Saturday, January 14, 2006

What are the wrong types of incentives?

Consider the following scenarios. Do form your initial impression about the motivation of the people involved.
Case 1: On a hot summer day you see your friend standing in a queue for a blood donation camp.

Case 2: You meet Pretty Damsel, like her and in due time tell her, "I love you and would like to have sex with you."

Case 3: You are late for a date with Pretty Damsel. There is no speed limit and no speed enforcement. But you still don't speed beyond the limit because you don't deem it worth the risk.

Case 4: Pretty Damsel manages a daycare centre. She cannot leave with you immediately for a date after her work because parents are late to pick up their children from the centre. Hence she has to stay put till all of them have arrived.
Now reconsider their motivations in the light of the following developments.
New Case 1: You find out that they are paying Rs 200 per donation of blood.

New Case 2: Rewind a bit. You tell her, "I love you and would like to have sex with you. As a token of love, I am willing to pay you Rs 200 right now. "

New Case 3: Now you know there is a speed limit and there is lax enforcement, and the fine if caught is Rs 200.

New Case 4: You advise her to put a Rs 25 fine for late-coming parents.
In all these cases, an extrinsic incentive has been added to an intrinsic incentive. Intrinsic incentive is the motivation of our self without an added external incentive. Economic theory tells us that incentives change behaviour. However are they always proportional? What is the psychology of incentives? That is what we observe in the above four cases.

For the first case, studies of blood donation with and without monetary compensation showed that the paid system resulted in fewer donations and in different social characteristics of the donors.

Second case, volunteers' work is negatively affected by the introduction of small payments. Small is a relative term depending on the status of the volunteer. The same for wages paid to employees. Perception of small incentives matters.

The third and fourth cases are interesting. Before the introduction of the monetary amount, the driver or the parent did not really know how bad it is to drive fast or arrive late. Once the fines are introduced, it changes the situation. It may not result in deterrence any longer. In the case of speeding, my attention is shifted from the risk of an accident to the risk of being caught, and the small amount of fine conveys that the offense is not so severe. So I would actually end up speeding. In the case of the daycare centre (and this was done for a study) the number of latecoming parents actually increased. The fine conveyed that latecoming was affordable. Moreover after the fine was removed, the number of latecoming parents did not reduce.

So what is the lesson for us in the case of designing incentives? Consider the size of the incentives involved. Expect counterproductivity in the case of small incentives, especially in the case of money offered. Small would be relative to the status of the participant. And more importantly consider the perception of such incentives.

The above blog note has been based on a very interesting The W effect of Incentives by Uri Gneezy. My question is this: over a period of time can the nature of these perceptions of incentives change?

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