insentives

Incentives, commonly misspelled as insentives, are devices intended to influence behavior by offering rewards or penalties. They can be financial, such as salaries, bonuses, commissions, subsidies, tax credits, or fines, or non-financial, such as recognition, status, or opportunities for advancement. Incentives can be intrinsic (driven by personal satisfaction) or extrinsic (driven by external rewards).

Mechanism: Incentives alter the perceived costs and benefits of alternative actions, guiding choices when information is imperfect or outcomes are uncertain. In organizations, incentive schemes aim to align the interests of individuals with those of the organization. However, poor design can lead to unintended outcomes, such as gaming, short-termism, risk-taking, or unethical behavior, and may even crowd out intrinsic motivation.

Design considerations: Objectives should be clear and measurable, incentives aligned with long-term goals, and fairly distributed. Administrative costs, transparency, and avoiding perverse incentives are important. It is prudent to consider potential unintended consequences and safeguards against manipulation.

Applications: In business, performance pay and commission plans; in government, tax incentives and subsidies; in health care, pay-for-performance; in environmental policy, cap-and-trade and subsidies for clean technology; in education, performance funding or scholarships.

Overview: Incentives are a central concept in economics and organizational psychology, used to study and influence behavior through reward structures. Related ideas include the principal-agent problem and the crowding-out effect.