Pay Equity: Internal and External Considerations

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When setting pay rates, compensation managers must take into consideration the employees' perception of fair, equitable compensation.

Pay Equity: Internal and
External Considerations

KENT ROMANOFF
Associate Hay Group, Inc.

KEN BOEHM
Labor Economist Pacific Telesis

EDWARD BENSON
Vice-President, Hay Group, Inc.

EqUity (or fairness), a central theme in compensation theory and practice, arises in many different contexts. Here, for example, are some major areas: • The legal and economic issue of equal pay for similar work (comparable worth). • Pay differences caused by external competition or market pressures. • The fairness of individual wage rates for people who are doing the same job. • Individual employee views of their value relative to their pay. A company's approach to equity is as important as the actual pay programs it im­ plements. Companies typically emphasize external equity in the design of their com­ pensation structures. This focus on external equity enables a ,company to develop compensation structures and programs that are competitive with other companies in appropriate labor markets. Perceptions of equity can also influence a company's abil­ ity to attract, retain, and motivate its employees. Employee perceptions of equity and inequity are equally important and should be carefully considered when a company sets compensation objectives. Employees who perceive equitable pay treatment may be more motivated to perform better or to sup­ port a company's goals. Individual employees, however, perceive equity in many different ways. Therefore, it is difficult to specify one definition of equity that is ap­ plicable to all s i t u a t i o n s . ' In sum, compensation equity poses a conceptual and practical challenge: how to reconcile the company's ability to pay (financial resources), desire to pay (image), and 17

COMPENSATION AND BENEFITS REVIEW

need to pay (labor market) with the employees' perception of equity (fairness). Equity is commonly defined as anything of value earned through providing or investing something of value. Fairness is achieved when the return on equity is equivalent to the invest­ ment made. As it relates to compensation, fairness is achieved when pay equates to the value of the work performed. Inequity, on the other hand, occurs when the value of the work performed does not match the value of the compensation received.

Definitions of Equity

Equity Theory Early studies indicate that inequitable treatment directly affects and influences em­ ployee behavior and performance. In Equity Theory Towards a General Theory of Social Interaction (The Academic Press, 1976), J. Stacy Adams proposed that an em­ ployee continuously monitors his or her inputs and outputs on the job, and perceives an equitable situation when the ratio of his or her inputs and outputs are equal, to those of other employees. If this ratio is not equal, the employee may feel angry (as a result of not being paid enough) or guilty (as a result of being paid too much). Either feeling could result in dissatisfaction or discomfort. One can view equity from either an internal or an external perspective. Internally, equity can be expressed in terms of employees who do the following: • Perform similar jobs.

KENT E. ROMANOFF, as associate with the San Jose, California office of Hay Management Consultants, provides a broad range of general management and human resources consulting services across several industry sectors. Romanoff earned a B.A. and an M.A. from Stanford University. Before joining Hay, he was manager of training and technical publications for SoloSystems Inc " a high-technology company involved in designing and manufacturing microcomputer workstations. He is also a past director of the Institute for Programming Technology. KENNETH F. BOEHM, a corporate labor economist for Pacific Bell, is responsible for compensation planning for all nonsalaried employees. He also serves as graduate lecturer...
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