How the Gresham Law Can Undermine Company Success

You understand that success comes from combining people, process, and technology. But when bad processes drive out good, companies crumble. This phenomenon, I use the Gresham's law as analogy, states that given a choice of currencies, an individual will keep the more valuable but spend the inferior option. At work, Gresham's law means that inefficient processes and poor technology can undermine an organization's health. In this article, I tried to reflect in how to identify harmful business practices before they take root and spread. With vigilance and care, you can nurture efficiency while weeding out waste. Guiding a company requires tough choices, but this knowledge equips you to cultivate prosperity, not poison.

What Is the Gresham Law?

The Gresham Law refers to the economic theory that when there are two forms of commodity money in circulation, the one with the lower commodity value will drive the other out of circulation. In other words, "bad money drives out good." When people have a choice of which money to accept, they will choose to keep the money with the higher commodity value and spend the money with the lower commodity value.

How the Gresham Law Applies to Companies

Inferior Work Drives Out Good Work

The Gresham law states that "bad money drives out good." Applied to companies, this means inferior work and processes tend to displace high-quality work and effective processes. When companies fail to recognize and reward high-quality work, employees lose motivation to go above and beyond. Mediocrity becomes the norm.

Low Performance Standards Spread

If a company accepts poor performance from some employees or teams, those low standards tend to spread. Other employees see that subpar work is tolerated or even rewarded, so they lose motivation to excel. A culture of mediocrity develops, which is difficult to reverse. Exceptional employees become frustrated and may leave.

Short-Term Thinking Dominates

When an organization accepts or even rewards inferior work, it often stems from prioritizing short-term gains over long-term success. Leaders may make decisions that temporarily boost revenues or margins but ultimately undermine the company's foundation and future stakeholder relationships. Furthermore, companies frequently neglect to invest in high-quality processes, training, and the development of new products and infrastructure that would foster sustainable growth. A final word in this chapter is directed at the so-called "Pseudo A players" who claim to solve all problems in the short run, thereby destroying the efforts of past teams in pursuit of immediate gains, which ultimately harms teamwork and are the most dangerous "cancers" you can have in a company.

Real World Examples of the Gresham Law in Action

Inferior Products Replace Superior Ones

As companies grow, managers often make the mistake of prioritizing short-term gains over long-term success, especially in publicly listed companies. They choose efficiency or "optimizing the bottom line", even though superior performance alternatives are available. Over time, these choices tend to undermine the company's standards of excellence and reputation.

For example, a company known for its quality, performance, and security may start using lower-quality materials and components to cut costs and increase competitiveness. Initially, the effects might be subtle. However, over the years, the brand could lose its prestige due to a decline in quality and status. By compromising their standards for temporary cost savings, the company risks inflicting permanent damage. An example of this could be 3M, a prestigious American company that faced legal action due to the poor quality and standard violations of its earplugs.

Unqualified Employees Replace Skilled Ones

Similarly, companies might opt to hire less qualified but cheaper employees instead of investing in top talent. They may favor high individual performers over strong team players, or, even worse, replace talented and independent-thinking employees with "Yes-men". While such strategies reduce payroll costs in the short term, they can have damaging consequences for the organization and its clients or customers.

For instance, a firm managing sensitive customer data may hire employees with low skills and ethical standards to handle this data. However, if these unqualified employees make errors or fail to ensure the data's safety, clients will lose trust in the firm's abilities and take their business elsewhere. The firm saves money on employee salaries but loses revenue from dissatisfied clients—a false economy. A real example of this could be the Microsoft private password leak.

Short-Term Thinking Replaces Long-Term Strategy

Most critically, managers who prioritize near-term gains over the long-term interests of the company end up undermining its foundation. Executives who make decisions to boost share prices or dividends this quarter without consideration for the organization's future cripple its ability to thrive and adapt.

Myopic management that lacks vision and strategic thinking will ultimately limit the company's growth and innovation. Leaders must consider how today's choices will impact the organization's health and competitiveness for years to come. Failure to do so results in missed opportunities, lack of direction, and vulnerability to shifts in the market.

In summary, the Gresham law reminds us that poor choices and misaligned incentives will drive out good ones over time. Companies that wish to succeed must emphasize long-term, strategic thinking, invest in high quality and standards, hire and develop top talent.

Strategies for Companies to Avoid the Gresham Law

Avoid Short-Term Focus

To evade Gresham's law, companies need to adopt a long-term orientation. Focusing too narrowly on short-term gains can incentivize "bad" behavior that generates immediate rewards but undermines long-term success. I understand that in the context of publicly listed companies, not prioritizing quarterly or annual (for smaller companies) earnings is complex, and not all investors have the sophistication to understand investments in research and development. Companies should evaluate decisions based on their multi-year impact and link executive compensation to long-term metrics.

Build a Strong Culture

An organization’s culture powerfully shapes behavior, so companies must cultivate a culture that aligns with their strategic goals. This means clearly articulating core values and priorities, then reinforcing them through organizational structures, policies, and leadership actions. For example, if customer service is a key value, the company could implement customer satisfaction metrics, offer rewards for high performance, and model excellent service at the executive level. A strong, strategically aligned culture will encourage “good” behavior and discourage actions that could undermine the company’s mission.

Provide Proper Incentives

People are motivated by incentives, so companies need to ensure their incentive systems encourage behavior that benefits the long-term health of the organization. Compensation should be tied to metrics that measure real value creation, not just short-term wins. For instance, salespeople could be rewarded based on customer lifetime value, not just sales numbers. Promotions and bonuses could depend partially on peer reviews, not just hierarchical rankings. And executives should be paid based on multi-year performance, not just year-over-year stock gains. Proper incentives will help foster a constructive company culture and guide people toward decisions that create sustainable value.

With the right strategies and leadership commitment, companies can overcome the forces of the Gresham law and build an environment where “good” behavior flourishes. By taking a long view, strengthening their culture, and providing incentives for value creation, organizations can achieve enduring success.

Conclusion

While the Gresham law can pose serious risks, companies are not powerless against its effects. By cultivating a culture of transparency and integrity, establishing robust controls, and incentivizing ethical behavior, companies can reduce the likelihood of bad practices driving out good. Though constant vigilance is required, the considerable rewards of an ethical workplace are well worth the effort. With care and intention, companies can build environments where employees are empowered to do the right thing. However, it's important to remember that each company is unique; there's no one-size-fits-all solution, but leading with courage, optimism, and wisdom is key.