallacy – are more willing to abandon failing projects than students in other fields.
Here are practical strategies to help you think more clearly:
- Ask the right question: Instead of "How much have I already invested?" ask "If I were starting fresh today, would I choose this path?"
- Seek outside perspectives: Find advisors who aren't emotionally invested in your past decisions. They can often see clearly what you cannot.
- Set decision points: Before starting any significant investment, establish clear criteria for when you'll reevaluate or potentially exit.
- Reframe "waste": The money, time, or effort you've already spent isn't wasted if you learn from it and make better future decisions.
- Practice small: Start recognizing sunk cost thinking in low-stakes situations – leaving a boring movie you paid for, abandoning a recipe that's going wrong, or changing plans when the original ones aren't working.
The freedom of walking away
Perhaps the most liberating insight from Kahneman's work is this: you are not obligated to continue something simply because you started it. Your past investments – whether financial, emotional, or temporal – should inform but not imprison your future choices.
The next time you find yourself driving into a blizzard, ask yourself: "Am I making this choice because it's the best path forward, or simply because I can't bear to admit the path I've chosen isn't working?"
Sometimes the most rational decision is to turn around, despite how far you've already traveled. Your future self will thank you for the courage to change course.