Performance Anxiety: Why Incentive Systems Often Fail

Listener 26 July, 2003.

Keywords: Education: Regulation & Taxation;

In one of his witty essays in The Intellectual in the Marketplace, George Stigler describes a fictional Latin American university whose vice-chancellor aimed to raise the quality of the academic staff by a system of competitive exams. In order to win, the academics gave up teaching, so the system was changed to provide incentives to teach well. A further change had to be made to incorporate research achievement. Each time the ‘contestants’ found ways around the rules, the system was distorted and goals not attained. Eventually the VC moved on, to a position where he is as conservative as his radical reputation allowed, and his old university lapsed back to its traditional ways.

Stigler won a Nobel Prize in economics in 1982 for his seminal studies of industrial structures, markets and public regulation. His point was that an incentive system which does not exactly align with its goals will generate unintended – even perverse – outcomes. Yet it is very difficult to create exact alignment.

To which thousands of academics will say ‘Amen’, as they struggle with ‘Performance Based Research Funding’ (PBRF). The intention is honourable enough. Government outlays a couple of a billion dollars each year on tertiary education. Does it get quality for its spending? Students only really judge teaching, not the research nor the faculty contribution to the community and the wider public service. So the fund aims to financially reward tertiary institutions with above average performance measured by the research outputs of their academic staff. However, filling in the required forms has proved tiresome and difficult, for incentive systems often have substantial compliance costs. Even those with goodwill wonder if the results will measure real research performance.

As Stigler indicates, this is not a new problem. A enterprising university chemistry department once decided to aim for a high research output by focussing on structural chemistry. Research and teaching of biochemistry, which has more relevance to New Zealand’s prospects, was downgraded. Is that what was really wanted by the funders of universities? Will the PBRF reward or punish this decision? Research is often valued by it being peer reviewed in learned journals. But as physicist Joao Magueijo remarks, the resulting learned articles are ‘often empty of scientific content and reflect the author’s social standing, or their good or bad relations with the referee.’ The issue of relevance hardly appears.

The same applies to economics. The standard model of the economy – the one which is easy to use and to write articles for publication overseas – is based on an idealised US economy. The New Zealand economy is fundamentally different. It is smaller, more open to trade, with a dissimilar resource base, and different social and political structures.

For instance, the 1980s’ reform of government administration was heavily influenced by ‘public choice theory’, pioneered by James Buchanan who received a Nobel prize in 1986. It purported to be a universal theory of government, but actually applies to an idealised US government system, in which politicians and public officials are driven by self-interest rather than the public good. The resulting incentive system, which assumes that officials cannot be trusted to act in any other way than selfishly, requires them being closely monitored with heavy compliance costs (like the PBRF). Our public sector is still trying to deal with the uncomfortable outcomes from the reforms based on such flawed assumptions.

So the PBRF could easily end up rewarding university economists which research and teach this idealised US economy, thereby poorly prepare their students to work as an economist in New Zealand. Many would say that some already do that.

Consider the theory of ‘endogenous technology’, which is only about twenty years old and is still to be awarded a Nobel Prize. (One will probably go to Paul Romer.) It was generated in the US which largely produces its own technology. One can apply it to New Zealand, pretending we are similar, and get publication in prestigious overseas journals, while students are released onto an unsuspecting New Zealand public with some understanding of the large US innovation system and none about New Zealand’s.

Inevitably, a small country is a major importer of technology. Technology transfer, where selection and adaption are as important as technology generation, is at the core of many of New Zealand sectors’ economic prospects. Yet technology transfer barely gets mentioned in our national technology policy. (Ironically, our worst case of inept technology transfer may be the uncritical importing of the US economic model as if it were universal.)

The guidelines for the PBRF in Business and Economics say that attention should be paid ‘to possible constraints imposed by research that is focussed on local situations or information, in limiting access to internationally focussed publication channels’. Let us hope, for New Zealand’s sake, that this part of the incentive system works.