Opportunity-cost calculations require honesty about our motivations

FT columnist, Tim Harford, highlights an important, yet often misunderstood, aspect of consumer behaviour—the opportunity costs of our purchasing decisions.
Paul Lewis
Apr 09, 2018

The concept is relatively simple: every spending decision can be set against the alternatives that we forego. Yet how often do we consciously and rationally assess such a trade off? ‘We would make better decisions if we reminded ourselves about opportunity costs more often and more explicitly,’ writes Harford.

As behavioural scientists point out, ‘individuals neglect information that remains implicit.’ Our brains are far from trustworthy. ‘We think we can summon to mind a clear image of a tiger,’ says Harford, ‘but asked to draw a tiger we start to struggle. It’s the same with opportunity cost’ he notes. ‘We spend money simply out of habit or instinct.’

This is a significant point for L&D professionals, as well as executives especially in marketing. An essential problem of any opportunity cost equation— one that Harford does not address directly—is that it’s hard to calculate when we ignore the true value we ascribe to our purchases. This may be because we fail to identify it precisely enough or simply because we haven’t admitted to it. The reason why one might spend hundreds of dollars more on a stereo system (an example Harford uses) may not be because of its higher quality, but because the buyer hopes that it will impress friends. More honesty is needed.

Yet so much marketing is geared to reframing those motivations that lie behind purchasing choices. Advertisers often play on subconscious desires, as the FT’s Jo Ellison points out acidly about a certain soft drink. The murky reasoning underscoring our purchases makes it hard to assess the alternatives realistically.

One might pay vast sums for, say, a wristwatch. The choice may be justified by the time-piece’s aesthetics, technical complexity or superior timekeeping, as this FT letter-writer claims. Any opportunity cost calculation would therefore pit the alternatives against those stated benefits. But the true value of the watch might lie in an indefinable pleasure associated with a brand image or a sense of exclusivity that derives from the high price itself. In that case, the trade-offs are harder to calculate, and less likely to be made. It all lends support to Harford’s argument that thinking harder about opportunity costs would help us make better decisions. It might also reveal something new about ourselves.

Paul Lewis

Editorial Director at Headspring