Incentives and Behavior

Week 5 · Markets, Incentives & Institutions

How rewards, penalties, prices, and framing change behavior, and why incentives can backfire.

Time to set aside
5-7 hours: 2 hours reading, 1 hour worked examples, 1-2 hours incentive audit, 30 minutes review.
Progress
Ready to begin

Your AI study mentor

Sofia's briefing

Why this week

Incentives are often presented as clean levers: change the reward, change the behavior. Real people are less mechanical than that. I bring economics, psychology, and moral sentiment together because an incentive changes more than a price: it can guide or distort behavior, alter what an action means, and change how people understand the relationship around it.

What to watch for

Do not confuse the intended response with the actual response. The most useful analysis often begins with substitution, avoidance, resentment, or crowding out.

How might this incentive change the meaning of the behavior, not only its cost?

  1. 1
    Orient

    Start with the aims and questions so the readings have a purpose.

  2. 2
    Read actively

    Use the prompt under each source to produce notes, not highlights alone.

  3. 3
    Apply

    Test the ideas through observation, analysis, or a small intervention.

  4. 4
    Demonstrate

    Save the deliverables and check your work against the completion criteria.

Questions and aims

Define what you are trying to understand before deciding that you have understood it.

Study Aims

  • Explain price elasticity in ordinary language.
  • Distinguish a change in the cost of an action from a change in its appeal or meaning.
  • Identify substitution, income, crowding-out, and unintended effects.
  • Design an incentive while stating the behavior it is meant to change.

Guiding Questions

  • What exactly is responsive to an incentive?
  • When can paying for a behavior weaken intrinsic motivation or trust?
  • Who bears the costs of an incentive system?

Before you read

In your notes, separate the intended incentive from the actual response. The gap between those two is where the most useful analysis usually begins.

Core material

Reading plan

3 guided readings, in the order shown.

  1. 90 min

    Principles of Economics 3e: Chapter 5, Elasticity Opens in new tab

    Steven A. Greenlaw, David Shapiro, Daniel MacDonald, and contributors · OpenStax

    Why it earns a place

    How responsive buyers and sellers are to price, income, and related changes.

    How to study it

    Read sections 5.1-5.3. Work one elasticity example in your notes and translate the result into a sentence a non-economist would understand.

  2. 60-75 min

    Motives and Goals Opens in new tab

    Noba Project contributors · Noba Project

    Why it earns a place

    An expert-written overview of goals, motivation, goal conflict, self-control, and the processes that protect long-term aims from immediate temptations.

    How to study it

    Read the sections on intrinsic/extrinsic motivation and self-regulation. Note one case where an external reward could help and one where it could damage motivation.

  3. 45-60 min

    The Theory of Moral Sentiments Opens in new tab

    Adam Smith · Liberty Fund

    Why it earns a place

    Smith's account of sympathy, judgment, self-command, and the moral sentiments that make social life possible.

    How to study it

    Read Part I, chapters 1-3. Compare Smith's account of sympathy and approval with the narrower picture of people as incentive responders.

Apply and demonstrate

7 study actions turn the reading into observable work.

Practice

  1. Choose one behavior you want a person, organization, or government to change. State the behavior in observable terms.
  2. List the current rewards, costs, habits, identities, and social meanings attached to it.
  3. Propose one incentive. Predict the intended response, substitution effect, distributional effect, and possible backfire.
  4. Rewrite the proposal so it preserves agency and includes a way to learn whether it worked.

Deliver

  • An incentive audit table with actor, behavior, current incentive, intended change, and risk.
  • A one-page incentive proposal.
  • A 150-250 word reflection on the psychological limits of the economic design.

Confirm

  • You can explain elasticity without confusing it with slope alone.
  • You have predicted at least one unintended response.
  • Your proposal says how success would be observed.

Additional Resources

Optional resources for going further after the reading plan.