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Incentives: The Failure & The Fix
Episode 26
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Today at a Glance:
Incentives are everything—an uber-powerful force governing our interactions, organizations, and society.
Unfortunately, humans are astonishingly bad at establishing incentives—we consistently create systems that invite manipulation and unintended consequences.
The framework for better incentives involves six key pillars: Objectives, Metrics, Anti-Metrics, Stakes & Effects, Skin in the Game, and Clarity & Fluidity.
Incentives: The Failure & The Fix
“Show me the incentive and I will show you the outcome.” — Charlie Munger
Incentives are everything—an uber-powerful force governing our interactions, organizations, and society.
Well-designed incentives have the power to create great outcomes; poorly-designed incentives have the power to…well…create terrible outcomes.
Unfortunately, humans are astonishingly bad at establishing incentives—we consistently create systems that invite manipulation and unintended consequences. More often than not, we wind up in the poorly-designed camp scrambling for answers and quick fixes.
Let’s change that…
In today’s piece, I will share a framework for establishing incentives (that actually create desired outcomes).
Incentives: The Failure
Let’s start with a basic definition of incentives:
Incentives are anything that motivates, inspires, or drives an individual to act in a specific manner. They come in two forms: intrinsic and extrinsic.
Intrinsic incentives are internal—created by self-interest or desire. Extrinsic incentives are external—created by outside factors, typically a reward (positive incentive) or punishment (negative incentive).
For today, we'll be focusing on extrinsic incentives…
In a (very) simple model, extrinsic incentives involve two key components:
Measure: The metric that the individual or group will be judged upon. The measure can be quantitative (KPIs, metrics, etc.) or qualitative.
Target: The level of the measure at which a reward or punishment will be initiated. The target can be specific (you receive your incentive if the KPI hits X level) or general (you receive your incentive if your manager is satisfied with your work).
But there is a real problem here. This simple model of incentives—which will feel familiar if you have ever worked in the government, a large organization, or anywhere really—often leads to undesirable outcomes and unintended consequences.
Goodhart’s Law
Goodhart’s Law is quite simple: When a measure becomes a target, it ceases to be a good measure. If a measure of performance becomes a stated goal, humans tend to opti
Published on 4 years, 3 months ago