Decision Making
Cost-Benefit Analysis
Develop the ability to quantify tradeoffs, recognize hidden costs, and systematically compare alternatives instead of relying on gut reactions. These skills prevent costly oversights in career moves, major purchases, and everyday resource allocation.
Context
Why this exercise
Most everyday decisions get made on a single salient number — a listing price, a salary, a tuition bill — while the costs and benefits that would actually determine the outcome stay invisible. A $20,000 raise looks like a clear win until you subtract 18% higher cost of living; a $7,200 summer EMT job looks like the obvious choice until you price in the opportunity cost of a faculty letter; a $310,000 house looks cheaper than a $365,000 one until you add roof repairs, commute time, and ownership-period maintenance. This exercise trains the basic discipline of cost-benefit analysis: converting hidden costs into visible numbers before judgment, so decisions reflect total impact rather than the loudest single figure.
Before you start
Formal cost-benefit analysis traces to French engineer Jules Dupuit's 1844 work on public infrastructure, and was developed for practical decision-making during the 20th century by economists including E.J. Mishan and Richard Layard. The core insight is simple: any decision involves a comparison between paths, and a meaningful comparison requires accounting for every cost and benefit on each path — including the ones that are not on a price tag. Opportunity cost (the value of the best alternative forgone) and sunk cost (resources already committed and unrecoverable) are the two most important conceptual moves: opportunity cost makes invisible alternatives visible, and the sunk cost fallacy is the systematic failure to ignore unrecoverable past investments when deciding what to do next. Together, these two concepts cover most of the structural errors people make in personal financial decisions.
The empirical literature on intuitive decision-making, summarized in Kahneman's 'Thinking, Fast and Slow' and Thaler and Sunstein's 'Nudge,' consistently shows that humans default to whichever metric is most salient at the moment of choice — usually the sticker price or the headline salary. Cost-benefit analysis works precisely because it forces deliberate attention to the components the salient metric obscures: foregone earnings, cost-of-living adjustments, maintenance and repair over the ownership period, the time value of money, and the cumulative impact of small recurring costs. The MBA example in this exercise is the canonical case: a $160,000 tuition bill looks expensive, but the actual investment is $420,000 once two years of foregone $130,000 salaries are added, and the break-even time on a $45,000 salary premium is over nine years.
As you work through the scenarios, practice the move of writing down every cost and benefit on both sides before forming an opinion about which path is better. Convert percentages to absolute dollars; convert one-time figures to annualized impacts and vice versa; price the things that have no price tag (commute time, social capital, recovery time) at conservative dollar values. Notice that the wrong-answer options are mostly things that feel decision-relevant but do not actually change the math — restaurant quality in Portland, the political party of the mayor, the prestige of the new employer. Discriminating between decision-changing and decision-flavoring factors is the foundational skill the exercise builds. For broader treatment, see Decision Making.