Bad Incentives Create Toxic Organizations. Here are 3 Steps for Avoiding Them

The idea of incentives seems very simple. Set a goal and offer a reward for achieving it or a punishment for not. Many leaders believe that this is their primary work. To set targets and build incentives for teams to reach them. There’s just one problem: It doesn’t work. In fact, it often backfires spectacularly. Often, it’s these incentives that lead to toxic cultures.

Goodhart’s Law: Why Incentives Often Fail 

Goodhart’s Law says: “When a measure becomes a target, it ceases to be a good measure.” That carrot you’re attaching to the target will cause employees to game the system to reach it, nearly always at the expense of something else you care about. For example, if you set a target and offer a bonus for increasing the number of calls that customer service agents take during their shift, watch how fast those agents start abruptly ending calls with customers to get to the next one. They’ll reach your target but at the expense of the customer service experience. Essentially, Goodhart’s Law means that you will get exactly what you ask for, even if it’s bad for the company and that makes setting targets to drive behavior quite risky.

Groups like human resources and finance—who, themselves, are operating with internal and external targets and incentives—create policies that often translate to targets and incentives for leaders all over the company. These leaders then begin acting in toxic ways to reach their targets with far-reaching impacts on employee engagement and innovation. Employees get misused and abused so the leader can receive their reward. Yes, they reached their target, but they left a trail of disengagement, burnout, high turnover, and resentment in their wake, and no one above that leader seems to notice or care. Dozens or hundreds of employees are impacted when leaders succumb to Goodhart’s Law for their own targets, resulting in a costly toxic culture.

So how does a company avoid this fate? There are three important steps that need to be taken: 

Step 1: Admit that Incentives Don’t Work 

The first step to avoiding Goodhart’s Law is to recognize that it’s real. A surprising number of leaders still believe that sticks and carrots are the best way to lastingly change employee behavior. Letting go of this idea would bring you up to date with cutting-edge leadership theory from (checks notes) 1975. It’s true. Study after study has concluded for over five decades that trying to incentivize behaviors with rewards and punishment will, at best, achieve temporary compliance. At worst, it will create a toxic environment that causes the company to lose innovation, productivity, talent, and engagement. Yet the belief in incentives persists. Let that belief go and watch your leadership style begin to change for the better.

Step 2: Examine Policies and Company Culture with a New Perspective 

Examine policies at the company and consider the ways people will game the system to comply with them. What spoken or unspoken sticks and carrots are attached to the policy? Will it cause fear? How will people respond to that fear? Will it cause unethical behavior? Does it combine or connect to other policies at the company to cause unexpected incentives? Does it cause leaders to make tradeoffs that sacrifice long-term success for short-term wins? What types of behavior does the promotion/employee review process drive at the company?

One company I worked with deeply limited the number of principal engineer positions allowed at the company. This drove engineers to apply for management positions because it was the only way for them to progress. If this sounds like a good outcome, what you’re not considering is that many of these people were not good leaders. They were good engineers who were just trying to increase their salaries and grow their careers. This one HR decision caused a huge increase in the number of poisonous leaders at the company.

Step 3: Use Science to Motivate 

Once you’ve acknowledged that incentives don’t work to control behavior and you’ve inventoried your policies and their impacts on the company culture to redecide their fate, you must now acknowledge the science. Those same studies in the past that concluded incentives don’t work also showed conclusively what does. Motivated employees who are aligned with the company’s purpose will modify their own behaviors to accomplish your shared goals in ways you could have never incentivized.

The data has consistently pointed to the fact that human beings are motivated by mastery, autonomy, and purpose. If you’ve ever had the good fortune of working for a company whose mission you believed in, you know this is true. Did anyone have to incentivize you to innovate or go above and beyond? Of course not. You were thinking about how to solve problems in the shower. You were in the zone at your computer while you wrote up the idea or demonstrated it to others. Companies can’t buy that kind of behavior with carrots or force it with sticks.

A leader’s job is much more difficult than just trying to figure out where to put cheese to get employees to run to the next corner. The job of a leader is to connect the employee’s fire to the company’s purpose by utilizing that employee’s own quest for mastery. Then set them free with autonomy to solve problems. Some form of this leadership advice has been around since 1960. Isn’t it time we let go of our old leadership modalities and followed the science?

Written by Sean Lemson.

Have you read?
Richest Billionaire Investors. Billionaire Winners. Billionaire Losers. Best Business Schools. Best Hotel Schools.