Rethinking the role of short term incentives

Many of us have been brought up to believe that we will get better outcomes if we pay people incentives. This theory is based on behavioural experiments conducted on rats in laboratories, which has since been disproven by a range of different studies. Extensive research over various time periods (involving human beings) demonstrates that short-term incentives do not encourage the skills we need to exercise personal agency and self-authorship. Monetary incentives can often lead to worse outcomes for the individual, the organisation and the wider world.

In this article, we explore why short-term incentives don’t enable long-term success and consider alternative ways to enable greater engagement, motivation and outcomes.

The case for eradicating short-term incentives

The vast array of research on this topic (see some examples below) draws very similar conclusions. Short-term incentive schemes have unintended consequences that limit their effectiveness and can erode value. They erode value because they typically decrease intrinsic motivation. When this happens, consequences include:

• encouraging individual interests over the best interest of the whole. For example, having people allocate resources to themselves, their team or function to achieve their financial bonus, even when this is out of alignment with wider organisational objectives
• encouraging non-creative and overly safe behaviour where people only do what they are incentivised for
• creating unhealthy competition which erodes organisational and customer outcomes. This also negatively impacts culture and the emotional and mental wellbeing of those in the organisation
• reinforcing short-termism and not encouraging broader, more long-term thinking
• provoking greater anxiety and hence less capacity to think through significantly complex problems
• distracting focus from organisational purpose, development and the need for evolution of mindsets and behaviours

The consequences of decreasing intrinsic motivation can be severe. The Australian Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry has uncovered cases of fees charged for no service and prioritising adviser and shareholder returns over customers. This has destroyed brand and reputational value.

Some organisations seek to address these issues by having a component of remuneration ‘at risk’, sometimes represented as remuneration withdrawn or financial penalty imposed. While this approach may address some of the symptoms, it does not encourage better long-term thinking and may lead to other unintended consequences.

Rewards have a punitive effect because they are manipulative. “Do this, and you’ll get that” has a similar connotation to “Do this or here’s what will happen to you”. Taking this further, humans are often more likely to take risks to maintain the status quo when faced with loss. An example is not disclosing breaches of conduct for fear of loss, whether financial or reputational.

In summary, focusing on monetary and short-term incentives erodes personal agency, creativity and intrinsic motivation. Yet the vast majority of organisations still employ these strategies despite the detriment to long-term organisational performance and human potential.

Rethinking short-term incentives

When we raise these ideas the responses are often “if there was a valid alternative then surely people would already be doing it”. Or, “if everyone else is using short-term incentives, then we need to follow suit to remain competitive”. These observations highlight how we can become trapped by our own beliefs and traditional approaches. This suggests the need for a fresh, more open-minded approach. The following are some practices and ideas that begin to address these concerns.

Building a culture that aligns intrinsic motivation to desired customer, community and shareholder outcomes

At each stage of cultural evolution, individuals and organisations develop greater capacities to respond, adapt to their environments and to be effective. The Adaptive Cultures framework describes stages of cultural evolution as organisations grow to become more adaptive.

Compliant Dependent cultures have been successful at creating clarity of expectations and coordinating workflows. However, this has often been at the cost of people feeling unable to express themselves or their full potential fully. While processes and a focus on rules can create temporary compliance, they rarely enable high performance or personal responsibility.

Achievement cultures have been successful in reducing unnecessary bureaucracy, and increasing autonomy, personal responsibility and accountability. Many achievement cultures do not balance achievement of outcomes with wellbeing and time for reflection. Short-term incentives can exacerbate this, particularly when there is a strong focus on shareholders over other stakeholders (including customers and the wider community). Individuals often feel the push for outcomes means they don’t have the time or support to do a quality job. As a result, their ability to achieve mastery and to learn and grow is suppressed. While the extrinsic rewards in an achievement culture can produce short-term lifts in performance, they rarely lead to sustainable long-term success in changing markets.

A healthy Collaborative Growth culture recognises that excessive individualism can reduce effective outcomes. Hence, what is celebrated considers desired outcomes across a broader range of stakeholders. While achievement cultures can increase a sense of autonomy and activity towards a goal, Collaborative Growth cultures significantly increase the possibility of exceptional performance. This is done through alignment of collective actions and personal growth and development to organisational purpose.

If we were to start fresh in looking at reward and recognition, with the understandings that we now have, what alternatives might we consider?

When extrinsic rewards are removed, they need to be replaced with alternatives that have a greater focus on intrinsic motivation, self-awareness, purpose and autonomy. While this is easy to say, it requires a comprehensive evolution of worldviews, mindsets, ways of working and structures and systems to make this shift.

People’s motivations are linked to aspects of their job that are unrelated to incentive pay, such as developing themselves, enabling positive outcomes and feeling they are contributing to something useful. In a recent study, training and goal-setting programs had a far greater impact on productivity than pay-for-performance plans. Significant investment in developing greater reflection, personal agency, systems awareness and shared purpose would further lift productivity and enables longer term sustainability.

An important aspect of success is the decoupling of performance ratings from direct financial gain, enabling a move toward a more constructive, values-based discussion of performance.

Based on the assumption that financial compensation should be a fair exchange and that people generally like to do their best AND research which reveals increased financial incentives have a negative impact on performance, it makes sense that salary assumes people are doing and developing towards their best.

Enabling people to access their intrinsic motivation

Organisations can use intrinsic motivation to drive better personal and collective outcomes by:

• Dedicating time regularly to development, including exploring challenges, issues, innovations and social contribution
• Moving away from traditional performance calibrations and annual reviews towards a focus on ongoing development and building self-awareness. (When traditional performance reviews are not replaced with a development focus, it can result in a decrease in performance).
Institutionalising ongoing reflection and learning through frequent, high quality, two-way development conversations. These conversations can include helping people to learn to reflect on their own potential biases, and learning to ask better questions, for example: “did that meeting help us imagine the future?”

The case for short-term (extrinsic) rewards

In considering if rewards “work”, we need to consider what we mean by “work”. Research shows that rewards can “work”, from a certain perspective, to motivate people around routine tasks that require little creativity. As Edward Deci, Richard Ryan, and Richard Koestner explain, ‘Rewards do not undermine people’s intrinsic motivation for dull tasks because there is little or no intrinsic motivation to be undermined.’

The danger is that there are studies that show that extrinsic rewards can drive financial performance.

A meta-study by the International Society of Performance Improvement (2010), indicated that performance increased with rewards under the following conditions:

1. Current performance is inadequate
2. The cause of the inadequate performance is related to deficiencies in motivation
3. The desired performance type and level can be quantified
4. The goal is challenging but achievable
5. The focus on promoting a particular behaviour does not conflict with or override everyday organisational goals

Our experience relating to point 5, is that many incentive programs have had unintended consequences when they have promoted one behaviour in conflict with another goal or aspiration. To overcome this requires using a suite of metrics that focus on holistic performance with regard to all stakeholders.

Metrics that measure the experience of key stakeholders, especially customers, can be useful. Any metrics used need to be able to assess outcomes over the medium to longer term rather than an “in the moment” snapshot.

Our perspective on this is that even if “performance” is improved in the short term through incentives, we need to consider the unintended consequences.

The consequences of focusing on extrinsic rewards are far-ranging and include suppression of human development and the capacity of the organisation to adapt and mature over time. We contest, that if extrinsic rewards are replaced by investment in intrinsic values and creating a culture of self-awareness, purpose and personal agency, that the financial returns for the organisation would likely be higher and longer term than with a focus on short-term financial incentives.

Conclusion

In every crisis lies an opportunity. Research and common sense provide insight into the negative consequences of short-term extrinsic incentives. We invite all organisations to consider alternatives that liberate the potential of their people to bring about better outcomes for business, customers and community.

We would like to thank Vanessa McKay for her valuable contribution to this article.

If you’re a change leader or culture practitioner who would like to become more adaptive and courageous in guiding cultural evolution, consider joining our next Accredited Practitioner program – a 12-month journey starting in October 2018.

The following are links to other articles and videos on this topic if you would like to explore further:

A meta-analytic review of experiments examining the effects of extrinsic rewards on intrinsic motivation

How Rewards Can Backfire and Reduce Motivation

RSA ANIMATE: Drive: The surprising truth about what motivates us

Why Incentive Plans Cannot Work

Incentives, Motivation and Workplace Performance: Research and Best Practices