Why is it important to avoid "perverse incentives" in an incentive program?

A perverse incentive is a type of incentive that has an unintended and undesirable result that is contrary to the interests of the incentive makers. By definition, it motivates individuals to engage in counterproductive or "adverse" conduct to achieve a specific goal. For example, rewarding pure sales volume without regard to quality or ethics can encourage employees to make fraudulent sales or take excessive risks. In the context of GRC, avoiding such incentives is critical because they directly undermine ethical culture, risk management, and compliance by actively encouraging the very behaviors the GRC framework is designed to prevent.

B. The tax-deductibility of an incentive is a fiscal matter determined by tax law, not by its behavioral outcome.

C. While a perverse incentive might lead to decreased satisfaction, its defining characteristic is the encouragement of negative behavior, not its effect on morale.

D. This is too specific; a perverse incentive can encourage a wide range of adverse conduct, not just actions that violate anti-harassment laws.

1. OCEG. (2021). GRC Capability Model ("The Red Book") (Version 3.5).

Section 4.1.3 (Design Proactive and Responsive Actions): This section emphasizes designing actions, including incentives, to "encourage desired conduct and prevent and correct undesired conduct." A perverse incentive does the opposite, directly encouraging undesired conduct.

Section 4.2.4 (Design and Implement Controls): The text notes the importance of designing controls to "address unintended consequences and perverse incentives," explicitly identifying them as a risk to be managed.

2. Kerr, S. (1975). On the Folly of Rewarding A, While Hoping for B. Academy of Management Journal, 18(4), 769–783.

Page 769: This foundational academic paper explains how reward systems frequently fail by motivating behaviors that are precisely the ones the organization is trying to discourage. Kerr states, "Whether dealing with monkeys, rats, or human beings, it is hardly controversial to state that most organisms seek information concerning what activities are rewarded and then seek to do (or at least pretend to do) those things." This directly supports that misaligned incentives (perverse incentives) encourage adverse conduct. (DOI: https://doi.org/10.2307/255378)