Thursday, March 27, 2008

Network and Inequality

And now our sociologist friend, Roby shows us that inequality can be a manifestation more of network effect than of prejudice (or discrimination for that matter)...
-- Manager

Network and Inequality
by Roby

An asset-management company has this problem:

The business of asset-management companies is to attract rich individuals to give up their money so they can be managed by these companies. The sales people rely on their own social networks to access these high net worth individuals; and they are compensated based on how much money they can bring to the company.

A problem arises when there is an allegation that the company implements a disriminatory practice in its compensation structure. The company has several Blacks in its sales group and their earnings are consistently lower than their White counterparts. Thus, the company is accused of discrimination, and furthermore this case has been exemplified as a discrimination practice that is rampant in the corporate world and responsible for the high income inequality
between Blacks and Whites.

The argument here is that discrimination - with respect to racial prejudice in this case - is the main cause of inequality.

If we take a closer look, however, we will find out that those Black employee come from lower Social Economic Status (SES) than their White colleagues. Since SES affects one's social network greatly (rich people know more rich people than poor people and vice versa), interactions between people within the same SES groups are more likely than interactions across SES groups.

What happen is that the compensation (incentive) structure only reveals the underlying social structure. Therefore, in this case, the inequality stems as a network effect; not as a form of discrimination.

There are two important points here. First, inequality can be a network effect that has less to do with individual prejudice or preference. Second, it is important to pay serious attention to the
relevant social structure in designing an incentive structure since disregarding social structure completely can lead to unintended and undesired consequences as illustrated in this case.


  1. and what is the origin of this underlying social structure?

    i'd say at some earlier point, a tiny amount of prejudice and discrimination must exist. tom schelling would disagree and say that it's not necessary, all one needs is preference and the network mechanisms will take care of the rest. but his assumption is far too optimistic. some people, i'm afraid, are just not nice, we have prejudice built in our brain, and some of us prejudice others some of the time.

  2. i would see no issue if the company creates a non-profit charity unit under its asset management business. and, put some kind of buffer into it for the broken-hearted employees. that's a increasingly common practice of an asset mngt company nowadays. sales team, charity team, blacks, whites and buffering team, how do they sound?