Short-termism Redux:
Sunk Costs, Escalation Bias and Satisficing Markets

It has become more clear to me since the market crash in October that those in Washington who are making decisions on our behalf are suffering from chronic escalation bias; the premise that once aid has been distributed to an ailing financial institution and the proverbial "intervention" line has been crossed, the government (read: treasury) must see their investment through to the end or risk its collective reputation. This logic flies in the face of what every business student in America - and throughout the world- is taught in corporate finance 101: sunk costs should play no role in future decision-making. I can even vaguely recall a picture in my corporate finance books illustrating a sunk cost: I think it was a crudely drawn diagram of a truck leaving a gas station. Sounds pretty basic.

Alas, the human mind likes to play tricks on even the "brightest" minds of our time. And so we see billions of dollars being sprayed around sporadically every couple of weeks (days?)aimed at flare-ups while a forest fire rages in the background. Analogies aside, i'm obviously making reference to a few of the "chosen" banks that the government has decided to save (and save again). And yet, how did it get to this point? How did this hodge-podge of bailouts, guarantees, and emergency loans come about? Did the Government really think that "one more bailout" would finally stem the tide of asset erosion-- the self-reinforcing downward spiral of deleveraging? We don't know the thought process of those in charge - everything that they say in public is propaganda, and for their sake it has to be. Heaven forbid Bernanke say the d-word at a fund-raising dinner, only to have the Nikkei drop 10% before he can finish his sentence.

It was a perfect storm of satisficing decision-making coupled with the desire to preserve one's own reputation amid a relentless media. The result: our regulators, elected-officials and their ilk can no longer make rational, prudent, pragmatic decisions in the best interests of their constituents: American citizens. It's time for new leadership.

Tuesday at noon we will welcome a new President. It's the first step to curing the psychological "hangover" (hat tip: dubya) that has been plaguing our decision-makers for the better part of two years. Our new leaders- and by extension, we -must be vigilant however; consensus will be easily found, but it should not be sought. There are some hard decisions that will need to be made and some people will get hurt. But for now let's bask in the promise of a renewed hope for our country. Congratulations America, now let's get to work.

references:
http://www.informationarbitrage.com/2008/11/the-plague-of-short-termism.html
http://en.wikipedia.org/wiki/Sunk_cost