2 min read

Align Material Incentives, Stupid

To understand why the world feels fractured, we must look at incentives.

Pay Now / Maybe Make Later Doesn’t Work

The concept is deceptively simple: Instead of charging students tuition — which often requires them to take out thousands of dollars in loans — students go to school for free and are required to pay back a percentage of their income after graduation, but only if they get a job with a good salary.

To understand why the world feels fractured, we must look at incentives. Not conceptual incentives — “you and I believe the same thing” — but material incentives: will we individually, materially, and quantifiably gain or lose from this action or inaction?

This question is worth studying because incentives are structural — they can change — not personal.

Let’s look at a few examples.

Most universities are terrible at growing startups. The reason is uncomplicated and straightforward: universities and startups are materially misaligned.

Universities are educational institutions, so unless they have ownership positions or profit sharing arrangements, they structurally have no material incentive to create the conditions for startups commercial, non-education related success.

To be clear: universities should not be responsible for commercializing startups. That’s not their job nor expertise. Before universities add more programming and overhead to accommodate anything beyond startup education, they should change their incentive structures or, preferably, partner with companies — for-profit, materially aligned companies — to transition university-based innovation into the market.

Startup founders are often materially misaligned.

Even if both are true believers, if one co-founder has a full time job and the other co-founder is relying on the startup as her sole income, the two co-founders are materially misaligned. One has income unrelated to the startup’s success while the other is entirely dependent — materially — on its success. These two co-founders will never be aligned until their material well-being comes from the same source. Investors know this, which is why they don’t put money into companies with misaligned founders.

The technology community and its users are becoming increasingly misaligned.

Facebook makes money by pilfering its users data then selling that information to advertisers. Its user — who receive a valuable service for free — are willing to provide Facebook with some but not all information. Until Facebook makes its money from non-data advertising sources, it will never be incentivized to respect its users privacy.

Regarding privacy, Apple is a counter-point to Facebook. Apple makes its money by selling devices and services. Its business model doesn’t rely on data-heavy advertising. Apple and its users are, therefore, more materially aligned related to privacy.

This isn’t about Zuckerberg or Cook. It is structural.

Material misalignment is everywhere.

Structurally, (most) hospitals and patients are materially misaligned.

Structurally, (most) universities and students are materially misaligned.

Structurally, (most) employers and employees are materially misaligned.

A current example: during a government shutdown, politicians are paid but most government workers are not. If both went unpaid, the incentives for constructive action would be, well, quite different.

The easiest way to understand material alignment is money or financial reward. Lambda spends money educating people now, but they only receive a financial reward if those people earn a certain salary. Structurally, this material alignment forces Lambda to create better products, stronger hiring partnerships, and leaner operations.

Conceptual incentives are nice; material incentives are rare and, as a result, transformative.