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The Power of Incentives
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Journal Article
The Power of Incentives
2000
Overview
Variable pay is usually defined as paid that is tied to some measure of worker output. Why use variable pay? The typical reaction is that variable pay provides incentives to put forth effort. Although true, discrete-pay schemes also generate incentives. Compensation that depends only mildly on output can be a very effective sorting mechanism, and schemes that place heavier weight on output induce sorting inefficiencies. Tying compensation to performance induces a manager to put her money where her mouth is, but too close a relation of pay to output causes managers to pass up too many positive-profit opportunities.
