This blog post examines how monetary rewards distort or enhance human motivation and organizational performance, using case studies to explore the question: Are incentives a drug that boosts performance, or a poison that ruins organizations?
Are incentives a drug or a poison?
Two friends decide to diet to lose weight. After much deliberation, they make a bet: whoever loses more weight wins 100,000 won. Can this bet succeed? There’s an easy way to win: not by dieting diligently yourself, but by sabotaging your opponent’s diet. If the other person fails at dieting, you can win the bet without having to exert yourself to lose weight.
The misconception that incentives are always good
The word “incentive” is a key term that invariably appears when explaining people’s choices and behaviors. The common explanation is that if an economic reward is offered for achieving a certain goal, people will exert more effort to reach that goal. Considering that the market economy itself is fundamentally based on private property and structured to motivate people to work hard for greater income, this explanation sounds very natural.
This is why many companies have performance-based incentive systems, and some athletes include incentive clauses in their contracts that provide additional compensation if their performance exceeds certain benchmarks. However, the practice of providing performance-based incentives within companies or organizations can sometimes yield unexpected results, potentially negatively impacting members’ motivation or actual performance. While incentives can certainly be a means to drive better outcomes, they simultaneously carry the risk of backfiring. Therefore, a more cautious approach is necessary when implementing performance-based systems.
When incentive systems are well-designed, the direction in which organizational members strive for monetary gain aligns directly with the direction of the company’s performance improvement. In this case, a virtuous cycle is created where individuals receive rewards and the company also improves its performance. However, in reality, performance itself is often uncertain or difficult to evaluate objectively, presenting clear limitations to applying performance-based systems uniformly in all situations.
First, performance is significantly influenced by uncertainty, namely the impact of good or bad luck. For example, when the macroeconomic environment is favorable at a given time, product sales may naturally increase even without significant individual effort. Conversely, when the economy is poor, results may be unfavorable no matter how much effort is exerted. Without sufficient consideration of these factors, organizational members may adopt an attitude of waiting for luck rather than valuing effort, potentially losing the very will to strive for performance in the long term.
Furthermore, applying identical performance-based criteria to all departments without considering the nature of their work can also create problems. For instance, while marketing departments can be relatively easily evaluated by metrics like sales or performance, finance or risk management departments play crucial roles in the organization’s overall stability and sustainability. Yet, converting their contributions into short-term numerical metrics is considerably difficult. Applying the same performance yardstick to everyone without acknowledging these departmental characteristics inevitably breeds dissatisfaction among members.
Particularly, if incentives are poorly designed, there is a risk that organizational members may act in ways entirely contrary to the company’s intended direction. Misaligned incentive criteria can cause individual effort to diverge from the company’s performance improvement goals. For this reason, companies must consider both absolute and relative evaluation when designing incentives.
Absolute evaluation has the disadvantage of being heavily influenced by overall market sentiment, external conditions, and luck.
However, setting incentives based solely on relative evaluation by department can also create problems. Even in situations requiring interdepartmental cooperation, behaviors like obstructing each other’s work or refusing to collaborate may emerge as teams strive to secure relative evaluation incentives. If the structure inherently rewards actions that lower another department’s performance to boost one’s own relative standing, the overall organizational performance is likely to deteriorate.
Money isn’t everything
Another crucial aspect surrounding incentives is the conflict with non-monetary factors like conscience or affection for the organization. While people clearly respond to financial gain, they are also significantly influenced by conscience, compliance awareness, morality, and a sense of belonging and affection for the organization. If incentives are hastily offered to individuals who were previously working diligently out of affection for the organization, that work can suddenly transform into something done ‘for the money,’ potentially weakening their affection for the organization. Therefore, incentives must be used cautiously, ensuring they do not undermine the loyalty and affection of organizational members.
Dan Ariely, a professor of behavioral economics at Duke University, explains this incentive paradox in his book “Predictably Irrational” using a daycare center case study. To solve the problem of parents picking up their children late, the daycare introduced a system of fines. This fine was a kind of “negative incentive” intended to encourage parents to arrive earlier.
However, the outcome was unexpected. Parents who previously made efforts not to be late due to non-monetary factors like conscience or guilt no longer felt apologetic toward the daycare after the fines were introduced. Instead, they calculated solely whether they would have to pay the fine. Consequently, the system proved largely ineffective.
What deserves even greater attention is the situation after the fine system was abolished. Though the daycare center, flustered by parents’ reactions, eventually scrapped the fines, parents began picking up their children even later than before the system was implemented. The disappearance of fines did not automatically revive the feeling of ‘I should leave early because I feel sorry for the teachers’. This case clearly demonstrates that monetary factors can erode non-monetary ones, and that once lost, non-monetary motivation is not easily regained.
For this reason, when evaluating organizational members, it is necessary to consider not only simple performance assessments but also evaluations of attitude. Even if performance isn’t immediately apparent, there are undoubtedly members with high long-term growth potential whose results are merely delayed due to bad luck or external factors. To protect and nurture these individuals, it is necessary to supplement the imperfections of incentive systems through attitude evaluation.
The problem is that evaluating attitude is far more difficult than evaluating performance. Incentive requirements are typically presented as specific numerical targets, and whether these targets are met provides a minimum level of objectivity that members can accept. In contrast, evaluating attitude inevitably relies heavily on others’ interpretations and judgments, making it difficult to ensure sufficient objectivity. In this process, peer evaluation systems may even exacerbate conflicts and discord among members.
Conversely, forcibly establishing objective criteria to evaluate attitude can also lead to worse outcomes. In fact, one domestic company once incorporated the number of overtime sessions into performance evaluations, ostensibly to gauge employees’ loyalty to the organization. Once this criterion was introduced, employees had no choice but to increase unnecessary overtime. Consequently, the work environment deteriorated, and dissatisfaction with the organization grew even more.
There is no single correct answer for how incentives should be granted. Since the environments faced by companies and organizations vary, the incentive methods must also diversify accordingly. Moreover, people sometimes respond to incentives in highly creative ways. When systems change, people sometimes ingeniously, sometimes meticulously, find loopholes and act accordingly. While such reactions can sometimes benefit the company, they often do not.
Ultimately, what can be clearly stated is that the very attitude of approaching incentive systems in a simplistic and straightforward manner is inherently risky. Economics operates on the premise that providing people with the incentive of monetary gain will motivate them to work hard to obtain it. While this premise holds true to some extent, blindly applying this principle to real organizations, as we’ve seen, can lead to various difficulties and side effects.
Therefore, incentive systems must be designed with greater care and sophistication. Just because market economies operate on monetary incentives, wielding simple performance-based systems as if they were a universal panacea passed down through generations is a highly dangerous attitude. People’s responses are far more diverse than expected. They are not solely driven by monetary rewards but are also influenced by a sense of belonging and affection for the organization, as well as various non-monetary factors. Failure to consider this can lead to outcomes significantly different from what was anticipated when introducing incentives.
Consider another example. When foreign baseball player Jose Perreira signed with the Samsung Lions, his contract included not only weight incentives but also body fat percentage incentives. Weight incentives were initially set because weight loss aids performance improvement, but relying solely on weight incentives risked players resorting to starvation diets. Therefore, by adjusting the incentive based on body fat percentage, the goal was more clearly defined as ‘managing health’.
As seen in this case, incentives can certainly be used appropriately. However, the process requires thorough consideration, meticulous design, and a certain level of creativity. We must not forget that incentives can be medicine, but depending on their design, they can also be poison.
