A play is put on that Mr. Baker wants to see. Tickets cost $10. Consider two situations:
- Baker buys a ticket but loses it on the way into the theater.
- Baker arrives at the ticket window and realizes that he’s lost $10 from his wallet.
What’s the likelihood in each case that Baker will buy a ticket to see the show?
People tend to say that Mr. Baker won’t buy a ticket in Case 1 but will in Case 2, because they see the loss of the money and the purchase of the ticket as unrelated. But in both cases the net outcome is the same: Baker has lost $10 and still has to spend another $10.
This example was made famous by cognitive psychologist Amos Tversky, who exploded many presumptions about how people make decisions about risks, benefits, and probabilities. “The difference between the two cases is due to a psychological bias, which is known as ‘mental budget allocation,'” explains Massimo Piattelli-Palmarini in Inevitable Illusions (1994). “As cognitive scientists and economists who study the psychological foundations of negotiation well know — as does (at least implicitly) anyone used to making deals — all of us have a resistance to ‘overspend’ a certain particular budget. In this case, the ticket budget would be overspent by Baker in the first scenario, but not in the second.” It’s a bias, but it seems so natural that many of us tend to overlook it.