Applying Economic Theory to Schools? CRAZY!?

Harnessing Economic Preferences to Improve School Performance – A Chicago Case Study

Author and Chicago Economist, Steve Levitt, argues harnessing the power of risk aversion to improve teacher performance in schools. 

Steve Levitt, author of Freakonomics, is no stranger to interesting and compelling economic insights (please if you haven’t, click the picture to pick up a copy of his book. The Chicago Economist, along with colleagues, had their very own “testing grounds” in the Chicago school system, and some interesting insights came to light.

The study involved incentives given to teachers who taught better and improved their students scores. Teachers were given $4,000 up front at the starting of the school year and told that they could get another $4,000 if the scores improved, but if they didn’t they would have to give that original $4,000 dollars back. 

Well? Did it work?

According to Levitt’s colleague John List, Chairman of the University of Chicago Department of Economics, YES. Students tests scores improved 2.5-3.5 times more than those who had teachers that were offered a $8,000 dollar bonus at the end of the year for improvement.

What? Why does it matter, if they both would get $8,000 or nothing at the end…

It is called loss aversion.

“It’s a deeply ingrained behavioral trait. .. that all human beings have — this underlying phenomenon that ‘I really, really dislike losses, and I will do all I can to avoid losing something” – John List

Essentially, what economic theory suggests is that people prefer avoiding losses to acquiring gains. That is to say, the loss from losing $10 is greater than the gain from gaining $10. This is loss aversion and the difference in value placed upon goods held and their identical counterparts is referred to as the endowment effect. 

The information from this study comes at an interesting time, when Chicago teachers are still unhappy after their protests and demanding higher wages along with better job security. What does Levitt & Friends say? PAY them. Oh, but make sure you do it up-front and penalize them if they perform poorly. 

This is simply putting economic theory to practice.

This is essentially a merit pay scheme, that unionized teachers are fighting against tooth and nail. Regardless of your stance towards teachers salaries, or merit pay, the results are very interesting. 

The idea is that we pay teachers for their performance, almost like they are working on salary + commission. If they do well, they get money, if they don’t, they have to give some back.

But is this fair?

Well, I don’t see why not if it is put in the right context. Right now Chicago teachers want a raise, and the city or school board doesn’t think their performance merits what they are asking for. 

This could be seen as a “bonus”, an incentive pay increase on top of existing pay these teachers receive. If they do poorly, the money they receive by year end is the same as they would have under the old payment scheme.

What is the hoopla? 


Teachers are not fond of merit pay. It assumes that teachers are currently not doing their best to improve a child’s education and that money incentivizes them. 

“I think this suggests a dire lack of understanding of the complexities of teaching” Barnett Berry, President of the Center for Teaching Quality. 

“Merit pay assumes we are not working hard enough and we have hidden something from the children” Karen Lewis, Chicago Teachers Union President. “Like we have a teacher box and we only pulled six things out of our teacher box but if you pay us more we’ll go in the box and pull out more. . . .”

“The problem with economists is they don’t understand what intrinsically motivates teachers to do this work — and it is not money,” Lewis said. “The overwhelming majority of teachers are motivated by seeing kids learn. … There is nothing better than seeing that lightbulb turn on.’’ 

The feeling from teachers is understandable, they have a lot of incentive to fight merit pay and have your kids education hostage (as seen by recent protests). While I do think the majority of teachers work hard, I have been unfortunate enough to know that not all do. 

But assuming they all do, that doesn’t mean shelling out some more cash doesn’t make them work just a little bit harder. That difference can be grades for these students. Much like if you told me that I would receive a million dollars for writing this post free of any grammatical or spelling errors, I would stay up tirelessly dissecting every word and line with an english grammar book.

And I call bullshit on the motivation to work, for sure most of the teachers like their jobs, they have PhD’s and Masters (usually in subjects that can’t take them elsewhere) and are paid less than their peers (but at the same time they get all these benefits!)

However, the very same reason why the Chicago teachers are protesting is why suggesting teachers aren’t motivated by money is bullshit. Money is what motivated them to stop teaching and hit the streets. All I’m saying is that money helps.

So what to do?


I think this study is fascinating, and should be replicated and proven. Measures should be put in place to discourage things such as cheating and policy changes should be considered. This isn’t just about the teachers, it is also about our students. I don’t care if they like it, I want students to learn.




Blog’s twitter: Ideafart
Author’s twitter: DanielSethMcKay

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