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Mental Accounting Theory: How Cash is Valued
Those experienced in employee incentive, reward and recognition programs understand that, although people may say they prefer a cash reward, they perform at higher levels for tangible rewards. We also know that cash rewards are easily confused with compensation, are less memorable and that recipients often feel obligated to spend the cash reward on necessities such as a dental bill or utilities. Cash rewards are also very difficult for the employer to discontinue. Once the cash reward is considered by the employee to be compensation, the expectation is that it will continue. One theory goes further to find that the value people place on cash may depend on its usage.
Behavioral economist Richard Thayer’s mental accounting theory describes how people value the same amount of cash differently, depending on how it’s used. For instance, people put a greater value on cash that is used for fun or recreation and mentally assign a lower value to cash that is used to pay bills. This theory has significant implications for the incentive, reward and recognition marketplace.
When companies recognize achievement with rewards that are not confused with compensation such as tangible merchandise or travel experiences, those rewards become more valuable and more motivating. A series of lab experiments tested 3 premises that are typically associated with the use of non-cash rewards:
- Reward recipients consider cash rewards to be part of their compensation and consider non-cash rewards to be separate from compensation.
- Recipients consider cash rewards as something that they feel obligated to spend on necessities such as bills or utilities. They consider non-cash rewards to be a windfall that can be used for fun or exciting “extras”.
- Cash rewards set the expectation for the rewards to continue in the future.
Four experiments were conducted to test these beliefs and are summarized in this Incentive Research Foundation (IRF) research paper. Experiments offering both cash and non-cash rewards were conducted; the rules and results are provided in the IRF paper and support the 3 beliefs above. Conclusions reached from these experiments reinforce that:
- Non-cash rewards are more motivating and drive greater effort and performance than cash rewards.
- It will be most effective for managers to present rewards as separate from compensation if possible, calling out the difference between fun or aspirational tangible rewards and a more functional cash reward.
As a result of the cash v. non-cash study, questions arose as to whether recipients would value non-cash rewards differently as well. Again, experiments were conducted offering luxury/fun non-cash rewards as well as more utilitarian rewards and found that recipients did perform at higher levels for “fun” rewards (electronics, movie tickets) than utilitarian rewards (gas gift cards, household chore items, etc.).
Incentive Professionals have long recommended that the reward merchandise mix matters. When aspirational merchandise is included in the reward options in recognition and performance improvement programs, people perform at higher levels. Items or brands that a recipient might love to own but are reluctant to buy with their own money are especially popular. An experienced firm can recommend appropriate rewards and ensure that your program is designed for success. Contact one of our incentive professionals today to design your effective employee program that will include meaningful and motivating rewards.