Feedback Effects

When I teach executives, I sometimes run the following little thought experiment. I will go up to one and say, “Assume that you work in my company and that you are who you are—a competent, experienced, hardworking, intelligent individual, doing your best to do your job as you think you should. Now I come to you and say, ‘Our organization has fallen on hard times—which, by the way, may be because of strategic mistakes you had no part in making—and in order to restore profitability and financial viability, we need to cut salaries and other employee expenses such as benefits, by about 25 percent.’ How do you feel about this, and what are you going to do in response?” I have never once had an executive respond by thanking me for making the tough decisions required to keep the organization economically viable. Instead, I typically get one of two responses. The first, often communicated with a reasonable amount of anger and emotion, is that the person is immediately going to look for another job and leave. The second response, if I add that general conditions of the job market preclude such a move, is that he is going to withhold effort and ideas, cut back on what he does, and maybe even find ways of getting back at management by intentionally messing things up.

Note what cutting salaries does beyond the immediate benefits of reducing the wage expense. First, it drives people to leave. And who is most likely to be able to find another job? Usually, the best people—those who have the most skills, experience, and the highest levels of performance. As the best people leave, turning the company around becomes more difficult, because turnarounds require insight and skill, and both are being lost. Second, cutting salaries creates a desire on the part of those who remain to passively (by slacking) or even actively (by sabotaging) harm the company. Such actions, or inactions, obviously make organizational performance worse and improvement in results more difficult to achieve. As a consequence, companies frequently find themselves in a pernicious race to the bottom, to see whether or not they can cut costs faster than the unintended consequences of those cost cuts reduce subsequent organizational performance.

Jeffrey Pfeffer
What Were They Thinking? Unconventional Wisdom About Management