On Incentives and The Love of Large Machines

[danieldwilliam]

Today’s foray into the Ten Pillars of Economic Wisdom is my response to the second of Henderson’s Pillars, Incentives Matter, Incentives  Affect Behaviour.

I used to work for a power company. We owned a Combined Cycle Gas Turbine plant. It was an engineering marvel and a thing of great beauty. It operated at thousands of degrees of heat. The ceramic tiles that covered the inside of the gas turbine were the same as those on the  Space Shuttle. The blades of the turbine were cast and machined as pure crystals of alloyed steel to tolerances of mind exploding fineness.

It cost about $100m to build and each of the hundreds of turbine blades was upwards of $10k.  Having it not running might cost us £1m a day in lost revenue.

The guys who built and maintained the kit were highly skilled, very dedicated, almost obsessive in their work. They would work for days on end trying to fix a damaged component.  If you ever want to see a love poem made flesh and blood go and watch some engineers fix a gas turbine. Some of them earned more than our CEO per hour, too. Rather, if the machine started working again on time, every time, they earned more than our CEO.

Every so often during a maintenance cycle we’d discover that someone had tried to sabotage the turbine.  Typically, they would leave an oily rag in the one of the vents where the gas entered the combustion chamber. I’ve seen what happens when a small piece of debris gets loose inside one of these machines. It’s heart breaking. Heart breaking and expensive.

So why would a maintenance crew so devoted and so well paid sabotage their own work?  Incentives. Incentives matter.

Not everyone working on the site was directly employed by our firm or by the primary contractor.  There were guys there to do scaffolding, guys there doing bits of non-critical welding, to be stand-by rescue ambulance technicians, guys there to clean the cabins where the maintenance crew ate and slept, car park attendants.  All of these guys were paid by the day.  They were paid to help fix the machine, but they weren’t paid if the machine was fixed.  The single best thing they could to increase their take home pay was break the machine again.

Putting it another way. Some of the guys were on the inside. If our team did well, they did well personally.  Some of the guys were on the outside.  If we did badly, they did well.

We had two choices.  We could become obsessive about security. We could get guys who were on the inside to police the guys who were on the outside. But they are expensive guys to have as policemen.  Policing people creates a climate of suspicion and disunity and, if you’re the kind of person who is going to be making and fixing power stations you don’t want to work with people who you don’t trust and who don’t trust you. That’s a disincentive to come and work for us, and we want only the best and most dedicated people.

So, our other choice?  Turn the outside guys into insiders.  We offered our secondary contractors on-time completion bonuses.  We made it clear that some of that bonus should go directly into the pockets of the folk working on the plant.  We explained that if our secondary contractors did a good job we would hire them again to work on this power station and we’d hire them to work on our other power stations. We created a common health and safety culture (using a series of public incentives ) and made sure that we were personally looking after the well-being of every person on site.

It took years. It was hard work. It was difficult negotiating the fine details of on-the-job contract performance with people you had come to consider over many years as insiders. But we were incentivised.  If it worked we didn’t have to worry about our billion dollar fleet of power stations being sabotaged. We were incentivised. If it worked we all got five or six figure bonuses. If it worked, we all got to go to the pub and congratulate ourselves on a job well done. 

So we shaped ourselves to be the kind of people, the kind of organisation that could and would build long-term relationships with our peripheral contractors. It cost us millions, but when our power station really, really broke it saved the whole company. Saved my job.

So, incentives matter. Incentives affected my behaviour.

What lessons does the student or amateur economic anthropologist draw from the second pillar of economic wisdom.

If you don’t understand why people are behaving in a strange way have a close look at the pay-offs. Be alert to the way incentives are working. How they actually play out. Who gets money (or other goodies) put into their pocket for doing what, exactly. What they are actually incentivising. Look at not just the cash but the pride and respect. Look at not just the hard incentives but how the incentives affect risks and contingencies.

We could have offered all the cabin cleaners 10% more money. All this would have done was increase their incentive to break things by 10%. We might have ended up with a group of more honest contractors, or we might have ended up with a group of contractors more cunningly able to break things undetected.

People might have bounded rationality but they do know what side of the bread the butter’s on and a lot of economic knowledge is tacit. The individual actor doesn’t need to know why a particular incentive drives their behaviour, they just need to know that’s how we do things round here.

Incentives matter. Watch the Money. Who benefits? And for What. If you don't understand behaviour, try looking at how the incentives work

Comments

[f4f3.livejournal.com]

"There's also a distinction between "I want money in order to have status symbols / flash it around / climb a ladder / etc." and "I want money in order to provide a stable home and a happy life for myself and / or the people I love."

Yes. Just this. I make an assumption that for most people the choice is not between working in an A or B job, but between working and not working, and not being able to eat.

[danieldwilliam.livejournal.com]

And I think this where my dismay arises.

If people didn’t have to work to survive I’m sure there are quite a few who would put up their feet and do not very much and there are probably many more that would invest their extra time in building relationships with family and friends. I don’t accept that there are only a handful who would not want to take on what we would recognise as work. Things need to be done, or are better if they are done, or provide some sense of worth beyond the exchange value of the time and taking on these tasks is source of dignity and an ennobling experience.

Today I think we trade some of that dignity and nobility for material security but I don’t think all of us trade all of it and I don’t think we should accept a situation where it is okay for the default position to be that work is only ever a means to an end and has no intrinsic value of its own. I find that a Thatcherite view of the world.

There are many, many examples of people who are more than wealthy enough to give up work and who decide not to. One might argue that that is because the kind of people who get to a point where they have the opportunity to chose between nothing and something are the sort of people who can’t sit still for five minutes. I think that if were all issued with a small, comfortable funished, flat and a daily food parcel we’d still want to build and create and interact. I think that is profoundly woven into the fabric of humanity.

I chose to believe that there is dignity in labour and that to reduce the work that humans do to a mere transaction is to discard our own nobility. We might as well be robots otherwise.

We’re better than that and we deserve better than that.

[f4f3.livejournal.com]

There's nothing I disagree with im what you say.

However.

"There are many, many examples of people who are more than wealthy enough to give up work and who decide not to."

What does that amount to as a percentage of the total working population? And what kinds of jobs are these wealthy people doing? Are they minimum wage, for instance? Do they have the freedom to define how they work?

I think we would all want to create, build and interact, but for the majority (and I'd say the vast majority) of people they would not continue to interact, create and build by doing the same job they are doing now. If the need to provide for themselves, and their dependents (if any) were to be removed, they'd find a different way to do those things PDQ.

Dignity is something that is very difficult to maintain when you are treated with contempt. My grandad was a worker for the council and he took no lip off nobody, and litter from the gutter (yes, I'm quoting, but it's true - he worked for Glasgow Cleansing Department, and when my dad left school he worked there too, until he started an apprenticeship). He was got a fair day's pay, and while I'm sure he'd have had problems paying to stay at the Malmaison, his money was good at the bar. He could hold his head up in any company.
i'm sure you've watched "The Boys From The Blackstuff". For me, that Thatcherite period was when the notion of the dignity of labour was killed.

The last thirty years have been about removing the dignity of labour in the professions. In those 30 years civil servants, teachers and health care workers have gone from being pillars of society to being portrayed by the majority of the press as featherbedded skivers who deserve everything that's coming to them.

Robots are what is required, in our brand of capitalism. Homo Economus right enough, human resources, who can slot into your outsourced business process and maximise shareholder return. Behaving with nobility in a system that treats you with contempt is the path of the saint or the fool. When one player tips up the gameboard, or cheats so badly that the rules cease to matter, then what has to change is the system, not the players.

[danieldwilliam.livejournal.com]

"There are many, many examples of people who are more than wealthy enough to give up work and who decide not to."

What does that amount to as a percentage of the total working population? And what kinds of jobs are these wealthy people doing? Are they minimum wage, for instance? Do they have the freedom to define how they work?

I'm thinking pensioners here. So, quite a large percentage of the population potentially available for non-money labour.

And potentially, 100% of the population at some point in their life (barring accidents).

[f4f3.livejournal.com]

So, I was talking about people who are currently working for money. Not retirees. And, even there, retiral age is being driven up, and value of pensions driven down, so, again, the vast majority of pensioners don't have that choice.

[danieldwilliam.livejournal.com]

Capitalism is what you make it - it's pretty flexible and democratic that way.

Companies *are* there to maximise shareholder returns but there is nothing in the rules that say those returns have to be in the form of cash. I think our system has made an error and confused "easy and easier to count" with "the only thing we do"

So, yeah people wouldn't do stuff in the same way and that would be good. (Leading volunteers I found hard work but rewarding.)

But do stuff they would do.

[f4f3.livejournal.com]

Capitalism is absolutely NOT what you make of it. Contracting power in capitalism is skewed towards the contracting party with the most resources.

There are no rules about how companies maximise returns, and encouraging them to build social capital is a nice thing, but doesn't seem to be making much ground.

Co-ops, and worker owned organisations have this built in from the ground up, but they are trying to play the same capitalist game, with a huge handicap.

[danieldwilliam.livejournal.com]

Contracting power is only skewed if there are people or organisations with significantly more resources. That we allow individuals or collectives to build up great stores of resources is a choice we make.

That the organisations that we work for and own don't build social capital is a choice we make.

Handicapping co-ops and other mutuals (if they are indeed handicapped) is again, a choice we make.

The conclusion I draw is that most people seem delighted with the form and behaviour of the capitalist system them are currently enjoying. Otherwise they would shop at the co-op.

[f4f3.livejournal.com]

"Contracting power is only skewed if there are people or organisations with significantly more resources."

Do you argue that isn't the case now?

"That we allow individuals or collectives to build up great stores of resources is a choice we make."

Who is the "we" here? Individuals? Governments? Society as a whole? Because as an individual you can choose to shop at the Co (and lots of people do) but you can't balance resources between contracting parties when it comes to employment, health provision or education.

The only thing I'm not entirely sure of is whether concentrating resources in the hands of a few is the point of capitalism, or just an inevitable consequence.

[danieldwilliam.livejournal.com]

"Contracting power is only skewed if there are people or organisations with significantly more resources."

Do you argue that isn't the case now?

Absolutely not. The current set up has lots of concentrations of resource. These are unhelpful.

Who is the "we" here? Individuals? Governments? Society as a whole?

Is there any difference between the three? In a democracy?

The only thing I'm not entirely sure of is whether concentrating resources in the hands of a few is the point of capitalism, or just an inevitable consequence.

I don't think it is either.

We have chosen to install liberal capitalism into an unequal set up and then chosen to operate it to perpetuate and at times widen that unequality.

We should not have allowed the Restoration in 1660.

User error I'm afraid. Problem located between desk and chair.

[danieldwilliam.livejournal.com]

All things being equal (and therefore handwaving away the conversion of huge numbers of Asian peasant workers into factory or professional workers and the simultaneous converstion of tacit knowledge into expert systems which have both had a deflationary effect on the wages of professional workers) I suspec they removal of social status from the professions would drive up the price.

Which would be a) a horrible self-fulfilling prophesy of a sort and b) decent pay back for a society who wanted to monetise everything.

[f4f3.livejournal.com]

"I suspec they removal of social status from the professions would drive up the price.
"

Why would you think this? It certainly hasn't driven up wages for teachers, doctors and civil servants (while driving up the cost in some ways, I agree).

Wages for lawyers sitting in Tesco will, I think, go down. Already much conveyancing is being done by unqualified assistants (nothing new - my sister was doing this 20 years ago) and the chance of doing Legal Aid work is being removed from a lot of cases.

Commoditised professional services means lower pay for the person performing the work, and bigger returns for the organisations employing them.

[danieldwilliam.livejournal.com]

I think you missed the bit in brackets.

But leaving the difficult reality of globalisation and technology aside.

My premise is this. That people will exchange their labour for a bundle of incentives, some of them cash, some of them not cash. If the non-cash incentives are reduced (through the policy of newspapers to in removing the status and dignity of professional workers then people will either demand more cash or remove their labour to other forms of work, creating a shortage and driving up the cost of labour until a new equilibrium is reached.

The fact that this is masked by other things going on just adds to the fun.

[f4f3.livejournal.com]

How can I follow your brackets when you don't close them?

Again, you assume that people will have a choice to move their labour elsewhere. The de-skilling of jobs that were seen as professional in the past is happening now. This will drive down the cost of that labour, not create a shortage. So, a Chinese peasant is not going to do your conveyancing. But a school-leaver with 5 O-Grades can. If they still had O-Grades.

[danieldwilliam.livejournal.com]

Punctuation is very bourgouise.

I don’t assume they will be able to move their labour.

I assume that, were the de-skilling, substitution and low priced competition not happening they would be more able to move their labour. In the medium or long run.

This might, or might not, have an impact on wages. I think it would. At the margin.

As, in real life, they are also being affected by Asian competition and changes in technology then it’s very difficult to see what effect, if any, is had by the reduction in non-cash value in the employment contract.


(I note we have fallen into the classic difficulty of experiemental economists – arguing over whether the data supports one view or another but unable to test the data any further to resolve the disagreement.

My testable hypothesis that if you treat people without dignity they will remove their labour or increase their required wages is unable to be tested here because other simultanious and parallel effects are drowing out the effect of the removal of professional status.)

[widgetfox.livejournal.com]

Ah, now I think we're getting at something. I don't regard that as a testable hypothesis.

[danieldwilliam.livejournal.com]

In what way is that not testable?

[widgetfox.livejournal.com]

For exactly the reasons you say.

[danieldwilliam.livejournal.com]

Well, yeah, the ethical issues of putting two economies in bottles and seeing what happens aside the task of gathering the data is difficult.

But not impossible.

How I would test my hypothesis would be to look at a number of matched organisations, examine to see if their culture treated people with dignity and then see if there was any significant difference in wage rates or staff turn-over or perhaps return on capital.

I would hope to be able to remove the effect of causes that affected the whole system and isolate only the treated with dignity part of my equation.

And there are people out there doing exactly that type of field work.

[widgetfox.livejournal.com]

Yes, and I don't believe it's producing meaningful results.

We may just have to write this off as a clash of belief systems.

[danieldwilliam.livejournal.com]

Yes, and I don't believe it's producing meaningful results.

That's a pretty extraordinary claim.

[widgetfox.livejournal.com]

To me, the reverse is extraordinary.

[danieldwilliam.livejournal.com]

How would one demonstrate that it was producing meaningful results?

[widgetfox.livejournal.com]

I just don't think one could, for a hypothesis of this nature. I'm trying to find a good analogy in the world of physics and haven't, so far. Basically I don't think it's mathematically possible for it to be true.

I'll keep thinking about this and looking for some better ways to explain what I'm trying to say.