Why Incentives Are Irresistible, Effective, and Likely to Backfire

Ken O'Brien was an NFL quarterback in the 1980s and 1990s. Early in his career, he threw a lot of interceptions, so one clever team lawyer wrote a clause into O'Brien's contract penalizing him for each one he threw. The incentive worked as intended: His interceptions plummeted. But that's because he stopped throwing the ball.

Years ago, AT&T executives tried to encourage productivity by paying programmers based on the number of lines of code they produced. The result: programs of Proustian length.

Incentives are dangerous, and not just because people game them. They often yield collateral damage. Remember the tale of the Darwin Award winner who strapped a jet engine to his car, dreaming of a joyride for the ages, and then met his sorry end as a human flapjack on the side of a mountain? Incentives are like that jet engine. There's no question the engine will take you somewhere, fast, but it's not always clear where. Or what you're going to mow down on the way. Yet incentives are still the first resort of most managers, perhaps because they all think they're smart enough to create the perfect carrot.

Take Merrill Lynch. In the book Riding the Bull, author Paul Stiles describes his experience as a new trader at the venerable investment bank. Merrill wanted Stiles, then 29, to trade complex international bonds in volatile markets. He tried asking advice of the seasoned traders, but they ignored him -- a minute spent helping Stiles was a minute spent not adding to their monthly bonuses. They kept barking into their phones for hours at a time and yelled at Stiles every time his shadow fell across their computer screens. Eventually, Stiles was reduced to silently observing their behavior from a distance, like a rogue MBA anthropologist. It surely never dawned on the person who set up Merrill Lynch's incentive system that the traders' bonuses would make training new employees impossible.

Why are we so bad at anticipating the effects of our well-intentioned incentive plans? The answer has to do with something that psychologists call a "focusing illusion." Behavioral economist Daniel Kahneman and management professor David Schkade surveyed Midwestern students and asked them to predict the satisfaction of students in California on several dimensions, such as "job prospects," "climate," "personal safety," and overall life satisfaction. They also asked the Midwesterners to rate their own satisfaction. The professors then posed the same questions to actual California students and compared the answers. The Midwest students correctly predicted that the Californians would be happier about their weather.

But the Midwestern students wrongly predicted that California students would be happier with their lives in general than Midwestern students. The overall scores are identical. Schkade and Kahneman showed that, in essence, the Midwestern students erred by focusing too much on a single variable. When you're a Midwesterner contemplating a long, cold winter, you can't help but think that Californians must be happier. But you're ignoring the larger happiness portfolio, in which weather recedes to insignificance among the other things that may influence a Californian's satisfaction -- good friends, terrible traffic, career opportunities, laundry, and a governor who compulsively repeats Terminator jokes.

Focusing illusions even distort our judgments about ourselves. In another study, some college students were asked, "How happy are you?" and then "How many dates did you have last month?" The researchers found a pretty weak correlation between the level of happiness and the number of dates. But then (hilariously) the researchers flipped the order of the two questions. Suddenly, there was a strong correlation. Having just confessed to a lack of dates, students reported that their lives were joyless.

And this brings us back to the incentive puzzle. When the football team's lawyer hatched a plan to minimize O'Brien's interceptions, he was suffering from a focusing illusion. He reduced the world to a one-variable equation, like a college student fretting about his flatlining dating life.

To be fair, there are some contexts where one variable dominates. If you're employing a field sales rep who is selling a simple, self-contained product, then it probably makes sense to tie incentives to the sale. If you're traveling a long, straight road, the jet engine will get you there faster.

But chances are you don't live in a one-variable world. In your complicated, squishy, matrixed world, if you're dreaming up an incentive plan, you're almost certainly in the grips of a focusing illusion. You're trying to maximize or optimize or minimize something. And you may unwittingly find that when you maximize the length of your programmer's code, you end up minimizing your job tenure.

There's another option. In a maddeningly multivariable environment, great management trumps great incentives, for the simple reason that managers are multivariable. Wouldn't it have been better for a coach to give O'Brien some help on refining his field vision? Shouldn't a Merrill Lynch exec have made it clear that traders were expected to help out the new guy?

Incentives are dangerous. Good managers aren't. So forget about that jet engine and get back to the slow, messy business of actually interacting with your employees.

Read more Made to Stick columns

Dan Heath and Chip Heath re-released their best-selling book Made to Stick featuring new content, such as how to make strategies stick and unsticking an idea.

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10 Comments

  • Bill Burnett

    In the innovation arena there is lots of talk of incentives around innovative behavior. Typically a company will reward innovation teams. Why does this backfire? In the book Advantage: Business Competition in the New Normal is the story of a bank that did this. They rewarded when the project was competed. Since failure got you nothing, and completion got you the reward, you wanted a deliverable simple project that you could complete with no risk of failure. In that environment not much in the way of innovation happened because real change is risky.

  • William Seidman

    This article is right on the money! We have broad experience with many companies in both the private and public sectors and the incentive programs tend to harm productivity and success more than they help. We have found the best motivator is linking work to a contribution to a holistic, greater social good, and aligning the incentives with that social good. People are far more motivated by a meaningful contribution than by money, even financially driven sales people. Make the social goal clear, tie the work to the goal, and incent achieving the goal, and productivity soars.

  • glenn parker

    It should be of concern that most of the article's conclusions are based on studies using college students as subjects rather than those that focused on business incentives. The Merrill Lynch story is an example of bad incentive. In another Merrill example, the company tried to change the culture in the retail area from an excessive focus on trading (sometimes called "churning") to one that emphasized financial planning with clients - in other words, having financial planners invest time with their clients developing a long-term financial plan. The incentive plan was simple - the more plans you created (using a specific template), the greater your reward. It was a win-win-win for client, company and the financial planner. In the end, a reward plan simply says "do this, get that." for example, if you deliver this software with these specs, the whole team will get $$. We produced more than 20 such case studies of effective rewards and recognition programs in our book, Rewarding Teams: Lessons from the Trenches. Incentives can work but only with careful planning.

  • glenn parker

    It should be of concern that most of the article's conclusions are based on studies using college students as subjects rather than those that focused on business incentives. The Merrill Lynch story is an example of bad incentive. In another Merrill example, the company tried to change the culture in the retail area from an excessive focus on trading (sometimes called "churning") to one that emphasized financial planning with clients - in other words, having financial planners invest time with their clients developing a long-term financial plan. The incentive plan was simple - the more plans you created (using a specific template), the greater your reward. It was a win-win-win for client, company and the financial planner. In the end, a reward plan simply says "do this, get that." for example, if you deliver this software with these specs, the whole team will get $$. We produced more than 20 such case studies of effective rewards and recognition programs in our book, Rewarding Teams: Lessons from the Trenches. Incentives can work but only with careful planning.

  • Matt van Wyk

    I do not often comment in these forums, but sometimes advice offered necessitates a word or two. Hopefully we have young professionals reading these articles to become a little wiser, or get an idea they want to experiment with. This places some level of responsibility on our shoulders to steer behaviours towards an improved level of performance potential, and not make wild statements which could potentially destroy value in the hands of those less experienced. I like the article; it is practical and touches on an issue all organisations have been struggling with at some stage. The comment made by a reader that training of new employees by current employees is absurd, is one of these reckless comments detracting from the good work in the article. Behind the success of many organisations lies the fact that current workers differentiate themselves by excelling in two areas: problem solving and coaching/training (Toyota et. al.). Yes, HR can prepare the worker for training, but without the experts (which the current workers hopefully are!) departing their knowledge to new employees, how can an organisation stay ahead of the pack? Line management and current workers MUST surely play a leading role? Selling, for instance, is only a part of a “whole job”, which (as Kaplan and Norton advocates) have many more aspects. A part of their job should be to train new employees. In great companies every employee transfers his best knowledge to ensure sustainability. Hats off to the Heaths! The topic needs much more research and debate.

  • Denzel Eslinger

    Horrible Advice, Anything can be used incorrectly and the examples they give are classics. It is not the duty of current workers to train new hires, that is the responsibilty of HR and training departments. Expecting that a sales person would stop selling to train is a recipe for disaster, sales people are hired to sell.

    Good incentives are ones that reward behaviors as well as results, in the O'Brien example a good incentive would have been rewarding him for a higher percentage of completions. A good incentive would never be tied to a negative behavior, sorry guys you are just out of touch with this one.

    Incentives lead to higher productivty and better results than not using incentives, you might want to check the research done by Scott Jeffery on the topic.

    Please stop trying to create headlines by generalizing things it is clear are not within your realm of knowledge, stick to what you know.

  • Darin Phillips

    Kaplan and Norton's balanced score card can be applied to individual contributors to prevent the myopic problems that you have highlighted in this article. A decent performance management consultant will always tease out the various ways to defeat the incentive system and build in safeguards that create a well-rounded view of performance to be rewarded.

    Merrill Lynch should not want their traders to take time out of the day to train a new hire. That responsibility should fall on the person who is incentivized to ensure that new hires succeed, the boss of the new hire. However, the Ken O'Brien story is very interesting.

  • Darin Phillips

    Kaplan and Norton's balanced score card can be applied to individual contributors to prevent the myopic problems that you have highlighted in this article. A decent performance management consultant will always tease out the various ways to defeat the incentive system and build in safeguards that create a well-rounded view of performance to be rewarded.

    Merrill Lynch should not want their traders to take time out of the day to train a new hire. That responsibility should fall on the person who is incentivized to ensure that new hires succeed, the boss of the new hire. However, the Ken O'Brien story is very interesting.

  • Raymond Durrant

    Exactly right. I don't know about other areas of business, but there is an epidemic of these problems in the world of engineering. Another related problem is focussing on variables which are easily quantified at the expense of those which are not: e.g. It's difficult to quantify loss from poor customer service or benefits from improved staff training, but it's easy to measure the costs and benefits of improving a manufacturing process. Therefore it's much easier to build a business case, and secure a budget, for the latter.

  • Darin Phillips

    Kaplan and Norton's balanced score card can be applied to individual contributors to prevent the myopic problems that you have highlighted in this article. A decent performance management consultant will always tease out the various ways to defeat the incentive system and build in safeguards that create a well-rounded view of performance to be rewarded.

    Merrill Lynch should not want their traders to take time out of the day to train a new hire. That responsibility should fall on the person who is incentivized to ensure that new hires succeed, the boss of the new hire. However, the Ken O'Brien story is very interesting.