Incentives and Employee-Initiated Innovation: Evidence from the Field

Organizations often struggle with motivating employees to develop innovative ideas that may benefit the firm, especially when the standard tasks for which employees are measured and incentivized do not explicitly include innovation. Prior analytical research posits that low-powered incentives can motivate employees to generate creative ideas by diverting their attention away from fixating on performance measures associated with their standard tasks included in the incentive contract. Using data from a company that underwent an exogenous change in its employee incentive contract design towards low-powered incentives, we examine whether the design of incentive contracts for the standard tasks influences employee-initiated innovation activities. We find that employees under fixed-pay contracts are more likely to pursue innovation ideas that are valuable to the firm relative to employees under variable-pay contracts. Moreover, such efforts are concentrated on innovation ideas that are not specific to the standard task performed by the proposing employee but are applicable to issues of greater breadth for the firm and/or with a long-term view. Our findings contribute to the literature on incentives for innovation by showing how contract structure can motivate unplanned employee-initiated innovation activities that are difficult to contract upon ex ante.