Two Wrongs Make a Right?! Is the Sunk-Cost-Effect a Commitment Device Against Present Bias?
58 Pages Posted: 30 Aug 2017
Date Written: August 21, 2017
We propose that the sunk cost effect is not actually a fallacy, but a beneficial adaption that helps present-biased investors to overcome temptation and stay with worthwhile investments. Although the effect can sometimes overcompensate so that bad investments are held onto, it yields a net benefit in expectations. We find that sophisticated individuals who anticipate their future preferences are more likely to hold onto investments, yet do strictly worse in expectation than naive individuals. Finally, we propose that present bias may also be the key to understanding the overconfidence bias.
Keywords: Cognitive Biases, Hyperbolic Discounting, Inter-temporal Decision-Making, Overconfidence, Present Bias, Sunk Costs, Sunk Cost Fallacy
JEL Classification: D9, D91
Suggested Citation: Suggested Citation