The behavioral backdrop to financial incentives

Are good old-fashioned cash rewards nudges? This is a common question we hear. Financial incentives are listed as one potential tool for smart choice architecture. To ignore them is to ignore volumes of traditional economic work. That’s silly. Nudge is, after all, a book about psychology and economics. But financial incentives have a behavioral element, as Michael Kremer and Rachel Glennerster point out in a new, excellent review of behavioral economics and economic development published in the Boston Review. Since people are not good investing a little bit now to get a lot later (myopia, procrastination, status quo bias all get in the way), behavioral economics steps in to try and jump start these investments through small financial incentives. The basic point is that the context around the incentive (its size, when it’s delivered, how salient it is made) are all critical to its effectiveness. Uncovering these contextual lessons is one of behavioral economics broad goals.

Even small incentives and costs have a surprisingly large impact on behavior. In Malawi, where different magnitudes of conditional cash transfers were tried, the smallest incentive was sufficient to achieve the average effect. An evaluation in Kenya found that providing a free school uniform could increase attendance of young children by 6.4 percentage points. There is evidence that covering the cost of school uniforms for adolescent girls not only reduces dropout rates, but also reduces rates of teen pregnancy. Conditional cash transfers can be used to get larger sums of money into the hands of the poor, but if the goal is simply to get children in school, providing smaller transfers to more people in the poorest countries may be the most effective use of resources.

In addition, the timing of costs matters more than would be expected in a simple model. This has been found in education, health, and agriculture in Latin America and Africa. Cash-transfer programs that set aside resources and pay them out when school fees are due induce much higher rates of attendance than do programs that pay out earlier. This also leads to better attendance than scenarios in which the poor cannot borrow and take cash whenever they can get it.

Children are also highly influenced by their peers. Evidence from Mexico and Colombia shows that when conditional cash transfers induce the poor to go to school more, the slightly better off, who are not eligible for the program, also go more, presumably because it’s not much fun being out of school if all your playmates are there. Similarly, in Kenya, when the best-performing girls were offered scholarships, they worked harder and attended school more, as one might expect. But so did boys, teachers, and girls who had no hope of winning the scholarship.

While there is much yet to learn about the relative effects of different pressures and incentives, the broader lesson—that adjustments to timing and small adjustments to costs can have surprisingly large impacts on the effectiveness of a program—appears sound.



  • MyWHaT/Gary L. Howe

    I wonder if you are aware of Taiwan’s receipt lottery. The nudge is two-fold (or, at least was back in 2002). In order to have more small businesses report and pay accurate taxes, the government instituted a receipt lottery where each receipt came with a multiple digit number. Each month there would be a drawing that was reported in the papers. There was an award for 4, 5, or 6 number matches. The result was that if you, as a consumer played, you’d consciously choose legitimate businesses in order to get the loot–receipt. Most Taiwanese played. I played and won a few small awards.

    it looks like it is still active. This site explains it for the expats:

  • Egyegykettonegy Boros

    The cash incentive or motivation for a two-edged weapon. The children should not be encouraged with the money. The adults would be free, and if their children are materialistic because they will also teach you this. However, very good “fuel” of money. How many people say that there is no money, so why do this. If the nose would do a certain amount of money to do it for sure. The lesson is that everyone is available for purchase. Sweets to children and adults with money.