Despite an environment in which many business and financial market commentators, as well as investors, are questioning the size and structure of incentives, there is a shocking lack of new insight about their uses and abuses. In fact, many fault incentives for amplifying the global financial crisis and hindering the ongoing recovery. Enter Ruth W. Grant, professor of political science and philosophy at Duke University, whose 2011 book, Strings Attached: Untangling the Ethics of Incentives, delivers a refreshingly novel perspective on this important subject.

What follows is an interview with professor Grant in which she provides an overview of her work, including insights not covered in Strings Attached.

CFA Institute: Could you please talk about how you ended up down this mental pathway regarding incentives?

Ruth W. Grant: For a long time, I have been concerned about certain uses of incentives in my own experience at work and in my children’s schools. I wondered why some uses of incentives seemed perfectly fine and others appalled me. But the key idea for the book arose in a seminar when I was teaching a Greek play, Philoctetes. Odysseus tries to get a young man to use clever, deceptive persuasion to get Philoctetes to relinquish a special bow. The young man would rather take it from him in a fair fight. So the class was discussing whether some forms of persuasion are less ethical than some forms of coercion. A student suddenly asked, “Why not offer an incentive?” and I walked out of the class with the idea that incentives can be seen as a form of power and evaluated just like the other forms of power. Incentives are one of the ways we get other people to do what we want them to do.

Why do you think it is important to look at incentives as a mode of power rather than as simply a way of adjusting the price of an exchange?

When incentives are viewed simply as a form of trade, the only ethical question that arises is, “Is this transaction voluntary?” But there are many voluntary transactions that are not ethical; bribery is just one obvious example. When incentives are viewed as a form of power, the ethical issues involved in their use rise to the surface. Is the person offering the incentive using power responsibly or abusing it? We generally view the person offering a bribe as just as guilty as the person accepting it, as we should.

Also, many incentives have negative consequences, and the tendency to constantly incentivize everything certainly has negative consequences. The analysis in terms of power, rather than in terms of exchange, makes these consequences more visible. I hope to introduce a healthy skepticism about incentivizing and to encourage other means of motivating people.

Let’s discuss the three modes of power that you cover in your book. Could you bound each of them on a continuum, from appropriate use of power to inappropriate?

Coercion uses force. Bargaining uses offers to exchange gains or losses. Persuasion uses speech or symbols. These are three ways in which power is employed to influence people’s behavior. Incentives, of course, are one kind of bargaining. Our usual tendency is to see these on an ethical continuum in which coercion is unethical, bargaining is legitimate, but not always admirable, and persuasion is ethically superior. Think of war, sanctions, and diplomacy for example. I think this is a mistake. There are better and worse forms of all three types of power. What is wrong with coercion to enforce just laws? Is fraud, a form of persuasion, ethically superior to a fair fight? A simple trade of apples for oranges is ethically superior to bribery or blackmail, which are also bargains. Each of these types of power can be used well or abused.

What criteria do you feel should be used to judge the appropriateness of the use of these power modes?

The three main criteria that I develop in my book are legitimacy of purpose, voluntariness, and effect on the character of the parties involved. These are useful criteria for evaluating all three kinds of power. For example, there is an ethical difference between courtship and seduction, though both are forms of persuasion. These three criteria can explain that difference. When it comes to incentives, voluntariness is not the problem, but effect on character is a big issue since incentives lead people to ask only, “What’s in this for me?” In addition to these three criteria, lots of other issues come into play in judging incentives: effectiveness, equity, undue influence, and so on.

Could you give some examples of controversial incentives in which the reason for the debate is better illuminated by an understanding and application of your criteria?

Plea bargaining looks perfectly fine when viewed from the “trade” perspective, so long as the defendant is free to refuse the prosecutor’s offer. Both benefit from the bargain. What could be wrong with that? But using my criteria, one must consider the legitimate purposes of the criminal justice system: to determine the truth about the crime and to mete out appropriate punishment. In a plea bargain, either the defendant is innocent but pleads guilty anyway or is guilty and gets less punishment than deserved. The purposes of the criminal justice system are never served by plea bargaining.

Incentives to recruit medical research subjects are seen as a legitimate exchange by some. Others worry that offering large sums of money to poor people to participate in research amounts to coercion. The two sides argue over voluntariness. But, there is nothing wrong with offering money to people who need it most. If the money were offered to fill out a questionnaire, nobody would think it was “coercive.” The focus needs to shift to considering whether what we are actually asking people to do is legitimate. Most of the time, I think it is, and incentives to recruit medical research subjects meet my three criteria.

What has been the uptake of some of your ideas?

The book hasn’t been out very long, so it’s a little early to tell if it will have an impact. People seem quite interested in the basic ideas. I have been invited to talk about the book to medical professionals several times. And I saw someone use it in Psychology Today to talk about incentives and weight control. I think it is applicable in many areas, so I am gratified by these signs of interest in my work. I hope that it will find its way into discussions in the field of public policy as well.

Do you have any advice about how an organization could go about incorporating some of your suggestions into how they operate?

There is a lot of evidence now that incentives backfire under certain conditions. They can make employees feel micromanaged and distrusted, which can corrode institutional culture and decrease performance. Incentives should be used sparingly. They work best when directed at simple goals or routine tasks. They are meant to motivate people — so be sure the problem is a problem of motivation before reaching for incentives as a solution. Beware of incentives that create conflict of interest by inducing people to act in ways that may undermine their professional responsibilities to clients or customers. (There was a lot of misuses of incentives in the mortgage industry along these lines.) Think creatively about alternative means of motivating people that communicate respect, cultivate their professional judgment, and encourage their loyalty — things that incentives generally do not do.

What aspects of your work do people commonly misunderstand?

Fortunately, reviewers and audiences seem to understand the book quite well. I am careful in the book to distinguish the automatic forces of the market operating according to the laws of supply and demand, which are often called “incentives,” from the deliberately designed extrinsic benefits offered to influence people to behave in a certain way, which I call “incentives strictly speaking.” This is a hard line to draw, and there are gray areas, so the meaning of “incentives” can be a source of confusion.

Originally published on CFA Institute’s  Enterprising Investor.