EC 6 Flashcards
Target ratcheting
using information about past performance to set targets for the next period
Rachet effect
The strategic response by the agent to restrict output/performance in the current period to receive more attainable future targets to maximize long-term payoffs
Kroos (2011)
- Updating targets based on past performance (target ratcheting) induces employees to
withhold effort in order to mitigate the increase in next period’s targets (the ratchet effect) - The ratchet effect strengthens when quarterly bonuses are paid out and when last quarter
sales are used to set next year’s targets - Rotating managers across stores does not reduce the ratchet effect
Implicit agreement
What do the prinicpal and agent have to agree on?
1. Principal: Not revising the targets upwards when the target deviation is the result of superior effort or transitory gains.
2. Agent: Not restricting output when the principal’s target revisions are the results of structural changes in the operation’s true economic capacity.
To maintain the implicit agreement, the principal wants to know whether the positive sales
target deviation is driven by true value (superior effort) and/or noise (transitory gain)
Implicit agreement better to measure
- Peer perfomance
- Volatiltiy is low
- trust
Bol & Lill (2015)
- In general, the implicit agreement between principal and agent to not engage in
target ratcheting and output restriction is more likely to be maintainable when - The information asymmetry regarding the source of the observed value of the
performance measure between principal and agent is smaller. - There is trust between principal and agent
- The information asymmetry is likely to be smaller when
- You are a top performer among peers
- The environment is more volatile
- There is a high level of trust between principal and agent
- In a lot of situations, there is an implicit agreement between principals and
agents to not ratchet the targets (principal) and not engage in strategic
output reduction (agents) - Such an agreement can only hold over time when the principal can ‘find out’
whether the positive target deviation is not driven by an increase in the true
economic capacity. - The information asymmetry about the underlying driver for the positive target
deviation is smaller - When being a top performer among peers
- When volatility is higher
- When the principal has high trust in the agent
Crowding-out effect:
The idea that people lose their intrinsic motivation to accomplih something because extrinsic motivators are added to motivate
Critique corwing-out
- Can free-time studies be used to predict work behavior
- Children react differently to the informational and controlling aspects of rewards
- Rewards in the experiment are taken away without any explanation: intrinsic motivation does
not decrease because one takes away the reward but because you do not explain it (lack of
procedural justice)
Internalization
: employees develop over time autonomous motivation for behavior that is initially motivated in a controlled way, employees assimilate the stretch targets into their own values
Internalization is facilitated when the three basic needs are fulfilled to a higher extent
- Competence: people need to gain mastery of their tasks and learn different skills
- Relatedness: people need to experience a sense of belonging and attachment to other people
- Autonomy: people need to feel in control of their own behaviors and goals
Lukka (2019)
- There is a common belief that incentives harm performance and destroy intrinsic motivation
although academic evidence contradicts this - Self-determination theory predicts that initially controlled motivation can be internalized leading to
autonomous motivation - This study shows that this process is facilitated by the appropriate combination of personnel and cultural controls (or balance in the three-legged stool)
How would you set the targets for the sales managers?
- use last period’s performance
- Ask the managers
- Install competition
