I've enjoyed keeping tabs on the 2022 FIFA World Cup for the past couple of weeks, even if the USMNT failed to advance beyond the knock-out round. I've been spending the last couple of posts talking about game theory a branch of economics that deals with the science of strategic decision-making. In general, game theory assumes that individuals will make decisions rationally (see my comment about rational choice theory in my post "How much do you want to spend for that dollar bill?"). While that is not always a correct assumption, there are ways in which we can incentivize individuals to act in the manner we desire (behaving rationally from an economic perspective, i.e. individuals behave in ways that maximize their own self-interest). Incentive plans (also known as incentive schemes) are often used by organizations to address the principal-agent problem.
The principal-agent problem is a well-known concept in the social sciences that refers to the conflicting interests that arise when one individual or entity (the "agent") acts on behalf of another person or entity (the "principal"). For example, elected government representatives ("agents") act on behalf of their constituents ("principals"). Similarly, the employees in an organization ("agents") work to accomplish the organization's goals and objectives (in this case, the organization is the "principal"). The principal-agent problem also can involve moral hazard (where the agent doesn't bear the full cost of the risks associated with a particular action and therefore engages in a risky behavior), conflict of interest (where multiple interests are involved and serving one interest can actually work against another), and information asymmetry (one party in a relationship has access to information that the other does not). In order to address these potential issues, the principal has to either trust that the agents will act in the principal's self-interest or attempt to align their mutual interests through the use of incentives.
Lincoln Electric Holdings, Inc has one of the most unique incentive plans that I have ever encountered. They are a Fortune 1000 global manufacturer of welding equipment and supplies headquartered in Euclid, Ohio. The company was originally founded in 1895 by two brothers, John and James Lincoln. Starting in 1907, James Lincoln introduced a number of innovative human resources (HR) practices that have since been widely adopted in several industries, including employee stock ownership, incentive bonuses based upon merit, the creation of an Employee Advisory Board, annuities for retired workers, and group life insurance. Lincoln Electric have been innovators in HR ever since. The company introduced a "No Lay-off" policy in 1958 and started a profit-sharing program with their employees where up to 1/3 of profits are distributed throughout the company as annual incentive bonuses. They've maintained the "No Lay-off" policy ever since, even during economic downturns (see an article from ABC News here). The company essentially pays their managers and employees based almost exclusively upon productivity (pay for performance), so when the company does well, everyone does well. Conversely, when the company does not do well, everyone gets paid less. Apparently this form of incentive plan has been working very well for Lincoln Electric for several decades.
Unfortunately, incentive plans do not always work as designed. Back to the sport of football (known in the United States as soccer) for a great example. The national football teams from Barbados and Grenada played against each other in a qualification round for the 1994 Caribbean Cup on January 27, 1994. The game has been described as "one of the strangest matches ever" played. The organizers of the tournament wanted all matches to have a winner (i.e. no draws, which are quite common in football), so they created an unusual variant of the so-called golden goal rule. If two teams are tied at the end of regulation play, they play an overtime in which the first team to score a goal wins the game (hence, "golden goal" which is also known as "sudden death"). For this particular tournament, the team scoring a goal in overtime would be awarded two goals instead of just one goal (one of the potential tie-breakers during the qualified rounds is the total number of goals scored, so this is an extra incentive).
Barbados entered the game needing to win by a margin of two goals to qualify for the next round of play. In contrast, Grenada would advance with by either beating Barbados outright or holding them to a a win by just one goal. You see where this is going, right? Barbados scored the first two goals, so they were in a perfect position to advance to the next round. They started playing more conservatively by focusing on defense. Unfortunately, Grenada scored in the 83rd minute of play (regulation time is 90 minutes). Barbados tried valiantly to score for the next couple of minutes, but as the game approached its conclusion, they shifted to a rather unconventional strategy. During the 87th minute of play, winning two goals to one, one of the Barbados defenders, Terry Sealey started passing the ball back and forth with their goalkeeper, Horace Stoute, before Sealey intentionally kicked the ball into his own net, tying the game at two goals apiece!
Barbados' strategy was now quite evident to the Grenada players and coaching staff. They would advance to the next round by scoring another goal (winning the game 3-2) or by scoring a goal for Barbados (following Barbados' strategy), and losing the game by only one goal. So, Grenada tried for the final 3 minutes to score a goal into either net, while Barbados vigorously defended both nets! The Barbados strategy paid off, as the game went into overtime and Barbados scored the golden goal (incidentally, they ended up being eliminated in the next round).
One final comment. Incentive plans, even if designed perfectly, don't always work. Again, most incentive plans assume that individuals will behave in a rational manner, which according to the relatively new discipline of behavioral economics, is not always the case. Just to prove it to you, next time we will talk about another famous problem in game theory known as the "Ultimatum Game".
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