Written for and first published in the Financial Times on 6 April 2018.
I’m not one to collect inspirational slogans, but here’s one I like: “Judge the value of what you have by what you had to give up to get it.” Perhaps I took it more seriously because it was pinned to the corkboard of an inspirational friend; she always seemed to be off for another expedition to Mongolia or Patagonia.
But my fondness for the motto may reflect that it describes an under-appreciated idea in economics: that of opportunity cost. And I’ve come to realise that our collective failure to think rationally about opportunity costs can be used as a weapon against us.
The principle of an opportunity cost does not at first glance seem hard to understand. If you spend half an hour noodling around on Twitter, when you would otherwise have been reading a book, the lost book-reading time is the opportunity cost of the tweeting. If you decide to buy a fancy belt for £100 instead of a cheaper one for £20, the opportunity cost is the £80 shirt you could otherwise have bought. Everything has a cost: whatever you were going to do instead, but couldn’t.
We should weigh opportunity costs with some care, mentally balancing any expenditure of time or money against what we might do or buy instead. However, observation suggests that this is not how we really behave. Ponder the agonised indecision of a customer in a stereo shop, unable to decide between a $1,000 Pioneer and a $700 Sony. The salesman asks, “Would you rather have the Pioneer, or the Sony and $300 worth of CDs?”, and the indecision evaporates. The Sony it is.
This vignette was sketched in a research paper entitled “Opportunity Cost Neglect”, published by five behavioural scientists (in 2009, hence the mention of CDs). What makes the anecdote curious is that it is hardly an act of genius to figure out that buying the $700 Sony stereo would save $300, nor that $300 will buy $300 worth of CDs. It is not that the indecisive shopper couldn’t work this out, but that the explicit trade-off never crossed his or her mind.
Various experiments in the research paper supplement the anecdote with some data. And other research in psychology suggests that our attention is far narrower and more fleeting than it seems. As psychologist Nick Chater explains in a remarkable new book, The Mind is Flat (UK) (US), the brain generates powerful illusions of continuity. It stitches together what is actually a patchwork of fleeting impulses and perceptions.
We feel intuitively that we are able to check our phones while simultaneously keeping an eye on the road ahead, but we can’t. We think we can summon to mind a clear image of a tiger, whiskers twitching, fur shining, licking its lips. But asked to draw a tiger we start to struggle. Do the stripes on its legs loop laterally around, or run vertically?
It is the same with opportunity cost. We tend to feel that our choices reflect the whole picture: as crisp and vivid as the tiger, a balanced consideration of all the alternatives. But often we spend money simply out of habit or instinct.
Drawing our attention to opportunity costs, no matter how obvious, may change our decisions. The notorious falsehood on the campaign bus used by Vote Leave during the 2016 referendum campaign was well-crafted in this respect: not only could the UK save money by leaving the EU, we were told, but that money could then be spent on the National Health Service.
One could certainly debate the premise — indeed, the referendum campaign sometimes seemed to debate little else — but the conclusion was rock solid: if you have more money to spend, you can indeed spend more money on the NHS. (Just another way in which that bus was a display of marketing genius.)
We would make better decisions if we reminded ourselves about opportunity costs more often and more explicitly. Nowhere is this more true than in the case of time. Many of us have to deal with frequent claims on our time — “Can we meet for coffee so that I can pick your brains?” — and find it hard to say no. Explicitly considering the opportunity cost can help: if I meet for coffee I’ll have to work an hour later, and that means I won’t be able to read my son a story before bedtime.
There may also be situations where we make the opposite mistake. If you save £100 in some act of thriftiness, that is £100 you can spend on a case of wine, or a good shirt, or dinner for two. But you cannot spend the same £100 on all three. While we would be wise to explicitly consider what else we might do with our money, we should be careful not to spend it over and over again — something political manifestos have a tendency to do.
So, the inspirational motto is right. We should judge the value of anything by what we had to give up to get it. And we should get in the habit of doing this deliberately. If it was an automatic process, we would need no inspirational motto to remind us.