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Compensation & Incentives

Compensation & Incentives. Brief Overview of Compensation. Directly related to all org. policy goals investment matching motivation 3 basic elements level composition ($ v. benefits) pay for performance. Incentives: The Simple Model. Perf. measure = Q(e) + e measuring effect of effort

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Compensation & Incentives

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  1. Compensation & Incentives

  2. Brief Overviewof Compensation • Directly related to all org. policy goals • investment • matching • motivation • 3 basic elements • level • composition ($ v. benefits) • pay for performance

  3. Incentives:The Simple Model • Perf. measure = Q(e) + e • measuring effect of effort • depends on e • tradeoff measurement cost v. error • Pay = I[Q(e) + e] • e.g., b0 + b1[Q + e] • larger b1Þ more pay risk • Extrinsic motivation driven by • PFP = shape of pay function

  4. Shape of Pay-Performance Relation • b0 = level of pay ·b1 = slope • no incentive » incentive intensity except firing threat » also determines risk • Tradeoff incentives v. risk

  5. Shape: Examples

  6. Performance Measurementa. Controllability • A random event occurs ... • Hold the employee accountable? • e.g., Q + e = (a + a)·e + e • a known by worker ex ante • known by firm ex post • if employee affects response to event, yes • if relevant decision rights are given to another employee, no • need for ex post subjectivity in evaluating performance

  7. Performance Measurementb. Distortions • Lensing metaphor • broader measures include more ... • effects of actions (controllables) • uncontrollables • key perf. measurement tradeoff • narrower measures reduce risk but induce distortions • most perf. meas. issues are about distortions • teams • relative evaluation • quantity v. quality • maintenance • short / long term (alienability)

  8. Incentives:The Multitask Model • For each task j ... • Qj = perf. measure • PFPj = shape of pay • relative weights PFPj balance incentives across tasks • relative price system • coordination mechanism

  9. Weights & Measures • How to set weights across performance measures? • difficulty of task (MDj) • value of task (MPj) • error sj² in measure • set some to zero • implicit/ subjective weight ...

  10. Defining Jobsby Measurement Characteristics • Bundling tasks into measures • automatic weights / coordination across tasks • complementary tasks • Task Identity • Bundling measures into jobs • similar measurement error

  11. Incentives: Fit w/ other Org. Policies • Careers • incentives for skill acq., firm specific human capital • promotions may be incentives • Job / org. design • allocation of decision rights • Voice • info. for decision making • feedback perf. measures • implicit contracting when there is subjectivity

  12. Subjectivity & Incentives • Subjective ... • ... measures • ... weights on objective measures • why? • ‘lensing’ adjustment of uncontrollables • dynamically adapt weights • abstract, complex, knowledge work • necessary in nearly all jobs • problem of trust • implicit contracting • supervisor incentives • process issues

  13. SomeSummary Points • You get what you pay for • incentives work; that’s the problem! • Texas chain saw of motivation • does not imply that extrinsic motivation should be ignored • To mitigate distortions, use ... • overlapping incentives • controls • Incentives v. intrinsic motivation • creativity

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