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Keynote speech for JobTown Urbact: Cutback management and innovation

On the 1st of October 2014, I gave a keynote speech at the Urbact JobTown (link) conference in Aveiro, Portugal. My speech addressed the relationship between financial cutbacks and innovation in public organizations. In the speech, I build on the COCOPS FP7 project (link) and a conference paper for the International Research Society for Public Management (IRSPM) in Ottawa, Canada (2014) written together with dr. Brenda Vermeeren, on applying change management in the implementation of financial cutbacks (link). The full speech can be read below:

Organizational change management strategies for dealing with cutbacks in public administrations

One of the main reasons why governments are adopting all types of social innovations, is the financial crisis. But the financial crisis is not only a driver of innovation in government, it can also be an important barrier to innovation. I will address the following three issues. First, I will focus on how financial cutbacks are related to innovation. I will argue that much depends on the way public managers deal with financial cutbacks. I will talk about the role of management on two levels today: decision-making (the strategic level) and implementation (the operational level). The second part of my talk is concerned with decision-making: what approach or strategy to take in order to realize cutbacks? The third part of my talk is concerned with implementation: how can change management be used to minimize the negative effects of cutbacks?

How are cutbacks related to innovation?
Let’s look at the ways cutbacks can affect innovation in government. There are two perspectives that account for the relationship between cutbacks and innovation. The first sees cutbacks as an opportunity to modernize and implement innovations. Following the saying ‘necessity is the mother of invention´, this perspective argues that the need to implement savings forms a so-called burning platform from which organizations have to move. Cutbacks will also make managers more risk-taking and entrepreneurial, which can have positive effects for innovations. Creative solutions to societal problems, which previously were dismissed as unfeasible or impossible, may suddenly become viable options when money runs out. So this perspective argues that cutbacks are good for innovation.
At the same time, another perspective argues that cutbacks will decrease innovation in government. This perspective sees cutbacks as a threat. Following the saying ´necessity is the mother of rigidity´, you can also argue that cutbacks will result in decreased morale, more conflict and centralization of decision-making. All these factors are likely to decrease innovation. Moreover, the organization’s best employees, those who are most likely to come up with creative solutions, will most easily find employment in other organizations, and are thus more likely to leave the organization when cutbacks are implemented.
These two competing points of view thus provide no clear answer to the question how innovation is affected by financial cutbacks. In my talk today, I will therefore advocate the point of view that cutbacks are not necessarily good or bad for innovation, but that it depends on the management of cutbacks. Cutback management in public organizations can be divided into two separate steps: decision-making and implementation. Let’s start with decision-making.

Decision-making
All good management theories come in pairs, and so it also with cutback management. A distinction can be made between proportional, or cheese-slicing, approaches and targeted cuts. The distinction is straightforward: Proportional cuts affect all of the organization equally. Examples of popular proportional cuts are hiring freezes, pay freezes and equal-percentage budget reductions across departments or programs of the organization. The rationale behind proportional cuts is equality. Because of this, a major advantage of the proportional approach is that it sounds very fair. It is also a convenient way for managers and politicians to avoid difficult choices. However, proportional approaches may sound fair, but in fact they are not. First, those who are vulnerable in society, the elderly, the sick, minorities, are likely to suffer more from proportional cuts than other groups. A proportional approach also affects organizational departments unfairly. Departments that are already efficient are cut the same as departments that are not managed efficiently. It is much harder to improve a department that is already efficient, because only minor gains can still be accomplished. Moreover, departments that are not efficient can simply copy the measures that have already been taken by departments that work in an efficient way, making it relatively easy for them to become more efficient.
The alternative approach is the targeted approach. The targeted approach is not based on fairness, but on the efficiency and effectiveness of the cuts for the future operations of the organization. One of the advantages is that it looks very strategic, so it looks like you are in charge and you have a plan. This can of course be especially important for politicians. More importantly, the major advantage of a targeted approach is that it is possible to maintain budgets for the most effective, important or efficient departments, and to target budget cuts to those departments that are inefficient or relatively unimportant for the mission of the organization. This of course results in the most important disadvantage of a targeted approach to cutbacks, because it can be very difficult to convince the organization and society of the need to make cuts in some departments, but not in others. This results in a much greater potential for conflict. Especially for politicians there is a risk that they become personally associated with cuts, or that they have to favor one interest group above the other. From a political perspective, proportional cuts are therefore a favorable strategy, but from a managerial perspective, targeted cuts should be favored.
For the purposes of innovation, I will argue here today that the targeted approach should be favored. The proportional approach can be politically favorable, but in effect it is not responsible management. It is a form of non-decision making, that advocates business as usual and more of the same, only less of it. Moreover, a proportional cutback management strategy is likely to lengthen the duration of financial stress of the organization, thereby also lengthening the negative effects of cutbacks for employees. A targeted approach can also have negative consequences for employee morale and cause conflict, but following the principle of creative destruction, a targeted approach allows to direct cutbacks at the inefficient parts of the organization, thereby freeing up resources for innovation and modernization for new programs or activities.

What approach do European managers favor?
In a research project called COCOPS, we investigated what approach of cutbacks is favored by public managers in more than 15 European countries. The project featured a questionnaire among the highest level civil servants in government organizations. This the largest questionnaire ever conducted concerning financial cutbacks and reform in the European public sector. The results indicate that a targeted strategy was followed by about 41% of the top managers. A proportional approach was used in 30% of the cases. It is also interesting to see that 15,9% respondents indicate that no major cuts had to be made, but that they relied mostly on increasing productivity and efficiency in their organization. Finally, 10,6% of respondents indicate that no cuts had to be made at all.

chart1

On the next slide, the results are shown for 10 different countries. As is evident from this slide, this group that answered that no cuts had to be made consists for a large part Norwegian managers. The large purple part in the bar of Norway shows that over 50% of Norwegian top managers do not implement cutbacks in their organization. In most other countries, this is less than 10%. There are some countries that clearly rely on targeted cuts, such as the United Kingdom and Spain. In other countries, such as Italy and the Baltic countries, a proportional approach is favored. What is interesting about this graph is that it is not possible to detect a clear pattern between approaches and different countries, for example between western and southern European states. This suggests that multiple factors explain the approach that is favored by managers.

chart 2

The most obvious explanations for what strategy is favored are of course economic factors. Cutback management research shows that government organizations typically first respond to financial pressure with proportional cuts. However, when the economic situation becomes worse over time, they will switch to targeted cuts. The majority of targeted cuts in Spain can thus perhaps be explained by the severity of the crisis there. The opposite example is Norway, which is one of the only European countries without a budget deficit.
Another important factor may be managerial autonomy. In order to make strategic cuts, managers need to be able to manage. However, in public organizations, managers typically deal with a lot of rules and procedures concerning budgets, which limit their options to make strategic cuts. While strategic, targeted budget cuts often require to plan ahead for several years, public managers are often tied to single year budgets, with little guarantees for next year’s budget. They also deal with interferences from politicians in their daily decision-making. When money starts to run out, both the rules and procedures managers deal with, as well as the degree in which politicians interfere, tend to increase. This makes managers less able to opt for strategic, long-term strategies when dealing with cutbacks. Across European countries, we see large differences between managerial autonomy of managers. This chart is also from the COCOPS research project, and it shows a clear distinction between Anglo-Saxon and Scandinavian European countries on the one hand, and the southern and continental European countries on the other. The first have relatively high degrees of managerial freedom, while the second group, most notable Italy and Spain, report much lower degrees of management autonomy. This indicates that managers in some countries will be better able to make strategic cuts than in others.

chart3

A third factor that will affect the degree in which managers are able to use a strategic cutback approach is performance information. In order to make strategic budget cuts, you of course need management information about which parts of the organization are efficient and perform well, and which parts are not. Otherwise, you don’t know which part of the organization to cut, or which employees to fire. The reality in many European public organizations, is that this information is often not available. On this next slide you see the same 10 countries ranked according to the availability of performance information. On the top, we see countries that have vigorously implemented reforms and modernized government in the past decades. Examples are UK and Estonia, which is known for its large-scale implementation of electronic government systems. On the bottom of the chart, we see the continental countries that rely on more traditional, bureaucratic government models. Examples here are France and Spain. As such, these differences in the availability of performance information may explain different degrees in which managers are able to use strategic budget cuts.

chart4

Implementation
Now that we have explored the strategies that public organizations use, and the factors that influence decision-making about budget cuts, let’s go to the actual implementation of cutbacks. The objective of the implementation of cutbacks is of course to decrease spending. However, on the road to decreased spending, cutbacks are likely to result in several dysfunctional reactions such as increased employee stress, decreased engagement, decreased commitment, more conflict. In turn, these dysfunctions can have undesirable consequences such as lower organizational performance, and decreased innovation. So an organization that attempts to implement budget cuts wants decreased spending, but what is also gets is unhappy employees, and thus lower performance and decreased innovation. So an important question for managers is if there is a way to implement budget cuts in such a way that it is possible to mitigate these dysfunctions of cutback management. For that, change management might offer some promising solutions.
Change management theory states that the effects of organizational changes are not only dependent on what changes in the organization, but that these effects are also dependent on how these changes are implemented. In other words, the effects of organizational change are also dependent on the process through which change is implemented, rather than only the content of these changes. This means that the effects of budget cuts can be managed.
The change management literature lists a number of practices that could potentially mitigate the negative effects of cutback implementation in public organizations. The first is communication. High quality change communication explains to employees why cutbacks are necessary, so that employees may better understand and support the implementation of cutbacks. Moreover, the implementation plan must be clearly communicated to employees, so that employees are aware of the scope and time planning of the implementation process, so that there are little surprises and rumors concerning the cutbacks being implemented. High quality communication about change ideally addresses why the cutbacks are necessary, and it convinces employees the measures that are going to be being taken will resolve the situation.
A second important aspect of a successful change process is participation. Employee participation may not be the first thing that comes to mind in the implementation of cutbacks in the public sector. Public sector organizations traditionally apply a very top-down implementation approach. In addition, employees may not be prone to actively participate because cutbacks are not likely to result in a situation that is attractive or more favorable for them. However, many studies state that organizational change is most successful when employees take part in the planning and implementation of change. Participation in change can contribute to better solutions, because frontline employees possess a lot of expertise about and experience with the processes of the organization. They may thus be better able to design and implement cutbacks. Also, employees are better able to exercise influence and may have a greater sense of ownership over the implementation process when they are allowed to participate. This could potentially reduce any negative effects of cutback implementation.
A third aspect of high successful change management is that employees receive individual attention during the implementation process. The implementation of cutbacks may not affect all employees equally, and different employees may react to change in different ways. Cutbacks are likely to cause insecurity and anxiety among employees. Therefore, it is important that managers pay individual attention to the worries and problems that employees have with the cutbacks. Individual attention, rather than a one-size-fits-all approach, may thus also reduce the negative effects of cutbacks.
This of course all sounds very promising, but a problem with change management ideas such as these, is that it is very often not based on actual evidence or research. In a study with dr. Brenda Vermeeren from Erasmus University Rotterdam, we conducted a study in order to test to what extent applying these change management practices can actually make a difference in the implementation of cutbacks. There is already ample evidence that cutbacks can have negative consequences for employees, but we wanted to know if implementing them right, so using these change management practices, could make cutbacks less harmful for employees.
In order to test this, we sent a questionnaire to over 29.000 employees in the Dutch public sector. These employees work in all different sectors from national government to local government, from primary education to universities, and from health to police. Over 12.000 employees replied. Of those, over 6000 employees were experiencing the implementation of cutbacks in their organization. In the questionnaire, we asked these employees questions about the cutbacks that were being implemented in their organization, and of course to what extent the three change management practices were present in the implementation process.
In order to test the effect of applying change management during the implementation of cutbacks, we measured two outcomes that are related to the wellbeing of employees. The first is engagement, which is an important work-related psychological attitude. Engaged employees are motivated, satisfied and full of energy. It can be seen as the opposite of a burnout. The second outcome that we measured is organizational commitment. Commitment concerns an employee’s identification with and involvement in an organization. Employees who are committed to the organization feel that they belong in the organization and they would recommend working there to their family and friends. Moreover, committed employees go the extra mile for the organization and are less likely to be absent or sick, or to look for employment elsewhere. In contrast with engagement, it is important to note that commitment is an attitude aimed at the organization, while engagement concerns an attitude about the work that someone is doing. Despite these differences, both engagement and commitment can be important drivers of innovation in the organization. If people are engaged and committed to the organization, it is more likely they will be creative, come up with innovative solutions and think about how the operations of the organization can be improved.
So, what did we find? The results of our study show that the implementation of cutbacks is negatively related the wellbeing of employees. However, an interesting result is that the commitment of employees is negatively affected, but that engagement is not. These results thus indicate that cutbacks in the public sector can make civil servants unhappy about the organization where they work, but that they do not affect the energy they put in to doing their jobs. For example, a teacher who is experiencing cutbacks in the organization will be less happy about the school where he or she is working, so there is a greater risk that the teacher will leave the organization. At the same time, the results thus indicate that people will not become less enthusiastic about the job they are doing.
Because we did find a negative effect of cutbacks on employee commitment, we wanted to know to what extent our three change management practices could make a difference. The results show both communication and participation, which can be seen as the two standard change management strategies, do not reduce the negative effects of cutbacks on commitment. There is only one strategy that does have a positive impact, which is paying attention to the individual needs and worries of employees during the implementation process.

chart5

In this plot, you see the effect of having attention for the individual needs and worries of employees. On the x-axis, you see the effect of low degree of cutbacks versus a high degree of cutbacks. On the y-axis, the degree of organizational commitment of employees can be seen. The normal line represents the effect of cutbacks on commitment when there is little individual attention for employees in the change process, and the dotted line indicates a high degree of individual attention. As you can see, the downward slope of the dotted line is less severe than the normal line, indicating that cutbacks have less negative effects for employee commitment when managers have a lot of individual attention for employees.

Conclusions
As a conclusion of my talk, I am afraid I cannot give you a step-by-step plan on how to manage financial cutbacks in your organization. What I can do, is leave you with three paradoxes that result from my talk.
First, cutback management results in what I would call an autonomy paradox. In order to come up with strategic, smart budget cuts in public organizations, managers need to be able to make decisions. However, conflicting interests, the interference of politicians and their hesitance to make strategic decisions, and the many rules and procedures that characterize budgeting in the public sector, all decrease the autonomy of managers that is needed to make budget decisions. Managers need autonomy to make strategic decisions, but in times of financial crisis, they typically don’t have it. Moreover, from a comparative perspective, we see large differences in the degree of management autonomy between western and southern European countries.
A second problem is the information paradox. Similar to autonomy, management information is crucial in order to make budget cuts that will be efficient in the long term. But collecting management information takes time, and it is often expensive. The paradox here is that especially in times of financial crisis, there is no time and money available to collect management information. The reality of cutback management is often, that when you have management information available, you don’t need it, and when you need it, you don’t have it. Again, from a comparative perspective large differences exist between European countries that have in the past implemented modernizations, and those that have not. Both the autonomy and the information paradox are thus especially prevalent in countries that have not rigorously implemented reforms aimed at the modernization of government.
A third problem is related to the implementation of cutbacks, and can be called the centralization paradox. In times of crisis, public most organizations will adopt a top-down decision-making and implementation process, in which higher managers decide and communicate what will happen. The paradox here, is that in order to take away their negative effects of cutbacks on employees, the implementation process needs to be led from the bottom of the organization. One-size-fits-all communication programs cannot tend to the individual worries and needs of all employees. This can much more effectively be accomplished by lower level managers and direct supervisors. The paradox here is thus that the implementation of cutbacks automatically triggers centralization in the organization, but decentralization is needed in order to successfully implement organizational changes.
Again, cutback management in public organizations is a difficult matter, and I hope you will forgive me for not providing you with any easy solutions or quick fixes. However, successful cutback management depends in part on overcoming these three paradoxes. There is no easy fix for these paradoxes, but understanding their complex and paradoxical nature is the first step.