Marginal Thinking and the Sunk Cost Fallacy
Course Outline
Marginal Thinking and the Sunk Cost Fallacy
Thinking on the margin is one of the most fundamental concepts in economics–and a valuable everyday tool for making optimal decisions.
For such an important idea, the meaning of marginal thinking is surprisingly simple: when faced with a decision, you should compare the marginal benefit of a possible action to its marginal cost. If the marginal benefit is greater than the marginal cost, do it!
Marginal thinking is best illustrated by some examples of everyday decisions. The volume you choose when you watch TV, the pricing strategy of a clothing shop, or even the decision to walk out of a boring film are all informed by marginal thinking.
The “Sunk Cost Fallacy” is a common failure to apply marginal thinking. Focusing on past decisions–the price we paid for an item, the time we’ve already invested in a relationship–can lead us astray. We can’t change the past, so only the potential marginal benefit and marginal cost of the next possible action are relevant to decision-making.
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