Paying for higher performance: The Great Delusion

10 September 2015 by Catherine Holdsworth in Business and finance, Nine visions of capitalism

By Charles Hampden-Turner, co-author of Nine visions of capitalism.

It sometimes seems that we have so fallen in love with a supreme fallacy that we cannot bear to look at the evidence against it. Our culture has convinced itself of a delusion and is unable to let go. Too many people have a stake in the fallacy. We are firm believers in pay-for-performance. This, we believe, is how markets operate and they are both wise in the allocation of resources and embodiments of freedom. The dream is that everyone gets what they deserve and prices reach their “right” level. There are some obvious difficulties. Why, for example, is China growing three times faster than Britain or America when they have a fraction of our incentives? Why is not the USA leaving all nations in the dust behind it spurred by its massive pay-offs for performance? Why did the best paid sectors of our economy, the banks, let us down so comprehensively, both practically and ethically? Why are we growing more slowly than in past decades when rewards were less? Something is obviously wrong.

Pay-for-performance has some obvious attractions as a belief system. It justifies the gains of the already rich. They are assumed to be economic wizards and exponents of private enterprise and removing any of their gains through taxation is seen as near-blasphemous. They will stop working! Economists love the idea because money is the independent variable of their discipline which they wish to explain everything. They dread having to defer to psychology or other rival disciplines. Since money can buy all things those who have it want it to buy all people in addition. It is a heady prospect. Those trying to maintain authority see payments as a tool to punish those who defy them and reward those who behave themselves. P for p is essential to maintaining social order.

So what is wrong? We all need money to live so that surely we will meet the conditions under which we are paid? What complicates the issue is that some motives are extrinsic – our need for money, praise, encouragement, the trappings of power and some are intrinsic – our need to create and innovate, our pride in a job well done, our sense of professionalism, our need to be appreciated even loved. These two sources of motivation may impede each other as we shall see.
The research on this topic is extremely one-sided and unambiguous. There are by now scores of experiments and follow-up tests but the results point only one way. Teams or individuals offered money incentives do worse than teams offered no money at all. There is only one exception to this rule. In tasks requiring no judgement, skill or problem-solving ability where the work is routine and mechanical, incentivized teams do better. In all tasks requiring even as modicum of skill and ingenuity they do worse.

In a world getting more and more complex by the day this finding has devastating significance for any advanced economy. Is there an alternative? If pay makes no difference why do more competent receive higher pay? The answer is that we have got the sequence wrong. It is less that extra payment gains higher performance but that higher performance however motivated gains better pay. We excel for the sake of excelling and for the delight of expressing ourselves and thereby earn additional reward. What pleases us about our performance pleases others.
The classic case is the Candle Experiment more than eighty years old. Teams are asked to light a candle, attach it to the wall and make sure the melting wax does not fall on the floor. They are provided with a candle, matches and cardboard box of thumb-tacks. What makes this task not simply mechanical is realizing that the box is more than a container for the tacks but a crucial element in any solution. (You tack the box to the wall and the floor of the box to the candle and then light it.)

All teams solve the problem in less than three or four minutes, but those offered money take substantially longer More recently the money offered poor Indian villagers was two to three months wages and these eager members took even longer than the unpaid! This experiment has been modified and repeated with more elaborate tests of creativity substituted for the candle, but the findings hold. Offering money is counter-productive.

Why would this be the case? Daniel Pink has suggested that money rewards narrow perception. Money distracts the team members from a careful and thorough examination of the problem at hand. Any problem or complexity needs to be pondered and we often need to bring to the solution something regarded as peripheral – like the box in which the thumb tacks came. Any team in a hurry to get the money on offer is likely to try short cuts and the most direct route to tackling the problem. It is likely to fall back on routine coping skills. Apart from these experiments there are a large number of unintended consequences which follow upon pay for performance which render it ineffective and in some cases disastrous. Given the vast amount of bonus payments lavished on bankers and other executives, this may give us a clue as to why in so many cases their performance has been sub-standard and why fines for major banks in the latest scandal have topped 5 billion pounds. Here there is room for just a dozen of these unintended consequences set out in detail by Alfie Kohn.

1. Performance is being defined by those in authority. This means it is not being defined by the employee her/himself or by the customer for that service but by what top managers’ demands. If authorities demand that customers buy swaps as a condition for taking out loans or insure themselves against a loss for which the bank not they are liable, then this gets done whether customers want or need it or whether it is ethically acceptable. The employee’s judgment and conscience are overridden.
2. It assumes that senior managers know precisely what needs to be done, how hard this and what premium it deserves. In fact senior managers are a further from the coal face than anyone else and seldom know such details with any accuracy. A task that was once difficult may become easy with enough practice. Employees have varied skills and what burdens one may be easy for another. The environment and customer demands out there keep changing and with this what needs to be done and the relative importance of each job.
3. It tends to harm creativity, innovation and problem solving. This is because finding a problem and solving it has no rewards attached to it. Top management does not know that the problem exists! As for a creative or innovative solution this has no known payment because senior managers had no idea that it was possible or that someone might do it. But all customary and routine tasks are rewarded so that p-for-p high-lights the conforming and punishes the original. If you do something new, however effective it is, you risk that your paymasters do not understand it , appreciate it and will refuse to pay for it.
4. It distracts employees from giving customers what they want and what they are asking for. You pressure customers into accepting what has been incentivized and not what they really need. What is most profitable for the company and gets rewarded is not what the customer really wanted, can afford or is in his own best interests. The seller cannot put the customer first and foremost since the incentive skews his judgement and gets in the way.
5. Employees respond to p for p by gaming-the-game. Pay for performance is a game and so employees feel justified in distorting it for their own purposes. Some tasks will be over-rewarded and some under-rewarded. Employees work this out and concentrate their energies on getting the most money for the least work and easiest tasks. Tasks that have not been adequately paid do not get done however serious the consequences for customers or the organization. Instead of doing what needs to be done employees do what is best rewarded.
6. Employees may stop helping each other. In such a system rewards go to the person who receives help not the person who gives help. Why help anyone else when only that person gains from it exclusively? The other will complete the task and get the reward for your assistance. It essentially punishes helping behaviour by the giving the money to the person helped. It is possible to give a bonus to the whole team and this is to be recommended, but then that team is unlikely to get assistance from another team.
7. Incentives tend to rob activities of their meaning. Children given 50 cents each time they fastened their seat-belts in an automobile, stopped fastening them when the payments stopped. They had missed the whole point that they should protect themselves if not for their own sakes then for their parents who had raised them. How much should be pay a nurse who has extracted glass fragments from the face of a crash victim and has had to tell her parents she will be scarred? Would $50 dollars cover it, or a t-shirt with a heart on it? The very question insults her. She did not choose her vocation to make money but to heal others. Teachers find intrinsic pleasure in teaching but markets make them pay for this by awarding them commensurately less.
8. Bonuses render effective supervision of a subordinate very hard. What every supervisor has to do is the support the performer while critiquing the performance. You need to encourage the performer and make sure s/he keeps trying. On the other hand you need the actual performance to improve. Criticize too much and you will discourage. Praise too much and the supervisee may relax efforts. The message has to be mixed and the communication subtle. “I think so highly of you that I think you can do even better.” Either giving a large bonus or withholding it will entirely wreck this communication. It is altogether too crude. If you cost your subordinate her planned vacation, no way is she going to trust you again. If you give her the money she will forget the rest.
9. Employees are disempowered in contrast to those in authority. The problem with pay-for-performance is that it gets subtracted from straight salary. No one is going to pay you more than they have contracted to do. This means that a proportion of your salary can be clawed back if the boss is not pleased with what you have done. If you receive a salary the boss has to trust you to give value. If you receive p for p you have to trust the boss to pay up and not withhold what you believe you have earned. It gives power to employers and takes power from the employed. No wonder it is popular with employers and some politicians!
10. Employees retaliate against p for p by deliberately restricting output. Employees have a strong dislike of “rate busters”. This is someone who works so hard and quickly that management will base a new incentive structure on his level of output. By working “too effectively” the amount of work required for a given incentive is raised and everyone must work harder for the same amount of money. To stop rate-busters from working “too hard” an entire group of workers may agree to restrict their output and sanction anyone who threatens this norm. The output is fixed at a level they will not show anyone up or expose them to penalties. Better tools and improved ways of working may actually be hidden from management scrutiny lest these lead standards to be revised upwards. Instead they will be deployed in secret to resist pressure and buy leisure time. This leads us to the eleventh problem.
11. The negative effect on social and technological change in the workplace. Once the status quo is tied to how much money people get for various jobs the employees are likely to resist change. Those who have found a relatively easy job that pays well will be especially resistant. New technologies may mean that what each task “deserves” will need to be re-assessed and several “good little earners” will be vanish. The new technology may be implemented grudgingly at a fraction of its real potential in the hope that management will revert.

Finally pay for performance tends to lower the esteem in which people hold themselves and each other. If only your performance is worth anything to the corporation then by implication you, as a person, are worth almost nothing and are readily substitutable by a more energetic person. You have been hired for what you can do. Many of the early banking scandals originated from those who were on “commission only”. If management cares not a jot for you but only for what you produce, then this same attitude tends to be visited by you on the customer. You do not care what she/he wants or if she can afford it, the sale is worth so much and you are determined to get it for yourself. The person dissolves into the task and is nothing but that task. If the person cannot perform then get lost. “It is not the bum territory, but the bum in the territory.”

The company holds the individual responsible for inferior results, not itself. However poor the leadership, inadequate the supervision, the training given, the instructions or the tools provided it is always the performers fault. The person alone is responsible which lets their managers and supervisors off the hook. P for P pretends that the individual is un-related and where this is not insisted upon s/he will blame others.

It is at least probable that money is a hygiene factor, the word coined by Frederick Hertzberg and denotes factors which hurt by their absence but do not motivate by their presence. For the absence of hygiene can kill people but fails to motivate them positively. Cleaner bathrooms do not mobilize energy, but stop it from dwindling. Similarly money is of near-obsessive concern where people feel they lack it. Tens of thousands may strike. Whole industries can buckle. Militant organizations may be unleashed, even a communist party. But where people are paid fairly and reliably the concern with money gives way to intrinsic motivations and joy of being productive and innovative. This is the desirable end.