'Time and patience are the strongest warriors.' -Leo Tolstoy

Financial Incentives Work

by Ethan Glover, Wed, Feb 22, 2017 - (Edited) Wed, Jan 10, 2018

I have a legitimate question, under capitalism, there is a characteristic called incentive. With incentive, businesses create new innovative products that most of the time, increase the standard of living (products such as drought-resistant crops, cell phones, television, the personal computer). ... But under socialism, where would we get innovation from? How would the higher standard of living via the development of luxury items such as cars and cell phones increase under an un-incentivized socialist system?

That's the question Auxilae asked on the Capitalism V Socialism subreddit. I don't expect answers by socialists to this kind of question to be satisfying. The question is structured as, "You don't believe financial incentive is what drives people and innovation. How will you fix this problem you don't believe exists?"

The "legitimate question" brought to the table is not so much a question as it is an opening statement to a debate about the effectiveness of incentive on innovation. But sometimes you can get value out of these debate starters disguised as "legitimate questions."

Brainlaag's answer may look well thought out and structured, but it is just a defense of personal beliefs. He used misinterpreted research to kick it off, continued into a 'my version of socialism is good' rant, and ended with, 'innovation doesn't happen because of money' statement. Unsatisfying.

What I'm interested in is the research he pointed to that says, "monetary incentive is actually detrimental to the performance of people outside of uncreative menial labour."

I found that Brainlaag's point isn't actually supported by the research he linked. It's barely the same topic. Instead, it's based on the speaking tour of a business writer by the name of Dan Pink. Dan Pink is much closer to Tony Robbins than he is to a behavioral economist. Pink usually doesn't even cite the research papers that supposedly support his idea of using "autonomy, mastery, and purpose" as motivators within business.

But there's no reason to believe Dan Pink doesn't know what he's talking about. So I looked into the research. First of all, the two papers referenced by Brainlaag are never directly cited in the RSA video. They are merely the first studies that come up in a Google search for 'mit incentive study.'

I did a little more digging and found two other studies that Dan Pink does reference consistently. But we'll start with what Brainlaag linked.

The Provided Sources

The first study, "Incentives and Creativity" looked at two institutes and their grant-based research programs. HHMI and NIH. HHMI tolerates early failure, rewards long-term success, and gives freedom to students to experiment. NIH has short review cycles, is unforgiving of failure in their reviewal policies, and has pre-defined deliverables.

The conclusion of this research noted that rewarding long-term success, and encouraging experimentation leads to higher levels of innovation. The authors also noted that the research should not be interpreted as a critique of NIH policies. NIH is a publically funded institution guided by political constraints. HHMI is a private institution with access to top students in the field.

Regardless of that very important factor, the only thing the research shows is that autonomy, and basing incentives on the long-term, is most effective. That does not, in any way, show that monetary incentive is detrimental to innovation.

The second study Brainlaag referenced is called "Incentive Compensation". Specifically, it looks at the architecture, engineering and construction (A/E/C) industry and how different incentive programs affect performance.

The research shows that not all A/E/C firms benefit from incentive programs, but certain fields see an increase in productivity and competitiveness because of them. It says that as long as the financial rewards are made clear, and are easy to understand, high pay does play a major role in attracting employees.

To be clear the research found that there are two top reasons people leave a company in the A/E/C industry. The top reason is for increased opportunities elsewhere, and the second is a higher salary.

It also found that in terms of attracting and retaining an employee, the salary is the top contributing factor. For keeping them motivated, short-term variable compensation (bonuses) is the top factor. What I find ironic, is that equity-based compensation (company options, stocks, or shares) was found to only have a medium effect on attracting, retaining, and motivating employees.

So we have two studies that are supposed to show that, "monetary incentive is actually detrimental to the performance of people outside of uncreative menial labour." What we got is one that says monetary rewards based on long-term success incentivizes innovation. And another that shows bonuses keep employees motivated.

Dan Pink's Interpretation

Before we get into the actual research that Brainlaag is trying to reference, let's go over Dan Pink's position.

Pink says that for mechanical work, higher pay leads to higher performance. However, when the work involves any rudimentary cognitive skill, a high reward leads to poor performance. He backs this up by stating that this has been shown time and again all over the world. Again without citation or direct quote.

He says that once people are paid enough, once they're comfortable with the amount they're getting, further monetary compensation will not motivate them. This point is certainly backed up by the subjective theory of value.

Once Dan Pink makes his point about the research, he gets into his own agenda. He says that once the monetary reward is good enough, business leaders have to motivate people through autonomy (backed up by the first paper), mastery and purpose. These three things are Dan Pink's signature. It's what he writes and talks about as a Tony Robbins like character. Autonomy, mastery, and purpose. That's the secret to motivation that he wants to sell.

The Actual Sources

In the research paper, "Large Stakes and Big Mistakes," a study actually used by Dan Pink, there is one major conclusion.

Our experiment suggests, however, that one cannot assume that introducing or raising incentives always improves performance. It now appears that beyond some threshold level, raising incentives may increase motivation to supra-optimal levels and result in perverse effects on performance. Given that incentives are generally costly for those providing them, raising contingent incentives beyond a certain point may be a losing proposition. Perhaps there is good reason why so many workers continue to be paid on a straight salary bonus."

This paper is the one that ran multiple experiments in India that Dan Pink actually refers to. As Dan Pink states, it says that beyond a certain level, financial incentives cease to work and instead simply put workers under pressure.

It has been proven time and time again that a monetary incentive is actually detrimental to the performance of people outside of uncreative menial labour.

Brainlaag's point did not hold a lot of strength to begin with. But after looking at three studies, Auxilae's "question" is becoming more difficult to challenge. But we've got one more to look at. An analysis of 51 separate studies by the London School of Economics.

It concludes very simply, "We find that financial incentives may indeed reduce intrinsic motivation and diminish ethical or other reasons for complying with workplace social norms such as fairness. As a consequence, the provision of incentives can result in a negative impact on overall performance."

It is important to note that this study looked at performance-related pay only. This is something like commission based pay for salesmen. The researchers warn that this kind of pay model can lead to a reduction of motivation across teams and organizations.

This study may be saying something about over competitive models such as commission based pay. As a study analysis, there's not a lot of conclusion to draw. It has led to a lot of debate on performance-related pay and the way employees interact with each other in such an environment.

But as "Large Stakes and Big Mistakes" puts it, "Perhaps there is good reason why so many workers continue to be paid on a straight salary bonus."

It's Not That Simple

Everyone is motivated differently. Give me a steady paycheck, point me at what needs to get done and I'll get it done. All the research here seems to back up my mindset. I prefer autonomy and the ability to solve problems my own way. When I fall behind one day, I'm more concerned about that building up into the future than I am about being behind. (I'm more interested in long-term success and pay raises in the future based on that.) And I'm definitely glad I'm not working based on commission like competing companies. When I've done similar work in the past, I look at the people who put all of their energy into being the "top performer" and think, "Why would being that guy ever be my goal? I just want to do the job, do it right, and get paid for it."

Is financial incentive "actually detrimental" to my performance? Not one bit. Proving myself to the company for future raises is important, it motivates me. Being able to get the job done in my own way motivates me. There's a little of both in there.

As Auxilae "asked," does incentive improve innovation? Absolutely. Paying people more improves performance and innovation. Until it doesn't. At a certain level, depending on the individual and industry, the financial incentive no longer helps. It may even harm performance. Finding that sweet spot is a matter of subjective value to the individual and supply and demand to the industry.

Meaning, the potential issue of financial incentive having a negative effect on performance is solvable by capitalism. Making a blanket statement that financial incentive is detrimental to those outside of uncreative menial labor, and therefore it can not contribute to innovation, is not only wrong by Brainlaag's own sources, but is a naive conclusion that could only make things worse.