Mental Depreciation and Marginal Decision Making

Abstract

We propose that individuals practice “mental depreciation,” that is, they implicitly spread the fixed costs of their expenses over time or use. Two studies explore how people spread fixed costs on durable goods. A third study shows that depreciation can lead to two distinct errors in marginal decisions: First, people sometimes invest too much effort to get their money's worth from an expense (e.g., they may use a product a lot to spread the fixed expense across more uses). Second, people sometimes invest too little effort to get their money's worth: When people add a portion of the fixed cost to the current costs, their perceived marginal (i.e., incremental) costs exceed their true marginal costs. In response, they may stop investing because their perceived costs surpass the marginal benefits they are receiving. The latter effect is supported by two field studies that explore real board plan decisions by university students.