Throwing good money after bad?: Nuclear power plant investment decisions and the relevance of sunk costs

Abstract

Experimental psychologists and decision theorists suggest that managers are overly reluctant to terminate economically unviable projects and that they fail to ignore sunk costs. This study serves two purposes. First, it shows that the framework of prospect theory allows us to reconcile the sunk cost effect with some older, well-established ideas in investment decision-making. Secondly, the study investigates the external validity of the sunk cost research in the context of the U.S. nuclear power program. The empirical analysis is based on share price movements in reaction to, among other events, all plant completions and cancellations (over $50 million) prior to March 1984. The results are mixed. However, prudency reviews ordered by Public Service Commissions around the nation point to evidence consistent with the sunk cost fallacy.