Experience has shown, going back to an 1853 case involving a Baltimore & Ohio Railroad lobbyist and the Virginia Legislature, that rewarding business agents for achieving short-term goals induces them to break the rules.
Unhappily, however, performance bonuses and other short-term incentives have infiltrated the rest of the economy, distorting business decisions, hurting consumers, destroying shareholder value and creating much of the present economic disaster.
Examples are beyond counting. You could write a book on how incentive bonuses helped blow up the mortgage bubble. Fat bounties for each subprime loan induced originators and mortgage-packagers to focus on volume rather than on document accuracy or whether borrowers could pay back the money.
Now, in a sick bit of symmetry, pay for performance seems to have contaminated the mortgage-mess cleanup as well.
Homeowners' lawyers have challenged foreclosures because of widespread evidence of botched or neglected paperwork. Bank of America, GMAC Mortgage and JPMorgan Chase have frozen tens of thousands of foreclosures because of document problems — often "robo-signing" in which lenders' agents signed affidavits falsely saying that they had detailed knowledge of each case.
Two Maryland lawyers submitted foreclosure-related affidavits in their names that had been signed by others, The Baltimore Sun reported last week. Reports of new irregularities surface almost daily.
We're starting to understand one of the reasons. A Florida law firm received $1,300 for each foreclosure it processed in that state, The Washington Post reported Saturday. The firm was paid for speed, not for following the strict and sacred rules of due process in seizing someone's property.
"The more they foreclose, the more they make," said an August report from Mother Jones magazine, which has done great work covering foreclosure mills. Expect more reports on foreclosure bonuses and tainted paperwork in coming weeks.
Time was when people got a decent wage for a decent day's work. Then the consultants and behavioral psychologists decided that pride in one's job and deference toward one's boss weren't enough to inspire people to do their best.
Like rats in a B.F. Skinner experiment, employees and contractors had to be lured by extra bags of money to do what was right, the thinking went. They had to be "incentivized" to deliver specific results.
But what they often deliver is disaster.
CEOs lay off employees by the thousands to earn bonuses tied to short-term profits — only to harm their companies' long-term prospects, not to mention the overall economy.
The Baltimore example here is Nolan Archibald, executive chairman of Stanley Black & Decker, who will earn a "synergy bonus" of tens of millions of dollars for downsizing the former Black & Decker, once based in Towson.
Other CEOs take foolish risks with shareholder money to try to boost performance pay. The example in this category is Constellation Energy boss Mayo Shattuck, who nearly led the company into bankruptcy in 2008 after a catastrophic attempt at making big profits by trading energy contracts.
Some CEOs cook the accounting books to get bonus-triggering results.
Numerous doctors effectively get bonuses for performing as many surgeries or MRI scans as possible. They get paid per procedure, not necessarily for keeping patients healthy.
Mortgage-bond analysts got bonuses based on their firms' profitability, which created incentives for them to overlook the dangers of bonds issued by the firms' customers.
Internet-stock analysts told less than the truth during the dot-com bubble for the same reason; their pay partly depended on investment-banking revenue from those same companies.
Bribing people to change their behavior, it turns out, changes their behavior.
For sure, not all financial incentives are bad. But pay for performance in modern America has come to be focused on a brittle definition of success. It's all about the short-term score at the expense of values that are harder to measure in dollars.
Perhaps it won't surprise you that success fees for lobbyists who get specific bills passed, while illegal in most state capitals, are alive and well in Congress.