Question

Why do incentives matter? Which system provides the “best” set of incentives? Explain.

Answer 1

Economic incentives are what motivates you to behave in a certain way, while preferences are your needs, wants and desires. Economic incentives provide you the motivation to pursue your preferences.

Let's look at a basic example. Let's say you want wealth. You are motivated to work because you will be paid, which will help you achieve your preference for accumulating wealth. Of course, economic disincentives discourage behavior. Taxes are a prime example of disincentives because they make products and services more expensive.

Extrinsic Incentives and Intrinsic Incentives

Extrinsic incentives come from outside of a person. These are the typical economic incentives that you probably think about all of the time. Extrinsic incentives include cash rewards, bonuses, income and profits. However, it's not all about money. External incentives can include such things as peer recognition, fame, social status and power. Some of these incentives will work better than others, depending upon your preferences. Someone may care more about social status, for example, than money.

Intrinsic incentives are psychological incentives and are internal to the person. Getting satisfaction from work is an intrinsic incentive. The feeling of making a difference in the world is also an intrinsic motivation - regardless of whether you actually make a difference or not. Sometimes extrinsic motivations will trump intrinsic motivations. For example, the idea of building a home for the poor makes you feel good, but you will gladly accept pay to do it, which ends your spirit of volunteering.

Keep in mind that extrinsic and intrinsic incentives are not mutually exclusive. They can work together. For example, you may not care much about money, but you do tend to enjoy power. You also want to change the world. These two incentives motivate .

Here are five methods to keep employees motivated to do their best work.

1. OFFER AN “IDEA BOUNTY”

Employees love bonuses, which can come in many forms. Hannah Witten of GoFanbase recently told me about a great way to encourage discussion and give all team members an equal opportunity to contribute. Employees propose a fully fleshed out idea (with processes) that would help improve the business, Witten says. “Their fellow coworkers then vote on the concept. Once an idea is voted in, the founder approves it. Once implemented, the employee receives a $20 “idea bounty.”

To build this program into your company’s culture, you could create healthy competition by tracking how many “idea bounties” are awarded to a single employee within a certain period of time.

2. SWITCH UP THE WORK DAY

Not everyone thrives in a nine-to-five environment. For hourly workers, try replacing the structured work day with an agenda of tasks to accomplish within a set window, then leave it to employees to figure out how best to accomplish them.

Try replacing the structured work day with an agenda of tasks to accomplish within a set window.

“I give my crews benchmarks to work towards instead of them punching the clock and working from 7 a.m. to 5 p.m. regardless of what they get done,” Collin Hanks of Hanks Construction, LLC tells me. “The benchmarks let them know that if they work hard and get stuff done faster, they can go home early and are still paid as if they worked till 5 p.m.”

Employees tend to work better when they feel a sense of accomplishment, and untimed daily to-do lists can help boost their efficiency as well as morale.

3. BLOW OFF STEAM ON-SITE

While I was in school, I worked at a law firm that had a gym inside the building and offered free yoga classes. It was great! Plenty of companies now offer on-site yoga, but you can go further than that. Why not try teaching your employees some fun dance moves.“Our team likes to keep fit [and] dance . . . so we hired a Beyoncé dance instructor to teach her moves in our office while projecting 20-foot-tall YouTube clips on the wall,” Will Nathan of HomePolish tells me. “In addition to bringing the team together, it’s come to embody our core value of ‘keeping it fun’ and helps potential recruits get a taste for our culture.”

Bringing extracurricular activities into the workplace helps break up the monotony and can create some really unique team-building opportunities.

4. ENCOURAGE CREATIVE TIME OFF

Inspire your employees to try out some unique twists on using their paid time off. Dan Novaes of Nativ is an advocate of the unlimited vacation policies that are gaining steam in some quarters. He recently spoke to me about the creative freedom the approach encourages: “Our company offers unlimited paid time off and is performance-driven, so we believe in giving our team the tools to be creative and have freedom.”

Another unique option is to offer PTO specifically for volunteer service. “We’ve found it is a great benefit to offer employees paid time off to volunteer, because it demonstrates our commitment to the community,” Sarah Schupp of UniversityParent tells me. “Occasionally, the team will pick a project and work together on something to serve the community, such as organizing food for a food bank.”

Bringing extracurricular activities into the workplace helps break up the monotony.

My own companies don’t institute strict PTO specifications. Instead we offer a combination of flexibility and accountability. That requires being very clear about what responsibilities and expectations we have for employees who utilize our flexible PTO policy. As long as everyone knows what they’re accountable for, taking time away from the office is something to be encouraged.

5. OFFER EQUITY (BUT NOT IN THE WAY YOU THINK)

Offering equity to exceptional employees is hardly a new concept, but many CEOs have found a way to put their own spin on it by offering equity that increases based on the valuation of the company.

“I have structured some employee agreements so that they get more equity vested when the company is valued higher, as opposed to passing-of-term, which is usually observed in the industry,” Sohin Shah of iFunding recently explained to me. “This incentivizes everyone to work harder on making the company worth more, and thus own a bigger chunk of it.”

As a business owner, I am an advocate of the build-and-sell model. We offer an ownership percentage to our key employees, which is activated upon sale of the company. Consider what your five-year plan is for your company and implement accordingly.