Depreciation and capital investment decisions: Experimental evidence in a governmental setting

Abstract

This study tested the premise that depreciation may serve as a cognitive reminder to decision-makers in governmental organizations of the need to replace long-lived assets as they physically deteriorate. This premise is grounded in recent work on melioration theory, which suggests that individuals tend to maximize current benefits at the cost of underweighting negetive long-run consequences of current decisions. In this framework, the present research addresses whether depreciation cues have a mitigating effect on melioration bias. Subjects ( n = 216) were randomly assigned to one of twelve cells in a computerized between-subjects laboratory experiment with monetary incentives. The experimental cells represent twelve possible combinations relating to two levels of depreciation, the presence or absence of historical data on past decisions, and three levels of initial expenditures. The task required subjects to allocate a governmental budget between current and capital expenditures over multiple periods. A governmental context was used because of its relevance to the current controversy over the role of depreciation in governments and other nonbusiness entities. The study found a significant interaction between depreciation and historical information, a relationship which is consistent with the contention that depreciation is a useful cognitive surrogate for explicit information on prior period capital expenditures.