Costly Decisions

When I graduated from university, my work colleagues at the think tank treated me to a nice evening out. Altogether lustrous it was, but dimmed (OK, only very slightly) because I could not for the life of me convince someone of the logic of opportunity cost. He was a smart, successful, middle-aged guy, but the implications of it struck him as counter-intuitive at best and nonsensical at worse. The concept is easy to define and explain, but hard to take seriously. A Kindle is too expensive for me, but if someone gave it to me, I'd probably keep it, thereby paying the price for which I could have sold it. Some of this can be charitably excused by the endowment effect, or the idea we value things more once we possess them, but too much of it is just ignoring unseen costs.

But a hope again rises, for even if I don't myself always follow the illuminated path, there's a new and better way to shine a lamp unto the feet of others. Here's a description of new economics research:

The economists worked with the managers of a Chinese electronics factory, who were interested in exploring ways to make their employee-bonus scheme more effective. Most might have recommended changes to the amounts of money on offer. But Mr Hossain and Mr List chose instead to concentrate on the wording of the letter informing workers of the details of the bonus scheme.

At the beginning of the week, some groups of workers were told that they would receive a bonus of 80 yuan ($12) at the end of the week if they met a given production target. Other groups were told that they had “provisionally” been awarded the same bonus, also due at the end of the week, but that they would “lose” it if their productivity fell short of the same threshold.

Objectively these are two ways of describing the same scheme. But under a theory of loss aversion, the second way of presenting the bonus should work better. Workers would think of the provisional bonus as theirs, and work harder to prevent it from being taken away.

This is just what the economists found.

The article is about endowment and framing effects and not explicitly about opportunity cost, but what a great way to make the idea clearer. If we think of having something and provisionally losing it, suddenly the cost becomes far more salient than if we think of not having something and provisionally gaining it.

Better to have loved and lost, than never to have loved at all?