Why Incentive Plans Cannot Work

This sample essay on Why Incentive Plans Cannot Work provides important aspects of the issue and arguments for and against as well as the needed facts. Read on this essay’s introduction, body paragraphs, and conclusion.

“Even if people were principally concerned with their salaries … there is no firm basis for the assumption that paying people more will encourage them to do better work or even in the long run, more work”. This is the underlying theme of Alfie Kohn’s arguments in ‘why incentive plans cannot work’ where Kohn argues of the failure of the behaviorist model of motivation which underlies agency theory and particularly the contracting relationships between the principal (shareholders in the case of public quoted companies) and the agent (the board of directors).

This challenge to the legitimacy of the commonly held belief in the power of incentives to motivate individuals to a course of action that is mutually beneficial to the contracting parties is an indirect attack on the agency model and the nature of the contracting relationship.

Kohn delves into the nature of work motivation and the notions of intrinsic motivation versus extrinsic motivation and he argues that extrinsic motivators ‘do not create an enduring commitment to any value or action’ but rather rewards buy only ‘temporary compliance’.

He goes onto argue that this may in fact be detrimental to organisational success as rewards only motivate people to seek greater rewards while important attributes of successful managers such as creativity and risk taking are replaced by simplicity and predictability in actions.

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The reward becomes an end in itself and the motivation is there for earnings and performance management to be carried out, especially due to the fact that the directors are privy to information which the shareholders (principal) will only know if the directors choose to truthfully reveal it.

Why Incentive Plans Cannot Work

This paper appears to be highly selective in its selection of examples to demonstrate the failure of motivation theories. Kohn looked at the response of a group of welders at a Midwestern manufacturing company to the removal of financial incentives and came to the conclusion that financial incentives diminished productivity as productivity was seen to increase in the aftermath of the removal of the incentive scheme. Unfortunately, Kohn appears all too easily to rule out the simplest of explanations, that this ineffectiveness of the incentive scheme may have been due to ineffectual implementation.

For example, an investigation into the introduction of the first performance related pay scheme at the Inland Revenue by LSE researchers found that the system failed to improve performance and rid inefficiencies at the organisation and arrived at the conclusion that the incentive scheme had in fact slightly reduced performance for some individuals and this was due to a lack of belief in the equity of the reward scheme together with a lack of understanding as to how rewards were allocated/ awarded.

Thus we can see that by looking at two similar results we can arrive at two very different explanations and there may in fact be nothing wrong with the underlying basis of incentive systems but merely inappropriate implementation for the particular setting (something which Kohn underplays). ‘No artificial incentive can ever match the power of intrinsic motivation. People who do exceptional work may be glad to be paid and even more glad to be paid well, but they do not work to collect a pay cheque.

They work because they love what they do’. Although this may be true to some extent in that ‘intrinsically motivating jobs require less compensation than intrinsically less motivating jobs’1, people nonetheless require a wage. Nursing is arguably one of the most intrinsically motivating professions yet nursing in the UK is in crisis due to a shortage of qualified personnel who have left the profession due to their poor earnings capability (nursing fails to satisfy the individual rationality constraint).

However, the result of pay increases in the sector has been to increase the number of nurses prepared to rejoin the profession. Thus it appears that interest in a job is simply not enough to attain good performance or even participation in the profession if the individual’s rationality constraint is not satisfied. However, not everyone gets to do their dream job, so what about the many individuals pursuing less agreeable careers. It seems that extrinsic motivation in the form of rewards can be crucial to ensuring that optimal performance is provided.

There is an argument for designing jobs so that people are given more responsibility, less monotony and the opportunity to express creativity, thereby ensuring greater enjoyment of the task. There have been numerous empirical studies that have investigated employee and/ or firm behaviour pre- and post-adoption of a compensation plan and many have illustrated considerable evidence of positive behaviour in response to the introduction of incentives.

For example, Lazear (1996) found that the output of workers installing automobile windshields increased after a switch from hourly wages to piece rates. Similarly, Banker et al (1996) found that sales increased after a sales-based performance plan was implemented at a retail establishment and the effect persisted over time. This seems to put a dent into Kohn’s argument of the temporary nature of the compliance that results from extrinsic motivation offered by incentives.

Kohn argues that ‘once the rewards run out, people revert to their old behaviours’ but this is not at odds with agency theory. If we view the agency relationship as a contractual relationship among individuals who are rational, evaluative utility maximisers, we would expect the contractual parties to take actions to maximise on their own behalf. Thus the basic agency model seeks to tie the agent’s behaviour to what would be good for the principal by the use of a reward which induces the agent to behave as if he were maximising the principal’s welfare (the incentive compatibility constraint).

The agency model expects the agent to act rationally and behave less than optimally from the principal’s perspective on the removal of the reward (i. e. at the end of the contract). At the end of the contract, we would expect a new contract to be issued which would again seek to ensure that the agent maximise on the principal’s behalf by offering a contract that rewards the agent taking into account what the agent could receive elsewhere as well as satisfying the incentive compatibility constraint.