Paying the Price of Inaction

Harry Browne wrote the following in his book "How I Found Freedom in an Unfree World": Everything you want in life has a price connected to it. There's a price to pay if you want to make things better, a price to pay just...

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Harry Browne wrote the following in his book "How I Found Freedom in an Unfree World":

Everything you want in life has a price connected to it. There's a price to pay if you want to make things better, a price to pay just for leaving things as they are, . . .

This quote is laden with wisdom from an economic, risk, management, or personal perspective. This fundamental principle in decision-making is called the "action-inaction bias". This occurs in situations in which doing nothing is harmful, yet making a decision that could potentially be harmful is avoided on the chance that it could turn out to be equal or worse.

We see an example of the inaction bias in countries with poorly-run governments where the electorate keeps voting for the very people who brought about their misfortune on the sense that changing leaders would be bad.

Think about the concept of "Opportunity Cost" and "Sunk Cost", two ideas you might come across if you study economics. Opportunity cost is about the choices you make. For example, if you decide to start working right after finishing high school, you start earning money right away. But, you're giving up the chance to get a college education, which could have been another way to use your time and energy. On the flip side, if you choose to go to college, you're giving up the money you could have earned if you had started working instead.

"Sunk cost" is a bit different. It's about money you've already spent and can't get back. This can sometimes make people make strange decisions. For instance, imagine a government leader who keeps pouring money into a failing project just because they don't want to look foolish for spending so much on it in the first place. The smart thing to do would be to stop the project and move on. Or, think about a situation where you bought a non-refundable plane ticket for a vacation, but then you get sick. You might be tempted to go on the trip anyway because you don't want to "waste" the money you've already spent on the ticket. But that's a sunk cost. The money is gone whether you go on the vacation or not. The real decision you have to make is whether it's worth it to travel while you're sick. In this case, the cost of inaction (staying home) could be missing out on a potentially enjoyable vacation, while the cost of action (going on the trip) could be worsening your illness. This is a clear example of how the concept of sunk cost can influence our decision-making process, often to our detriment.

From a financial perspective, the price for action and inaction plays out in risk and time value. If we start from a risk management perspective, financial planners often try to mitigate risk in their actions. This is often done contractually, with auditing, and with insurance. Along those lines, making a decision will often have an immediate and apparent risk associate with it. What is often not considered is that the risk of inaction is often subtle and long-term. Take, for example, Kodak's failure to pivot from photographic film production to imaging solutions. They may have fumbled around for a few years trying to establish a new market for their imaging services. However, that would have been preferable to being made largely obsolete by digital photography.

Certainly all Finance students are familiar with the time value of money. The short version is that a dollar today is worth more than a dollar tomorrow. Similarly, the costs and benefits of taking or avoiding action change over time. What may seem like a large expense today could lead to an asymmetric gain tomorrow. Any crypto investor has this mindset these days. Yes, you may lose a few investments. But if you win, it's going to be big. Turning the situation around, saving a dollar today could cost you dearly in the future. There is risk in making a decision today. However, it is equally risky to not make a decision in terms of compounded costs over time.

On a personal level, we often avoid making a decision that could potentially benefit us based on a status quo bias and a desire to avoid regret. The status quo bias is a difficult tendency to overcome. Most people are resistant to change, which has not basis on economic or financial reasoning. If it ain't broke, don't fix it. This may partially be influenced by the fear of regretting their actions more than their inactions, despite the possibility that inaction could lead to greater pain. Sometimes decision-makers have to be forced into making a decision rather than being proactive about it.

In conclusion, the concept of paying the price, either for action or inaction, permeates every facet of our daily lives, from economics to personal decision-making. This is embodied in principles such as opportunity cost, sunk cost, risk management, and the time value of money. The inaction bias and status quo bias often lead us to avoid decision-making, to our detriment. It's important to recognize that inaction has its own costs, sometimes subtle and long-term, but absolutely real. Whether it's a government doubling down on a bad investment or an individual resisting change due to fear of regret, the price of leaving things as they are can be high. Therefore, informed, proactive decision-making, despite its associated risks, often proves to be the better course of action. Understanding and embracing this truth can lead to better outcomes in our personal lives, our careers, and our societies.