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Executive Pay: The Power of Indirect Incentives

In a PricewaterhouseCoopers study of 1,106 individual executives across 43 countries, researchers found ample evidence to suggest that the effectiveness of executive pay hinges not only on a total dollar amount, but also on several key intangibles. Despite much focus on variable pay as a key element of executive total rewards packages, the PwC study reports that as a performance driver, variable pay is only a part of the story.

Instead, for this group of executives, their motivation to excel at work appears to stem from a combination of factors including, perceptions of fairness, job satisfaction, recognition and of course, to some degree, the final dollar figure. For example, when asked how much of a cut in pay they would be willing to take if offered their “ideal job”, on average, participants indicated that they would take a cut of up to 28% for the opportunity to pursue a more personally fulfilling job. However, it should be noted, that when asked the same question for someone beside themselves, their threshold for pay cuts was significantly higher in this less personal hypothetical scenario- with some breakouts as high as 70% and averaging at a 60% pay cut.

While both scenarios clearly indicate that job satisfaction and personal fulfillment are key drivers, the study’s authors point to the gap between the personal and external pay cut thresholds as an indicator that the dollar amount can still trump the idealism of a landing your “dream job”. This holds true across gender, geography and industry breakouts, suggesting that on a basic psychological level pay is all relative to the individual’s perception of risk. When grounded in their own life experiences of receiving pay at a certain level, the participants took on less risk than when the pay cut scenario was being projected onto an external party and the risk would not impact them personally.

Ultimately, the study suggests that employers must evaluate the effectiveness of their executive pay packages at a very personal level, keeping in mind each individual’s risk tolerance, job satisfaction, etc in order to achieve a healthy balance between monetary compensation and these less concrete, but still critical personal considerations.

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Source: PricewaterhouseCoopers (2012). Making executive pay work. The psychology of incentives.

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