The Problem of Economising and Sunk Costs

Today's post may seem a bit technical, but it has everything to do with day-to-day decisions for ordinary people.

This subject came up for us when we were trying to think about ways to save on our phone bill. We pay a fixed charge for our phone service. It is the cheapest plan we can get. We never use all the minutes we are allotted, and if we talk evenings and weekends we can jabber on endlessly if we choose to.

Why is the economic system set up to provide an incentive to consume as much as possible? It is because the cost of much of what we consume is largely in the physical plant and not in the material processed or delivered. For telephone, most of the cost is in sending up all those satellites,laying all that cable, setting up the switching networks, and building those towers. Once the infrastructure is built, servicing and maintaining it all is not as costly. Utility companies recover their fixed, or sunk costs by charging customer fees to be hooked into the network, not so much for their usage of photons, water molecules or whatever. Another way this plays out is in property taxes for municipal services. People do not pay for fire, police, or streets on a per use basis.

A problem arises when one is trying to economise, and one hits the floor cost of a service. With telephone service, we can go to a pay-per-call plan. That option is not available for water, electricity, natural gas. If all you want is a little bit of light or heat, it may well be cheaper to burn kerosene for light and for heat, because it does not require an expensive, special distribution pipeline right to your door. What happens if a lot of people, on account of poverty, drop out of the utility system? That forces up the the connection fees to the remaining users and prompts more drop outs. An adverse positive feedback loop (vicious cycle) is engendered, threatening the very existence of the service.

We suspect such a dynamic will soon be at work in many areas. Highways in particular come to mind. The USA has 4 million miles (6.4 million kilometres) of roads and streets. Even at a conservative estimate of the average cost at $3,000,000 per mile, this assigns a value of $12 trillion to the country's public pavement - on par with the value of all publicly traded companies, or an entire year of GDP. As people begin to abandon their automobiles en masse, who will pay for the hefty annual maintenance of this vast piece of capital? Will mileage rates replace gasoline taxes as the State of Oregon is contemplating? Can property taxes on depreciating property cover street costs? Will general taxes be dubiously and destructively allocated to an obsolescing technology? (Answer: yes - see car maker bailout and Obama infrastructure plan).

Streets are arguably necessary, and will continue to be funded in some form or another as long as humans are civilised. Roads on the other hand, are almost certain to gradually fade away as people relearn to transport themselves and their stuff mostly on navigable waterways. Water transportation, though slow, is and always has been the cheapest, so we may as well plan for it.