Wednesday, May 6, 2015

Risk Aversion in Hierarchies

by Kent Aitken RSS / cpsrenewalFacebook / cpsrenewalLinkedIn / Kent Aitkentwitter / kentdaitkengovloop / KentAitken

This is essentially a two-year delayed corollary to Where Good Ideas Go to Die, about the nature of hierarchies and how they influence decision making. I'm not suggesting that either model is an ironclad rule - they're simplifications with much room for exceptions, but hopefully worth considering as food for thought.

A central feature of large organizations is delegated authority: establishing a mandate and structure within which officers can exercise authority on behalf of the organization. For instance, one might have authority to spend money on certain things, up to a limit, without additional approvals.

That said, not much "big" stuff is left to delegated authority. It may be for reasons of accountability or importance, or because "big" stuff either impacts different parts of the organization or requires cooperation for implementation. So many proposals get approved at each level, then continue up the chain of command.

However, refusals are almost always left to delegated authority. That is, if a level of management decides that a proposal should go no further, it stops. The level above does not necessarily hear about it. So a given level of management makes very few final "go" decisions on behalf of the organization compared to the number of "stop" decisions. For instance, an executive will know every employee's proposed training plan, but not what was struck off the plan by the level of management below.

False positives (poor ideas that get recommended) get caught by the system, by a higher layer of management. False negatives (good ideas that get stopped) don't.

Accordingly, false positives result in feedback for the person who recommended approval. That is, proposing an idea up the chain of command and getting a “no” provides information on which to base future proposals. Those who are too risk-tolerant will get reined in. However, false negatives get no such feedback. Managers who are too risk-adverse, wrongly making “stop” decisions on behalf of their organizations, will remain so. This also means that senior executives will systemically underestimate the level of risk aversion in their organizations.

Alternatively, instead of it being different managers' styles, it could be individual managers who propose too much in some areas and too little in others. A manager could be risk-adverse on communications but overly ambitious on staffing requests. The latter would get corrected, the former would go unchecked.

I'm sure that when a decision-maker is uncertain, they'll often check in with their management. But given the scale of organizations, the desire to minimize demands on senior executives' time, and the sheer volume of proposals moving on a given day, there's room for error. In a large enough organization, over enough time, tiny breakdown rates still mean a lot of breakdowns. Small asymmetries in the forces influencing decisions add up.

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