Macroeconomic

Compensation Concepts

CHAPTER 1
Compensation in a Knowledge-Based Global
Economy
CHAPTER 2
The Reward System
CHAPTER 3
The World of Pay and Compensation

Chapter 1
Compensation in a Knowledge-Based Global Economy
Learning Objectives
In this chapter you will learn about:
The importance of rapidly growing global economy
The relationship between labor costs and organizational competitiveness and
profitability
The contribution of organizational compensation to the lifestyle opportunities of
employees and their families
Income levels that determine social-class structure for inhabitants of the United
States.
The relationship among levels of education, knowledge and skills, and workrelated income.

Compensation Strategy
Develop a compensation program that recognizes the lifestyle
and standard of living of all employees.

One microeconomic factor has been and will continue to be of critical

importance within a global economy. That factor is labor costs.
Labor cost issues affect the efficiency and even the survival of public
and private sector organizations.
Long before the advent of a global economy concept, governments in
some manner developed various approaches and efforts to redistribute
income to the poorer members of their society.
It has been recognized that if some kind of subsistence level of income
or necessary goods and services is not provided to the poor, a
belligerent society develops with constant warfare between the haves
and the have nots.
One major method of providing for the poor promoted some kind of
welfare payments in the form of money, food, housing, health care
services, and even clothing.
Another method was for government agencies Civil Service- to
provide jobs and job related paychecks.

Providing jobs and pay cheeks to unneeded, nonproductive workers not

only leads to overstaffing but most often results in inefficient operations and
promotes cronyism and corruption.

A key factor in promoting effective delivery of essential goods and services

fits the provision of performance-based remuneration system for all
workers.
Compensation Management provides a step-by-step approach for designing
a remuneration system that recognizes
job requirements;
employee-related knowledge and skills; and
performance-related incentives

that link individual,

performance.

team,

work

unit,

and

organization

Total remuneration also includes a host of benefits that protect and expand
the lifestyle and health of workers and their families.

COMPONSATION AND ORGANIZATIONAL

STRATEGY
To develop a competitive advantage in a global
economy, the compensation program
of the
organization must support totally the strategic plans
and actions of the organization.
The individuals occupying the executive positions
of the organization are responsible for establishing
and developing the strategy of the organization.

Management and organizational specialists review

these strategic plans and take actions necessary
within their domain to ensure accomplishment of
the plans.

For the human resources/compensation specialist, the

assignment to ensure accomplishment of organizational
strategy begins with determining
(1) the work that must be performed by some work unit or
individual.
(2) the kinds and levels of knowledge and skill required
(3) the quantity of people needed to promote
organizational success, and

(4) the rewards the organization can offer to its members

that promote a work culture that ensures accomplishment
of organizational strategy.

A human resources/competitive
advantage that fulfills the preceding
four requirements will provide a
competitive advantage to the
organization of equal importance.
These efforts assist in developing an
organizational
structure
that
promotes effective use of all
available resources.

INTEGRATING KNOWLEDGE AND SKILL REQUIREMENTS,

ORGANIZATION COMPENSATION, AND EMPLOYEE INCOME

To be successful in a knowledge based world, each organization must

make full use of available technologies.
The efficient and effective use of these technologies requires a
workforce that has the needed knowledge and skills.
The major point presented in this chapter of Compensation
Management is that work does pay off.

Although organizations are searching constantly for ways to keep

labor cost within acceptable limits, they must recognize that
employee satisfaction relates directly to income obtained from work
performed and the lifestyle opportunities made available to the
workers and their families from this work-earned income.
To gain an appreciation of the relationship between work provided
pay and employee work satisfaction, it is helpful to gain an
understanding of social class, class lifestyle, and income in the
United States.

LIFESTYLE AND COMPENSATION

For at least the past 50 years, behavioral scientists and economists
have discussed at length the two critical forces of pay- the absolute
and the relative.
Gone are the days when anyone would, or could, think that moneypay is NOT a motivator. It exerts a powerful influence on human
behavior.
As the famous English poet John Milton said more than 300 years
ago. money brings honor, friends conquests and riches.
PAY AND SOCIAL CLASS
From the dawn of civilization, humanity has been divided into at
least two social classes- the haves and the have-nots. As families
merged into tribes and tribes into governments, a small insignificant
social class emerged between the haves and the have nots.
It is important to recognize the relationship among pay earnings and
income, and social structure within the country.

Social Structure and Income

For hundreds of years those involved in the identification of social classes have used
a variety of criteria for determining who should be in a particular social class.
The typical upper, middle and lower class divisions can be separated further into
seven subsets. Each of these subsets defines a significantly different standard of
living based on family income. The three classes, seven subset classes, and annual
family income intervals are shown in Figure 1-1
FIGURE 1-1 Seven classes of Society in the United States

UPPER

MIDDLE

LOWER

Class

Family of Four Annual Income

Percentage of U.S. Population

Ultra rich

Over $1,000.000

Less than 0.5 of 1

Wealthy

$250.000 to $1,000.000

Upper Middle

$100,000 to $250,000

Middle Middle

$60,000 to $100,000

25

Lower Middle

$35,000 to 60,000

37

Working Poor

$19,000 to $35,000

17

Poverty

to $19,000

13

Less than 2

About 64 percent of the working-age population are employed. The labor force includes 75 percent of
all men. 60 percent of all women and 56 percent of all teenagers. These numbers mean that the
average family has at least two members working.

Establishing Class Family Income Limits

The actual dollar values presented in Figure 1-1 were established from the top down
and from the bottom up.
Lifestyle and Social Class in the United Stages
To appreciate the importance of employer provided pay, it is necessary to have an
understanding of the lifestyle and standard of living dictated by pay, earnings, and
income.
The Poverty Class Those who, unfortunately, are members of the lowest-income
group in the United States are not enjoying the good life available to the majority.
The Working Poor One feeble and fragile step away from complete destitution are
the working poor. Many of these individuals hold part- and full-time jobs that pay a
wage equal or close to the government-established minimum wage.
Lower Middle Class Lower-middle class families do not have the luxury of
wasting their money. When lower-middle class individuals spend their earnings on
frivolous pastimes, they are only one short step away from returning to the lowerincome class
Middle-Middle Class When people talk about middle class in the United States,
they are usually referring to those in this group. Once family income exceeds
$55,000 to $60,000 the payment of monthly bills does not require extensive
manipulation of the familys financial resources.

At middle-middle class, a little reserve fuel for rainy days begins to develop.
Individuals in this class can begin purchasing extras that make life so enjoyable.
Upper-Middle Class Some feel that families of four with annual incomes in excess of
$100,000 per year are wealthy.
The good life of the upper-middle class is made possible by earning $100,000+ a
year.

The Wealthy Not too many years ago, few individuals and an extremely small
percentage of families had annual earnings of between $250,000 and $1 million.
For the wealthy, a second or even third home in an exclusive vacation area is easily
affordable. Pursuit of distinctive household furnishings is commonplace. Eye
catching designer clothing and sleek, high performance automobiles help identify a
member's place in the social order. In this social class, it is possible to spend 25
percent of income on leisure activities. Luxury for the wealthy is the way of life.
The Ultra rich Not a week goes by that the daily news does not inform the world of
the pay of the rich and famous.
Fortune magazine stated that the top 1 percent of wage earners had pretax incomes
for a family of four starting at $350,000.
Developing an appreciation of lifestyle opportunities further emphasizes the
importance of pay and compensation practices in the United States. Because job
related earnings can effect every part of the lifestyle of the wage earners and their
families, it becomes readily apparent that pay has an economic and emotional
impact on the wage earner.

Two-Wage-Earner Family
Historically, adult female members of families in
the lower class of society performed some kind of
work activities in addition to raising the family and
performing house hold duties.
The social and family costs related to the two wage
earner family are significant. Both the male and the
female wage earners have to make major
adjustments among their work, family, and
recreational activities.

Chapter 2
The Reward System
Compensation and Non-compensation Dimensions
Learning Objectives
In this chapter you will learn about:
Opportunities available to employers to stimulate the productive efforts of each
employee

The dimensions of a compensation system

The dimensions of a noncompensation system
The need to combine skillfully the compensation and noncompensation
dimensions into an effective reward system.

Compensation Strategy
Recognize and group compensation components so that they influence employee
motivation in a positive manner and lead to improved organizational performance
and profitability.

The Reward System

The reward system of an organization includes anything that an

employee may value and desire and that the employer is able or
willing to offer in exchange for employee contributions.

A rather broad classification scheme that facilitates the

identification of the various kinds and qualities of rewards
provided by employers is to separate the compensation
components from noncompensation components.

That is to say, all rewards that can be classified as monetary

payments and in-kind payments constitute the compensation
system of an organization.

Monetary payments can be in the form of coins or paper money,

or in the less tangible form of cheques or credit cards. They
have value in use, and they simply exchange transactions. In
kind payments are goods or services that are used in lieu of
money and that provide an equivalent value for what has been
offered or received.

All other rewards constitute the noncompensation system

THE REWARD SYSTEM

COMPENSATION SYSTEM
Figure 2-1 Models the eight dimensions of a compensation system
Figure 2-1 Dimensions of a Compensation System

Compensation
System

Pay for Work

and
Performance

Disability
Income
Continuation

Deferred
Income

Pay for Time

Not Worked

Loss of Job
Income
Continuation

Spouse (Family)
Income
Continuation

Health, Accident,
Liability Protection

Income
Equivalent
Payment

COMPENSATION DIMENSIONS
A Brief description of the eight compensation dimensions and some of their
components will help the reader understand and appreciate the complexity of a
compensation system in a modern organizations.
Pay for Work and Performance : Base pay, premium and differentials, short term bonuses,
merit pay, and certain allowances.

Pay for Time Not Worked: Days off with pay for holidays, paid vacations, paid time off for
a wide variety of personal reasons.
Loss of job Income Continuation : Unemployment insurance, supplemental unemployment
benefits, severance pay etc.
Disability Income Continuation : Social security, workers compensation, sick leave, short
and long term disability plans.
Deferred Income : Employer provided pensions plans, savings and thrift plans, annuities,
supplemental income plans.
Spouse (Family) Income Continuation : Life insurance plans, workers compensation, other
related plans that provide income for the families.
Health, Accident and Liability Protection : Medical, hospital and surgical insurance plans,
medical. Dental and vision insurance
Income Equivalent Payments : Perquisites or Perks, get tax benefits in them, use of
company car, company credit cards, payment of expenses tp professional meetings,
subsidized food services, child services, etc

NONCOMPENSATION SYSTEM

The other major part of the reward system consists of noncomensation rewards
Figure 2-2 models the noncompensation system
Enhance Dignity and Satisfaction from Work Performed
Figure 2-2 Dimensions of a Noncompensation System
Noncomponsation
System

Enhance Dignity
and Satisfaction
from work
performed

Promote
Constructive Social
Relationships with
Coworkers

Enhance Physiological
Health, Intellectual
Growth, and Emotional
Maturity

Allocate
Sufficient
Resources to
Perform Work
Assignments

Design Jobs That

require Adequate
Attention and Effort

Offer Supportive
Leadership and
Management

Grand sufficient
Control over the
job to Meet
Personal
Demands

Noncompensation system
Enhance dignity and satisfaction from work performed : We need you and
appreciate your efforts.
Enhance Physiological Health, Intellectual Growth, and Emotional
Maturity: safe equipment, risk free work environment, avoidance of heat, cold
and humidity, elimination of content with radiation, carcinogens, other disease
related materials; emotional strains,
Promote Constructive Social Relationships with Coworkers : One man is
no man. One human alone is weak. Opportunity to interact in a in a socially
constructive manner with other people.
Designs Jobs That require Adequate Attention and Effort : Problems arising
from boredom related to work, Design jobs so that workers could be taught
quickly how to perform a few highly repetitive tasks. Avoiding boredom.
Allocate Sufficient Resources to perform Work Assignments : Assisting
employees to complete the mission successfully.

Grant sufficient Control over the Job to Meet personal Demands :

Generating special conditions suit employee likings.
Offer Supportive Leadership and Management : Guidance and support

Chapter 3
The World of Pay and Compensation
Learning Objectives

In this chapter you will learn about:

The major components of a compensation program
The variations in base rates of pay for employees performing different
assignments within an organization
Factors that influence difference in rates of pay for people doing similar work
in different organizations
The increasing importance of different rates of pay within a global economy.

Compensation Strategy
Identify forces that influence compensation practices and promote hiring and
retention of a productive workforce.

THE COMPENSATION PROGRAM

The understand something about these labor costs, a good first step is to identify
the major parts that can be included within a compensation program (1) base wages
and salaries; (2) wage and salary add-ons; (3) incentive payments, both short and
long term; and (4) employee benefits and services.

This four dimensional model simplifies the eight dimensional model presented in
Chapter 2 (Figure 2-1). These two models provide different ways of viewing
compensation . The model in Chapter -2 might be more useful from an employees
perspective, whereas this model is more useful from the perspective of an
employer.
Base Wages and Salaries From the perspective of many employees, the most
important part of the compensation program involves the determination and
administration of base wages and salaries.
Wage and Salary Add Ons For many employers, this is the least critical of the
four major components of the compensation system. It includes overtime pay, shift
differentials, premium pay for working weekends and holidays, and other add-ons
for being on call or for other demands not normally required of workers.
Incentive Payments Possibly the oldest part of the compensation package is
payment for a specific output.

Benefits and Services This part of the compensation package includes time off
with pay, pay when employment has been suspended or terminated.

DETERMINING RATES OF PAY

How are decisions made that determine who will be paid $5.15 per hour and who
will receive $3 million for a years work? Why does an organization consider it
reasonable to pay an entry level clerk $12,000 per year, a star salesperson $3
million per year and its chief executive $9.5 million per year?

The critical or basic reasons underlying the differences in pay and compensation
packages for different employees relate to the following correlates or
determinants.
Kinds and Levels of Required knowledge and Skills
The most important factor influencing the rate of pay of employee is the kind of
job the person performs.
Kind of Business
The nature of the business is also major factor influencing the pay received by a
job holder.

Union-Nonunion Status
Industries with the highest proportion of unionized workers are in the public sectorSince the blossoming of unions in the late 1930s those businesses with the highest
rate of unionization also have included some of the highest paid members of the
work force.
Capital Intensive Versus Labor Intensive

Quite often, business that have low labor costs relative to revenues pay employees
higher rates of pay.
Size of Business
Large business often provide higher wage rates than smaller business. Profitability
and unionization frequently are related to company size.
Unions traditionally have focused on business with many employees.
A direct relationship also exists between the size of the salaries and bonuses
received by top executives and the size of the companies for which they work.

Philosophy of Management
Some owners and top executives have a philosophical bias toward paying their
employees as much as possible. Other owners and managers have a completely
opposite bias. These biases have a definite impact on the amount of pay offered and
given to employees.

Total Compensation Package

Various kinds of incentive plans are further enhancing and also increasing the
complexity of the compensation packages of workers in all kinds of companies.
Base pay of annual earnings have been used to compare the compensation
packages of employees.
Geographic Location
Employment and unemployment do not affect all sections of the nation equally.
A high paying jobs disappeared, workers had to accept lower paying jobs or move
and search for jobs where opportunities existed.

Not only do employment opportunities dampen or improve job wage rates, but
certain regions have historically paid higher wages than others.
Supply and Demand of Labor
Even in times of high unemployment, individuals with certain sets of skills or
abilities are in demand. Sometimes the demands are in specific locations: another
times, they are national in scope. Over the past 30 years, for example, demand has
been high for skills related to electronic (computer-based) date processing . Jobs in
high demand frequently are called exotic jobs, and those who have the necessary
skills can demand and will receive premium wages.

Profitability of the Firm

Employees working for highly profitable business have a greater chance of receiving
higher wages than those working for less profitable firms.

Historically, high-paying firms felt they had an edge in hiring and retaining the best
workers by paying above the going rate in their markets. The best candidates took less
time to train. Also, by retaining competent workers, many of the costs related to hiring
are reduced.

Employment Stability
During periods when work forces are being reduced in size, employees become
extremely concerned about continuation of employment. Practically all workers want the
psychological security of knowing that their jobs will be their as long as they want them.
The recession of 2000 and 2001 and the terrorist attacks of September 11, 2001 further
reduced employment opportunities for many Americans.

Gender Difference
The gap between male and female earnings has been a major irritant to advocates of
womens rights. In industries and jobs in which females dominate the workforce (in
excess of 70 percent of all employees are female), wage rates are normally lower than in
those cases in which males are the dominant workers. Historically, women have earned
approximately 60 percent of what men have earned. However, in the 1980s the gap began
to close.

Employee tenure and Performance

When analyzing rates of pay using various kinds of composite date, it is practically
impossible to separate two critical employee differences: tenure and performance.
In most cases, an employees rate of pay increases with years of service. Through
their experience, they become more effective problem solvers.
A WORLD IN TRANSITION
In 1970, in his book Future Shock, Alvin Toffler identified the rise of critical social
and economic problems caused by the rapid changes that were occurring in society.
Toffler stated that bureaucracy, the formal organizational structure established to
direct day to-day routine activates, is incapable of recognizing and resolving the
crises that have the potential to destroy organizations and of recognizing and
implementing innovations that can lead them into a successful future.

Problems caused by rapid change are already influencing the operations of

organizations.

SUMMARY

This chapter identifies and briefly describes the different correlates or

determinants that influence the rate of pay of each employee. These
correlates are (1) kinds and levels of required skills, (2) kind of business,
(3) union-nonunion status (4) capital versus labor intensive (5) size of
business, (6) philosophy of management, (7) total compensation package,
(8) geographic location, (9) supply and demand of labor, (10) profitability
of the firm, (11) employment stability, (12) gender difference, and (13)
employee tenure and performance.

Employee compensation and its major component, base pay, vary

significantly by kind of job, kind of organization and environmental factors.
At first glance, these differences appear to be inexplicable. However, if the
compensation package is analyzed from the perspective of the correlates or
determinants of pay, logical and rational reasons for these compensation
differences begin to appear. To operate within a competitive environment,
organizations must understand how the correlates influence their
compensation practices and make the kinds of reasoned decisions that
permit them to function efficiently and effectively.