Bygones principle
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The Bygones Principle is an economic theory used in business.
Economists stress the "extra" or "marginal" costs and benefits of every decision. The idea is to not look backwards when making decisions and stresses the importance of ignoring past costs in future decision-making. The bygones principle states that when making a decision, one should make a hard-headed calculation of the extra costs one will incur and weigh these against its extra advantages. It emphasises the importance of only taking into account the future costs and benefits when making decisions.
This disregarding of bygones is extremely important. Most successful decision makers practice it intuitively, even if they have not had a formal course in economics.
[edit] Example
An important example of this is related to nuclear power. In the late 1980s, about two dozen partially complete nuclear power plants dotted the landscape. Some had already absorbed billion of dollars of investment but were not yet ready to operate.
One particularly difficult case was the Shoreham plant on Long Island Sound, New York. By 1987 the owner had spent $5.5 billion on bricks, mortar, fuel rods, and interest but the operating licence had not been granted. From an economic point of view, the $5.5 billion of past investments should not be weighed in decision making processes.
The bygones principle would state that the $5.5 billion of past cost is irrelevant. From an economic point of view, the only relevant issue concerns future costs and benefits. That is, the economic benefits of the electricity that Shoreham would produce.
The key to observe in making this calculation is that the sunk cost of $5.5 billion is irrelevant to future costs and benefits. Studies indicated that, if the $5.5 billion were ignored, the future costs of the nuclear power plant would be slightly less than the next-best alternative, even though the total cost was far higher than the alternative. A pure economic analysis (ignoring safety issues) would conclude that the most efficient outcome would be to open the Shoreham nuclear power plant.
[edit] Further Reading
- Bade, Robin; and Michael Parkin. Foundations of Microeconomics. Addison Wesley Paperback 1st Edition: 2001.
- Sameulson, Paul; and Nordhaus, William. Economics. McGraw-Hill International Editions: 1989.
