PSY 6450 Unit 8

1. PSY 6450Unit 8 Performance and Pay

2. Schedule • Exam (35 points) on Monday, 11/26 • Monday after Thanksgiving break • Reminder - if you want your project grade before ME2, projects are due Monday, 12/03 • Otherwise, final due date during final exam week, Monday, 12/10

3. A Little Introduction • My main thematic line of research has been the effects of individual and small group monetary incentives on employee performance and satisfaction • Most of that work has been “bridge” research

4. Bridge Research • Bridge research • Laboratory simulations that address practical questions from organizational settings • The main advantage of bridge research • Isolation of the effects of incentives from administrative and organizational changes • The main disadvantage of bridge research • Relevancy to actual work settings

5. Relevancy to Work Settings • Caution is good (and recommended) • Reviews, though few in number, have indicated that the results of field studies and laboratory studies are similar • Jenkins (1986), Jenkins, Mitra, Gupta & Shaw (1998) • Hantula (2001) • Bucklin & Dickinson (2001) • We have found similarities as well • Frisch & Dickinson (1990) • LaMere, Dickinson, Henry, Henry & Poling (2000)

6. How I Got My Start: The Practical Beginning • Union National Bank, Little Rock, AR • Individual monetary incentive systems implemented in early 1980s • William B. Abernathy, H. Hall McAdams, Wayne Dierks, Kathleen McNally • By the late 1980s, 75 systems had been installed, covering 70% of the bank’s 485 employees • Productivity increases of 200%-300% • Net profit per employee $11,000 compared to $4,950 for other Little Rock banks • Program committee for ABA • While scheduling, call from someone important

7. How I Got My Start:The Academic Beginning • The role of financial compensation in industrial motivation Opsahl & Dunnette (1966) • Appealed to researchers to conduct controlled laboratory studies because:

8. Opsahl & Dunnette, 1966 “Strangely, in spite of the large amounts of money spent and the obvious relevance of behavioral theory for industrial compensation practices, there is probably less solid research in this area than in any other field related to worker performance.” (p. 94)

9. Individual Monetary Incentives:Research Since 1966* • 20 years later: 28 systematic studies of individual monetary incentives Jenkins (1986) • 12 years after that: 39 systematic studies of individual monetary incentives Jenkins et al. (1998) • Meta-analytic review • Individual incentives had an overall effect size of .34 *excludes survey studies

10. Group Incentive Research* • ~13 published studies Honeywell-Johnson et al., 2002; Culig, 2005 • Only 8 have compared the effects of individual incentives and small group incentives (N = 2-12 group members) • My students and I have done 3 of those * excludes survey studies

11. Prevalence in Business:Individual Monetary Incentives • 90% of Fortune 1000 companies have some type of individual incentive plan Ledford, Lawler, & Mohrman (1995) • 47% of 1045 companies surveyed by Hewitt had individual incentive plans • Rewards were based on specific employee performance criteria Hewitt Associates (2005)

12. Prevalence in Business:Group Monetary Incentives • 87% of Fortune 1000 companies have work group or team incentives Lawler, Mohrman, & Ledford (1998) • Fortune 1000 companies increased their use of work group or team incentives by 50% between 1987 and 1996 Ledford & Hawk (2000)

13. About The Beginning Again • My students and I began this research In the late 1980s when only about 20 systematic studies had been conducted • We began with questions raised by both Union National Bank and Opsahl & Dunnette • What relationship is there between the % of incentive pay and performance? • What relationship is there between the absolute amount of the incentive offered and performance? • Are small group incentives just as effective as individual incentives? • Do small group incentives decrease the performance of high performers?

14. Caveat: Quote of the Day “A careful examination of criticisms of monetary pay-for-performance systems indicates not that they are ineffective, but that they are too effective.” (p. 597) Baker, Jensen, & Murphy (1988)

15. Finally, SO1: Three goals and three types of equity related to each • To attract and retain good employees - External equity Are the salaries/pay of employees competitive with what other companies are offering, both in the local community as well as in the particular industry • To insure that the salary attached to a particular job is fair in terms of the importance of the job to the organization - Internal equity This goal has nothing to do with how well a particular individual performs the job - it only relates to the relative worth of the job to the organization (but influenced by supply and demand) • To motivate and reward employees - Individual equity Does the pay system encourage high performers? Are higher performers paid more than lower performers? (computer programmers vs. secretaries, Business and engineering profs vs psychology vs English, behavior analysts tend only to focus on 3) )

16. SO2: The Motivation Problem with Hourly and Salary Pay • You get what you pay for If you pay for hours, you get hours, not performance. Economically it makes more sense for employees to take as much time as possible to complete their work. And, if you can finagle overtime, all the better (Overtime = 150% or 200% of base) • Consequences In hourly wage systems, there are clear consequences for performing below a minimally acceptable performance level (criticism, threats of dismissal), but there are no clear consequences for performing above that level. Thus, hourly wage systems tend to support minimally acceptable performance

17. SO2: The Motivation Problem with Hourly and Salary Pay • Merit pay hourly increases Even if companies adopt a “merit pay” policy, there is still a weak link between performance and pay. Why? Merit pay is almost always based on annual subjective performance appraisals. And, as indicated in previous units, self-assessments often do not agree with supervisory assessments (we rate ourselves higher than our supervisors rate us); hence employees do not believe their pay is related to their performance in a meaningful way

18. SO3: Skinner on Incentives • We know, without a doubt that monetary incentives will increase performance but • They have been given a bad rap - perhaps for good reasons - many object to them • Primary reason - they are exploitative • And they can be, but they don’t have to be - don’t throw the baby out with the bath water! • Skinner maintained that incentive systems may, in fact, be less aversive than hourly pay systems

19. SO3A: According to Skinner, what maintains performance under hourly wage systems? No one works on Monday morning because he is reinforced by a paycheck on Friday afternoon. The employee who is paid by the week works during the week to avoid losing a standard of living which depends upon a weekly wage. A supervisor who can discharge him is an essential part of the system. Rate of work is determined by the supervisor (with or without the pacing stimuli of a production line), and special aversive contingencies maintain quality. The pattern is therefore still aversive. Somewhat better contingencies are available under schedules of reinforcement based on counters rather than clocks. (ratio schedules of reinforcement) (what Skinner is pointing out here is that hourly wage systems control behavior via aversive contingencies - use this as a defense of reward systems in general, by the way)

20. SO3B: Skinner on incentive systems Skinner readily acknowledges that incentive systems can and have been misused, but notes that incentive systems: May evoke feelings of confidence, certainty of success, and enjoyment arising from a sense of mastery and effectiveness, and interest in the job as occurs when behaviors are frequently reinforced. • Note that Skinner is not addressing performance issues here, but rather addressing the fact that incentive systems may be less aversive emotionally. • Also, note the italicized section - this is important • Incentive systems are no different in this respect than any type of reinforcement system where individuals are frequently reinforced • Respondent behavior interpretation: R (work) ––> Sr (incentives) CS (incentives) ––> CR (feelings of confidence, etc.) (anectodal - MI disposal aunt, happier, loyal, improved marriage; UNB proof operators, Kate acousted in grocery store - don’t hire anyone else))

21. SO4: Bucklin & Dickinson, intro, NFE • Bucklin and I were interested in determining whether different types of monetary incentive systems affected behavior differently (not whether incentives were effective, we knew they were) • We discovered, as did Jenkins et al., simply was not a lot of research • Only three thematic lines of research that have investigated/manipulated parameters of incentive systems • Percentage of incentive earned: 5 studies • Schedules of reinforcement: 8 studies • Per piece amount: 2 studies

22. SO4: Bucklin & Dickinson intro, cont, NFEThree Thematic Lines • The percentage of total pay or base pay earned in incentive pay • 3%-100% of total wages or base pay wages earned in incentive pay • Schedules of reinforcement • Incentives delivered on different fixed and variable ratio schedules (CRF, FR2, VR2, VR4) • Linear, accelerating and decelerating piece rate pay systems • Piece rate amount remains constant, increases or decreases as the number of pieces completed increases

23. SO4A: Conclusions Will be provided in lecture

24. SO4B: Implications It appears that you don’t have to worry a lot about the details of how incentives/consequences are related to performance - as long as they ARE related in some type of ratio schedule, delivered fairly frequently, and supported by some type of on-going feedback system.

25. SO5: Three reasons why it is not surprising that profit sharing has not been shown to increase performance(intro, NFE) • In the study objectives I describe some popular types of “nontraditional” pay systems • Profit sharing • Gain sharing • Bonus or lump sum payments • Group incentive plans • Individual incentive plans • Pay for skill and knowledge • Employee stock ownership plans

26. SO5: Three reasons why it is not surprising that profit sharing has not been shown to increase performance(still intro, nfe) • First, note that I have not referred to all of these as “incentive” systems or pay-for-performance plans • In order for me (Abernathy agrees) to classify a pay system as an incentive or pay-for-performance system it must use a predetermined formula to tie compensation to objective performance, operational or economic measures. • This eliminates: • Bonus and lump sum payments, pay for skill and knowledge, and employee stock ownership plans

27. SO5: Three reasons why it is not surprising that profit sharing has not been shown to increase performance(still intro, nfe) • Of these, profit sharing is the most prevalent • Also represents the “other end of the continuum” from individual incentives with respect to two very important variables that affect performance • Number of individuals whose performance contributes to the determination of how much money each employee gets • Disbursement system - how frequently the money is disbursed • So I am going to analyze this system, and you can do similar analyses for the ones “in between” (in any event, back to profit sharing)

28. SO5: Essential features of profit sharing (NFE) • When annual profits are above a predetermined level, part of those profits are distributed to employees • Formulas for distribution are quite complicated, but usually the amount of money that is distributed to any one employee is based on a percentage of the employee’s salary, thus employees do NOT get the same amount • The money is usually distributed annually, or more commonly, placed directly into the employee’s retirement account (tax benefits)

29. SO5: The first reason why profit sharing often does not increase employee performance • Profits are based on the aggregate performance of all members of the organization. Thus (depending upon the size of the company) one person’s performance contributes only a very small proportion to the total performance of the organization. Hence a person’s performance is not strongly related to his/her pay. • Even with only 100 employees, any one individual’s performance contributes only 1% to the total performance of the organization • In small companies, however, profit sharing might just affect performance (in sos, but not explained adequately for the exam; mistake - it’s not that everyone gets a small $$)

30. SO5: The second reason why profit sharing often does not increase employee performance • Profits are often affected by factors that (a) have little to do with the performance of individuals and (b) are outside of their control such as - include following in answer: • Mergers, acquisitions, building a new factory or plant, investment of funds in research (bonuses highly uncertain and unpredictable) • Union National Bank - the performance of the proof operators actually had little to do with the overall profitability of UNB (in sos but not explained adequately; what is the main factor that influences bank profits?)

31. SO5: The third reason why profit sharing often does not increase employee performance • Annual distribution of profit-sharing bonuses or distribution of money into retirement accounts • Simply too delayed to have much effect on performance

32. Percentage of Base Pay or Total Pay Earned in Incentive Pay (next several SOs relate to the incentive percentage studies)

33. Percentage of Incentive • In many incentive systems employees receive a base pay and can earn additional money in incentives when performance exceeds a specified standard • Given that the total amount that can be earned remains constant, as the percentage increases, more of a person’s pay becomes dependent upon performance

34. Incentives as a Percentage of Total Pay

35. Percentage of Incentive Studies:Main Research Questions (NFE) • What is the lowest percentage of incentive pay that affects performance? • Do different percentages of incentive pay affect performance differently?

36. SO9: What’s the “magic” percentage of incentive according to compensation experts? Will be provided in lecture (based on tradition - WWII, war labor relations board)

38. SO10 : Employee perceptions of fairness of incentive percentages If employees do not have a high degree of control over their performance, why are they likely to perceive high percentages of incentive to be unfair? • A sizable portion of their total earnings will be based on factors outside of their control (i.e., can’t control their own earnings much), and further, • If those factors fluctuate from day to day or week to week, their earnings will not be predictable • People have fixed living expenses: • Apt rent or home mortgage • Car payments • Expenses for kids

39. SO11: Employee perceptions of fairness of incentive percentages If employees do have a high degree of control over their performance, why are they likely to perceive low percentages of incentive to be unfair? • With low percentages of incentives, base pay constitutes a relatively high portion of their total earnings and the incentive earnings constitute a relatively low portion, thus: Differences in performance between individuals will not be adequately reflected in differences in earnings • That is, low performers will earn just about as much as high performers • Not related to the fact that individuals won’t make a lot more money if they perform better - that is a satisfaction issue, not a fairness issue: This is a common error by students on the exam! (some have had trouble with this in the past)

40. Frisch & Dickinson, 1990 • Participants: 75 college students • Five conditions • Hourly pay: (0% of pay) • Incentives: • Planned: 10%, 30%, 60%, or 100% of base pay • Actual: 3%, 13%, 25%, 54% of base pay (can’t calculate this until after the study is over and you know how much participants actually earned - we assumed participants would perform better than they did) • Sessions: Fifteen 45-minute sessions • Task: Simple assembly task Assembling parts from bolts, nuts and washers • Measure: Number of correctly assembled parts

41. 25% 54% 3% 13% Incentive pay Hourly pay Hourly pay

42. Summary of Results: Frisch & Dickinson • Participants who were paid incentives performed significantly better than those who were paid hourly • Participants who were paid incentives performed comparably, regardless of the percentage • 3%, 13%, 25%, and 54%

43. SO13A: The relationship between the amount of pay earned and the percentage of incentive Most $$ 0% 3% 13% 25% 54% Least $$ Inverse relationship between the amount earned and incentive percentage

44. SO13B: Why is that relationship important? • It helps answer the following two questions: • Did people perform better because they earned more money? • In other words, does the total amount of money earned affect performance? Is that a critical determinant of performance? • Did people perform better because they received more money per piece (per part assembled?) • In other words, does the amount of the per piece incentive affect performance? (students have had trouble with this so in the past, so I want to start with this material - the actual answers are on the next slide)

45. SO13B: So, why is that relationship important? • Participants who earned incentives made less money than those who were paid hourly, but performed significantly better; thus the total amount of money earned cannot account for the higher performance • Participants in the four incentive groups received different per piece incentives, yet they performed the same, thus the per piece incentive did not affect performance

46. SO 14: Frisch & Dickinson:Particularly Interesting Results • Those who received only 3% of their base pay in incentives - only 11¢per 45-minute session - performed significantly better than those paid hourly • Higher percentages of incentives did not result in better performance - rather participants who earned different percentages of incentives performed the same

47. LaMere et al. Field Study, 1996, intro • There is actually only one study objective for the exam over this study, but it was a very important study from our perspective • We had found that • a very low incentive percentage (3%) significantly increased performance and • higher incentive percentages did not increase performance • Was that an artifact of the study being conducted in the laboratory? • In the LaMere et al. field study we were able to examine the effects of three incentive percentages (3%, 6%, and 9%) on the performance of actual workers SO15: Lowest and highest incentive percentage examined?

48. LaMere et al. Field Study, 1996, intro • Participants: 22 roll-off truck drivers • Deliver large waste disposal dumpsters to commercial and construction sites • Multiple baseline design across 2 groups • Hourly pay: G1, 20 weeks; G2 34 weeks • 3% incentive: G1, 28 weeks, G2: 15 weeks • 6% incentive: Both groups, 39 weeks • 9% incentive: Both groups, 107 weeks (collected data for almost 4 years!)

49. LaMere et al. Field Study • Incentive pay • Per job incentive for above average weekly performance • Controlled for different types of jobs and the number of miles driven • Lost incentives for the week for a chargeable accident • Received as part of weekly paycheck, but the amount of incentives was listed separately on the pay stub • Feedback • Daily self-recorded feedback • Group performance was graphed weekly and publicly posted

50. Results: LaMere et al. • Both groups significantly increased their performance when the incentive system was introduced • Both groups maintained their high performance for the rest of the study (almost 3 years) • Both groups performed comparably when paid 3%, 6% and 9% incentives