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Performance Pay Paradox

Written By: - Date published: 8:57 am, October 25th, 2010 - 32 comments
Categories: wages - Tags: ,

I’ve just finished a very good book: The Age of Absurdity by Michael Foley.  It goes through various philosophical and other counter-measures to modern unhappiness.  It’s very witty and thought-provoking – I can heartily recommend it.

One of those thought-provoking ideas, whilst looking at the ‘absurdity of work’, is how increasing pay doesn’t increase motivation (decreasing it does permanently damage motivation and happiness with the job though).  Greater autonomy and more challenging tasks are the only ways to increase satisfaction.

Coupled with that is the perverse way Performance Related Pay (PRP) de-motivates employees.

In theory PRP should cause better work as people want the money, so produce better results.  In reality loss of goodwill means that work quality drops.

The psychologist Frederick Herzberg spent the second half of the twentieth century studying work motivation.  He discovered 2 main flaws in PRP beyond the basic level “increasing money doesn’t increase motivation” effect.

The first is that it is often impossible to evaluate performance objectively and accurately.

The second is the assumption that if you change one aspect of work, everything else remains the same.  In fact everything changes.  Employees who fail to receive extra pay immediately stop doing anything beyond the base level of their job, so ‘voluntary’ work actually decreases, when it was precisely the opposite effect that was intended.

Introducing a financial incentive in fact decreases the satisfaction with the work.  Psychologist Edward Deci had an experiment where 2 groups of people were given a series of puzzles to do, and upon completion of the task were allowed to continue with other similar puzzles if they wanted.  He paid one group – they stopped soon after they finished the allotted tasks; he didn’t pay the other group – they continued doing the puzzles for over twice as long.  Over 100 other studies have backed the same financial demotivation result.

In his book Foley relates the personal and uplifting experience of when performance pay was introduced – initially voluntarily – to his university.  Managers were confident teachers would sign up for the extra cash, but were entirely disappointed as teachers knew the evaluations couldn’t be accurate and the rankings would be divisive.  So management went personally to certain staff to convince them – and were turned down.  Eventually, they just started paying certain teachers a performance bonus – only for those teachers to pool the cash and share it out equally amongst staff.  Performance pay was rescinded, and never tried again.

(I’m now onto Nudge)

32 comments on “Performance Pay Paradox ”

  1. lprent 1

    Good post. Personally I have always ignored performance based pay, share options, and the like when I’ve been doing my work. They inevitably are unrelated to what I actually do and rely far too much on what other people do.

    When I’ve been managing people, I invariably get far better responses from getting people to take responsibility for areas while making sure that they move around enough to be aware of what other people are doing. My policy on giving pay increases beyond inflation is always been my responsibility and is related to how much I and the main staff perceive the recipients value to the enterprise. Invariably the larger pay increases tended towards the less senior staff who improved the most in taking control of getting modules completed without fuss.

  2. Carol 2

    PRP is especially useless for teaching. I’ve spent most of my adult life teaching, in a range of institutions, at various academic & age levels and in 3 countries. Successful teaching depends on too many factors beyond the control of the individual teacher. This includes the policies of the institution (eg it’s hard to maintain discipline in a classroom if there are several competing approaches used within the same school); curriculum; skills the students have at the beginning of the year; physical environment; local geographic context/culture; resources; relationships between staff; approach of the managers; etc.

    And teaching really is one of those jobs that relies a lot on interactions between staff: eg for a lot of those issues I’ve touched on above. It is quite a socially co-operative kind of work. Introducing the individualistically competitive element of PRP would just undermine that.

  3. KJT 3

    There is a lot of management research and studies into performance pay. In general it does not lift performance.

    Measuring real performance is difficult. Identifying individual contributions, finding performance indicators that do not impact in negative ways, neglecting things that are crucial to performance while chasing the set indicators (Like teaching to the test) and singling out individuals in, what is, a group endeavor, all create problems.

    We’ve all heard the story of the company whose sales reps. increased sales beyound the companies capability. The sales reps. got a bonus. The firm went bust as it’s reputation as a reliable supplier was destroyed. The many companies who gave managers bonuses for increasing short term share value or cutting staff costs who are now no longer in business.

    Telecom is a good example. Customers left in droves annoyed with indifferent service and high prices. Telecom went from a monopoly to a rapidly dropping share of the market in a short time.
    If I was a Telecom shareholder I would have been very annoyed at the bonuses Telecom management have had.

    The successful performance improvement schemes have been addressed to distinct work groups rather than individuals. Deemings work groups. Schemes such as Japanese industry’s Kai-zen. In areas such as manufacturing where there are clearly identifiable valid single indicators. Like reduced warranty returns.

    The Peter principle makes very good reading. It has been proven valid for large organisations. http://en.wikipedia.org/wiki/Peter_Principle

    Further proof about high performance pay comes from UK research, that shows, companies with the most rewarded management are the worst average long term performers.

  4. RedLogix 4

    This video from Dan Pink is a fun and accessible introduction to all the wrong ideas about PRP.

    Several things hold back NZ labour productivity; failure to invest in R&D, failure to invest in hi-tech advanced plant, and failure to invest in the people.

    All of these failures stem from a business ownership class who are working with out-dated models and narrow ideas. Indeed most management I’ve encountered are well-meaning amateurs at best…

    • Bob Stanforth 4.1

      Agree – in my consulting experience, both here and internationally, I dont rate NZ management. They tend to be poorly trained as they rise through the ranks, with the expectation that someone who is technically competent will also (a) be a good manager of people and (b) be a good leader – and also understand the difference.

      • Colonial Viper 4.1.1

        I’ve seen middle NZ managers unnecessarily destroy work team performance and work team morale for petty and personal reasons, or just sheer ignorance/incompetence.

        And guess what, the most compentent skilled workers with career options bail first – sometimes out of the country entirely, to leave everyone else with even more of the burden.

        • Bob Stanforth 4.1.1.1

          Labour is now almost as mobile as capital. For example, I live in provincial NZ. When Im consulting (I advise large corporates on IT strategy and structure) as I do for a few months a year (hey, lucky me, Im mid 40’s and semi retired 🙂 ) I hop on a plane on a Monday morning, work in AKL or WNG, fly home Thursday afternoon. Away 3 nights, and there are many others who are now doing the same. The interweb changed my life, significantly for the better.

          Well educated labour can move freely anywhere, and there are some seriously good opportunities to educate yourself quickly and easily, if you are motivated enough to work hard and do so. It is one of the greatest truths – education will set you free.

          • Vicky32 4.1.1.1.1

            “education will set you free.”
            But, as I discovered last year, after saddling myself with a huge new student loan, it won’t get you a job (if you’re over 40.) Like Carol, I am a teacher, and I already had qualifications. In order to increase my employment prospects, I got *more* quals. Now my CV looks like that of a beginner, I have been told…
            Ironically, I did well on every practicum. If performance pay was calculated on that basis, and on the basis of popularity with the students I’d be quids in – right now I’d settle for pay at all!
            Deb

  5. Shane 5

    Here is a related video by the same speaker but with an added animation by the RSA – really great way of presenting this information:

    – have you all noticed that science (The Spirit Level etc.) is now backing up practically everything leftwingers have intuitively known forever? If we bad more science based and evidence based political actions we would all be living in a better place…

  6. tsmithfield 6

    This is a topic that I am reasonably well qualified to comment on (having done a masters in Industrial psychology.)

    There is lots of research in this area. Besides Herzberg, it would be good to consider the work by Hackman and Oldham. Their “job characteristics model” included a survey based on their theoretical formula for determining how motivating a job is.

    The issue of performance related pay is quite complex, and contingent on the type of job. For instance, my wife works in real estate where the job is entirely performance pay. She is quite motivated in her role because she doesn’t get paid if she doesn’t perform.

    Also there can be various mixes of retainer and commission etc that include elements of performance and standard pay.

    Group incentives can be quite effective. However, the size of the group is a major determinant as to whether this type of pay will be effective or not. Haven’t got several hours to dig through my stack of studies, however the general idea is that group incentives will be more effective in small groups rather than large groups. In large groups individuals can succeed off the efforts of others. Thus they can get away with shirking. In small groups shirking is more likely to be noticed by other group members so normative pressures tend to increase the overall performance of the group.

    The basic philosophy behind all this is the effectiveness of reward schedules. Consider they behaviour of people who put money into a coke machine compared to a one-armed bandit. Where the rewards are regular and predictable (a coke machine) the desired behaviour (inserting money) quickly stops if the rewards do not come. Whereas where rewards are unpredictable (the one-armed bandit) the desired behaviour is likely to be maintained for much longer.

    Applying this principle to performance related pay, performance is likely to be strengthened if the boss occasionally hands out a bonus, gives a gift of appreciation, gives recognition etc because they appreciate the effort put in by employees, rather than having a specified schedule of performance.

    • lprent 6.1

      The general problem with performance pay is when it is unrelated to the factors that can be controlled by the person it is meant to incentivize. I always notice it in my jobs because the things I need to do make a project successful are pretty unmeasurable within the timeframe of the incentive. I’m typically putting systems in place not only for the current iteration of the products but also for a couple of subsequent generations as well.

      There are quite a lot of jobs like that. For instance virtually every management job. If you want to get a short term focus at the expense of long-term viability – then put in a performance based package based on measuring something simple like quarterly or yearly profit. If you’re after the intangibles like long-term viability, then frequently the only person capable of measuring it is the person receiving it.

      It is easy to setup operant conditioning for simple animals and simple jobs. However those are pretty much the exception rather than the rule these days. Most of those types of simple jobs were exported by the late 20th.

      • just 6.1.1

        Well put.

        As well as sacrificing long-term for short term gains, performance pay has the potential for creating moral hazards. As a hypothetical example, a health worker incentivised for minimising the amount of resources spent per patient.

  7. Bob Stanforth 7

    Agree, to a large extent – money is a poor long term incentive for most people. Some, and they tend towards the Myers Briggs sales types, thrive on commission only, love the chase and the catch, but those are very specific personalities.

    I tend to get the best from people by understanding their personal motivation, goals, needs etc, and helping them to support creating an environment for everyone to further those – and the organisations – goals.

    Creating a cohesive and supportive team that understands its own goals and how they fit with and support the wider organisational goals works far better as motivation for most than throwing money. But Im still a believer in offering people monetary incentive if they achieve stated and agreed goals – the human of the species is by nature a goal seeker and achiever, and supporting that behaviour isn’t a bad thing.

    • tsmithfield 7.1

      I agree with the comments from both Bob and Iprent above.

      Where I do use pay incentives it is generally a small component of the overall salary package. I use it to target specific aspects of behaviour that the employee has a fairly high probability of being able to control. However, I would put a lot more emphasis on ensuring that the job itself, the work culture etc is satisfying and enjoyable for employees.

      • Colonial Viper 7.1.1

        Interesting how pay incentives are the only incentives which matter when you have an elite decision making minority which believes in that to the bone.

        An elite which measures their own personal success and character by what they own and how much of it, and who then naturally judges everyone else in society by those same yardsticks.

      • RedLogix 7.1.2

        Feels good to be on the same page for once ts.

        Pink identifies three components of motivation: Autonomy, Mastery and Meaningfulness.

        Each one is an interesting thread in it’s own right, even more interesting is how different people respond to each of these differently. I’m very tempted to make the following wholly unsubstantiated mapping with Terrence Watts Warrior, Settler, Nomad model …but one that intuitively appeals to me:

        Watts puts forward the idea that there are three basic personality types that derive from our inherited DNA. (These may or may not relate to our parents’ personality typing).

        Warriors are the go- getters. Action driven , focussed and determined to achieve goals. Want respect more than love. Analytical rather than feeling, controlled and controlling choosing somber colours (blacks/brown) for clothes. Warriors may well be best motivated by the opportunity to demonstrate Mastery of their skillset and environment.

        Nomads are the drifters, they love change, colour, feelings and need to be the centre of attention. They hate being controlled by people, situations, schedules or events. They are “people people” often with a passion for the arts or performance. Nomads seek autonomy more than anything else.

        Settlers are those who occupy the middle ground. Solid dependable folk who get on with life. They like to please others and value home life, friends, stable work patterns and family. Meaningful work that connects them positively with the community around them is likely to be most rewarding for Settlers.

        How many managers have even the smallest clue about any of this, much less what might best motivate each individual person in their team?

        • Bob Stanforth 7.1.2.1

          My take on your question – fewer than probably 1 in 20 in senior management. Appalling. Ive advised large banks to restrain themselves from cutting budgets by a magical figure (normally 10%) because it is the most stupid thing you can do.

          But then I shouldn’t complain – stupid management is part of why I do what I do 🙂

  8. tsmithfield 8

    I wouldn’t use performance-based pay with teaching. However, I would change some things.

    1. I would increase teachers salaries to be competitive with other professional areas. This would hopefully attract people with good teaching ability to a career in teaching.

    2. I would make the standard for becoming a teacher a lot higher.

    3. I would focus selection into college on teaching ability rather than academic ability. In the same way that the best sports person doesn’t make the best coach, the best teacher isn’t necessarily the brightest person.

    4. I would take a contingency approach to placing teachers. Thus, for instance, some teachers may be better suited to teaching low academically oriented students, while some teachers may be better suited to teaching the high performing students.

    • RedLogix 8.1

      All very good points ts. And of course in the ‘old days’ we relied on appointing high caliber people to head teacher, whose primary role was to know his/her staff, lead, mentor and guide them to get the kind of results you are thinking of.

      We all must remember that one special teacher who made the difference in our lives. I know I do. How much did it have to do with ‘perfomance pay’? None whatsoever.

      Yet we have tried to substitute their special empathy and skill these great teachers had with children, with tests, evaluations, paperwork and performance measurements.

    • KJT 8.2

      True. I’ve noted in schools I have been in that the skilled dedicated Teachers tend to stay in low decile schools where they can make a difference, (though burnout is often noticeable) while the time servers predominate in the “easier” schools.
      Often the best teacher is someone who has struggled themselves to learn.

  9. tsmithfield 9

    We seem to be agreeing with each other a lot at the moment Red. 🙂

    In some ways we have things completely around the wrong way with teaching. It seems that the most academic self-motivated learners get the best teachers. However, these students don’t really need to be taught. They need something more akin to coaching to help direct their motivation.

    It is the under-performing students who should be getting the best teaching. These are the students who need to be motivated by teachers who are able to connect with them and inspire them towards learning. There is plenty of evidence that students from very dysfunctional backgrounds are able to excel when they get this sort of teaching.

  10. T 10

    Tangentially, from the BBC:

    [IgNoble] Management Prize: Alessandro Pluchino (Italy) and colleagues for demonstrating mathematically that organisations would become more efficient if they promoted people at random.

  11. Fabregas4 11

    I’ve always found that high performance leads to high pay – or I leave and go to an employer who is better. And yes, when I’ve been useless I din’t get more pay – which is fair enough though mostly in hindsight.

  12. Maggie 12

    I was involved with the BNZ when it negotiated a performance pay system with Finsec. The staff loved the idea, we always believe we are better than the other people we we work alongside. But they quickly became disillusioned. The only way the bank could get the system accepted was to keep throwing money at it.

    Major problem was the concentration on individualism, team work went out the door. Staff with sales skills were rewarded if they good sales figures, which often meant the skill to sell products to people who didn’t want or need them. Branch staff at a university campus were expected to sell superannuation to students, FFS.

    The bank also wanted to treat all sales staff alike whether they worked in Karori or Naenae…..

    And how do you measure performance of staff whose role is service, such as tellers? Give them a point for every time they smile?

    • Colonial Viper 12.1

      All led by management theorists who have no frakin idea how to make a real operation hum along with team work.

  13. ianmac 13

    I’ve been away and what a pleasant surprise to read all of the above post and comments. I thought that I was alone in my strong belief that performance pay would divide and weaken groups of people. Teaching is a cooperative profession, but if one was going for performance pay they would be wise to keep the skills and talents hidden from the competition. It is quite possible that NAct are lining Education up for P.Pay. Watch out!
    Amazing to see above usual opponents in agreement. 🙂

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