INTRODUCTION TO COMPENSATION MANAGEMENT

History of Wages

Wage or pay management has existed for as long as there have been employers and employees. Owners of typically small, preindustrial businesses commonly weighed their ability to pay against employee responsibilities and contributions in order to determine compensation. The rapid development of corporations, multiplication of administrative hierarchies, and specialization of jobs in the 20th century removed owners from the day-to-day evaluation of jobs. Unionization brought a measure of standardization to wage labor, but neither the private sector nor the government began to study systematic job evaluation until after World War 1. The government spearheaded the development of formal compensation administration with incorporation of the requisite Act of 1923, which ranked government jobs and set salary levels accordingly.

After World War II, there was significant advancement in the compensation discipline, both directly and indirectly. The war era saw the imposition of governmental wage and price controls and guidelines. The controls on wages were more stringent than those on benefits, labour unions lobbied for increased benefits and employers gladly capitulated. At the time, generous packages of benefits were nontaxable and cost-effective for employers. Common benefits such as pension plans, extended vacations, and guaranteed wages were added to the roster of statutory benefits in addition to workers' compensation. Over the years, aggressive unions negotiated an astonishing array of benefits, the administration of which fell to compensation managers.

The development of the appropriate laws and regulations in the 1970s combined with equal pay for equal work initiatives began to usher in a new era for the compensation profession, as employees demanded explanations of the rationale behind job assignments, remuneration, and opportunities, as well as employers' overall capacity to pay. Over the course of the decade, pay administration evolved into a thoroughly scientific and bureaucratic method, with its own technologies and rationalization methods.

The compensation management profession grew very systematized. Its precepts were considered nearly as inviolate as natural law until the early 1990s. Owing to, corporate downsizing, international competition, and new management schemes compelled compensation managers to be more adaptive to the changing

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needs of employers and employees. These shifts towards wage and salary administration: job descriptions. The companies asked their employees to use their competencies and skills to contribute to results in several ways, rather than just one easily described way. This makes the compensation administrator's tasks of job description and comparison more difficult and variable. The basics of the discipline still apply, but they are adapted to each corporate culture.

The history of wages in early modern Europe is a study of contrasts. To begin with, most people toiled on family farms or in family enterprises. Hence wages were a dominant part of income for only a small fraction of the population. Nevertheless, hiring workers for wages and working for someone else part of the time were extremely common. The tension between these two facts has informed the two key debates about wages in the early modern period. The first debate, accepting the ubiquity of paid labor, uses wages to infer standards of living and thus examine Malthusian cycles. The second debate involves both the extent of wage labor and the institutions that made it respond or not respond to the laws of supply and demand.

In 1798, the British social theorist Thomas Malthus (1766–1834) argued that in agrarian economies (agriculture absorbed two-thirds of all workers in nearly all European regions prior to 1800) incomes depended on the ratio of land to population. More land allowed higher output per person; more people drove down the output per person. Because land rents increase when land is scare, wages are even more sensitive to scarcity than output per person. This narrative has been adopted, with slight variation, by many different scholars who believe that these iron laws held firm for millennia. For some, these shackles were eventually broken by the increased use of coal, for others by access to the agricultural output of the New World, or even by technical change broadly defined and dated to sometime in the mid-eighteenth century. From the time of the Black Death (mid-fourteenth century) to the 1750s, wage series did follow a broad Malthusian pattern. In England, for instance, wages started from a low in the mid-1300s, rose for nearly a century and a half in response to the epidemic's massive mortality rate, then fell for an equally long time, bottoming out in the seventeenth century. The rise of wages in the eighteenth century was not pronounced, but wage stability in the face of massive population growth was nonetheless an important achievement. Bits and pieces of this story can be seen in all European countries, though each in its fashion raises questions about the standard Malthusian model.

In recent years, Malthus has been under strong challenge. First, as Van Zanden states, wages are not income. At the individual level, nonwage compensation—from common rights, or home manufacture, for instance—was an important element of most families' income in the early modern period. At the national level, earnings from land, capital, skills, and entrepreneurship were of considerable value, even though their distribution was quite different from that of

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wages. As the recent historical record suggests, economies can experience massive growth without witnessing much real wage increase for the unskilled. In the past as in the present, one should investigate wages with some concern for inequality.

Second, and more problematic, is the evidence that comes from examining regional patterns in wages. Regional variation in wages at any point in time is of the same order of magnitude as the two-century variation in wages of a local Malthusian cycle. If we compare high wage regions to low wage regions Malthus's theory fails again. In fact, high population areas did not have low wages. On the contrary, economically leading areas were most often very densely populated relative to the European hinterland. Northern Italy, the Low Countries, and England all were or became densely populated in their period of economic leadership; and they were all also high wage economies. Economic historians now argue that Malthus's emphasis on endowments and demography explained in part the evolution of economies and wages. Political institutions and economic institutions have at least as much importance.

The second debate arrays two sides. On one side scholars argue that families in the early modern era preferred self-sufficiency to the uncertainty or unfairness of market interaction. Therefore they avoided labor markets. These scholars also argue that, unlike in modern society, workers and their employers were enmeshed in a web of social relations that only capitalism would break. In this view, labor exchange was relational rather than market-driven. In such a situation, one would prefer to employ an acquaintance at a higher wage rather than hire an outsider for less. In contrast, the argument continues, modern factory workers have no social relations either with management or with the distant shareholders of the corporation they work for; hence wages are free to reflect the iron law of supply and demand.

That view has come under repeated challenge. In part, this is because the arguments that seek to differentiate early modern from modern labor markets have been made on unsound quantitative evidence and are based on a very naive view of how labor markets operate. When scholars take into account that labor markets are always imperfect, differences between those of the preindustrial and contemporary eras cease to be differences in kind.

The market-avoidance argument fails for empirical reasons: only a small fraction of farms and enterprises were the right size to have an exact balance between their labor demand and their family labor supply. Imbalances arose for different reasons, including seasonal peaks in labor demand at harvest, the demographic cycle in crafts, and the difficulty of adjusting farm size to family size. Therefore many, probably most, families either bought or sold days of labor, earning or paying wages. These wages did reflect supply and demand, rising in summer as

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demand for labor increased, and falling when population growth was rapid and during bad harvests, when the amount of work was reduced, and so on.

There were some important exceptions. For instance, in eastern Europe the strengthening of serfdom stymied labor markets. But there were other areas, like the Low Countries, where wage labor was quite prevalent by the end of the Middle Ages. Overall, the extent of wage labor seems to have paralleled the extent of markets in general: where trade and commerce were more active, one could observe more active labor markets.

Introduction

Compensation Management is an integral part of the management of the organization. “Compensation is a systematic approach to providing monetary value to employees in exchange for work performed.” The characteristics of compensation can be written as follows.

It may achieve several purposes assisting in recruitment, job performance, and job satisfaction.

It is the remuneration received by an employee in return for his/her contribution to the organization.

It is an organized practice that involves balancing the work-employee relation by providing monetary and non-monetary benefits to employees.

It is a tool used by management for a variety of purposes to further the existence and growth of the company.

It may be attuned according to economic scenario, the business needs, goals, and available resources.

Compensation management, also known as wage and salary administration, remuneration management, or reward management, is concerned with designing and implementing total compensation package. The traditional concept of wage and salary administration emphasized on only determination of wage and salary structures in organizational settings.

Approaches of compensation management

There are 3P approach of developing a compensation policy centered on the fundamentals of paying for Position, Person and Performance. The 3P approach to compensation management supports a company’s strategy, mission and objectives. It is highly proactive and fully integrated into a company’s management practices and business strategy. The 3P system ensures that human resources management

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plays a central role in management decision making and the achievement of business goals.

Paying for position Paying for person Paying for performance

Components of Compensation System

Compensation systems are designed keeping in minds the strategic goals and business objectives. Compensation system is designed on the basis of certain factors after analyzing the job work and responsibilities. Components of a compensation system are as follows:

Types of Compensation

Compensation provided to employees can direct in the form of monetary benefits and/or indirect in the form of non-monetary benefits known as perks, time off, etc. Compensation does not include only salary but it is the sum total of all rewards and allowances provided to the employees in return for their services. If the compensation offered is effectively managed, it contributes to high organizational productivity.

1. Basic wages/Salaries : These refer to the cash component of the wage structure. It is a fixed amount which is subject to changes based on annual increments or subject to periodical pay hikes. Wages represent hourly rates of pay, and salary refers to the monthly rate of pay, irrespective of the number of hours put in by the employee. Wages and salaries are subject to the annual increments. They differ from employee to employee, and depend upon the nature of job, seniority, and merit.

2. Fringe benefits : Fringe benefits may be defined as wide range of benefits and services that employees receive as an integral part of their total compensation package. They are based on critical job factors and performance. Fringe benefits constitute indirect compensation as they are usually extended as a condition of employment and not directly related to performance of concerned employee. Fringe benefits are supplements to regular wages received by the workers at a cost of employers. They include

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benefits such as paid vacation, pension, health and insurance plans, etc. Such benefits are computable in terms of money and the amount of benefit is generally not predetermined. The purpose of fringe benefits is to retain efficient and capable people in the organization over a long period. They foster loyalty and acts as a security base for the employees.

3. Dearness allowance : The payment of dearness allowance facilitates employees and workers to face the price increase or inflation of prices of goods and services consumed by him.

4. Incentives : Incentives are paid in addition to wages and salaries and are also called ‘payments by results’. Incentives depend upon productivity, sales, profit, or cost reduction efforts.

5. Bonus : The bonus can be paid in different ways. It can be fixed percentage on the basic wage paid annually or in proportion to the profitability. The Government also prescribes a minimum statutory bonus for all employees and workers. There is also a bonus plan which compensates the Managers and employees based on the sales revenue or Profit margin achieved. Bonus plans can also be based on piece wages but depends upon the productivity of labour.

6. Non-monetary benefits : These benefits give psychological satisfaction to employees even when financial benefit is not available. Such benefits are: (a) Recognition of merit through certificate, etc. (b) Offering challenging job responsibilities, (c) Promoting growth prospects, (d) Comfortable working conditions, (e) Competent supervision, and (f) Job sharing and flexi-time.

7. Commissions : Commission to Managers and employees may be based on the sales revenue or profits of the company. It is always a fixed percentage on the target achieved.

8. Mixed plans : Companies may also pay employees and others a combination of pay as well as commissions. This plan is called combination or mixed plan.

Conceptual Framework of Compensation Management

The concept of wages, the concept of earning livelihood by doing the work of some other is one of the oldest traditions of mankind/society. In ancient times, the remuneration was given by exchange of commodities for labour. With the introduction of coin and notes, the wages are now paid in coins and notes.

Wages are among the major factors in the economic and social life of any community.

1. In an economic sense, wages represent payment of compensation in return of work done,

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2. In a sociological sense, wages characterize stratification of occupational categories.

3. In a psychological sense, wages satisfy the needs directly and indirectly in response to changing employee aspirations. It is an instrumental for the satisfaction of some needs more than others.

4. In a legal sense, the term wages or salaries have acquired various connotations.

Need of Compensation Management

A good compensation package is important to motivate the employees to increase the organizational productivity

Unless compensation is provided no one will come and work for the organization. Thus, compensation helps in running an organization effectively and accomplishing its goals

Salary is just a part of the compensation system, the employees have other psychological and self-actualization needs to fulfill. Thus, compensation serves the purpose

The most competitive compensation will help the organization to attract and sustain the best talent. The compensation package should be as per industry standards

Strategic Compensation

Strategic compensation is determining and providing the compensation packages to the employees that are aligned with the business goals and objectives. In today’s competitive scenario organizations have to take special measures regarding compensation of the employees so that the organizations retain the valuable employees. The compensation systems have changed from traditional ones to strategic compensation systems. 

Wages

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Wages is the payment received by an employee in exchange for labor. It may be in goods or services but is customarily in money. The term in a broad sense refers to what is received in any way for labor, but wages usually refer to payments to workers who are paid by the hour, in contrast to a salary, which implies a more fixed and permanent form of income (e.g., payment by the month rather than by the hour).

Wages are defined as the personal earnings of the labourers and artisans. It is a payment to a person for service rendered. The amount can be paid periodically, like weekly or monthly for the time during which the workman is at employer’s disposal. Wages refer to one of the following three things. Those are :

1. The settled wage rate per day, week or month. 2. The gross earnings for the days worked and it include all type of payments3. The take home pay which would be the gross earnings minus deductions of

any kind.

In economic theory, wages reckoned in money are called nominal wages, as distinguished from real wages, i.e., the amount of goods and services that the money will buy. Real wages depend on the price level, as well as on the nominal or money wages.

In the United States, wages increased fivefold between 1860 and 1960. Adjusted for inflation and expressed in 1982 dollars, the typical weekly wage of a U.S. worker increased from $262 in 1960 to $298 in 1970, but increased foreign competition and slower U.S. economic growth forced weekly wages down to $274 in 1980 and $255 in 1991. In the 1990s, U.S. wages grew very slowly, to $270 in 1998, despite record economic growth. In the United States and elsewhere, a "gender gap" often exists, in which women are paid less than men for comparable positions.

Compensation

The compensation means it includes everything, an employed individual receives in return of his work. This word is a recent in origin. This includes wages and other allowances and benefits. For an organization, compensation includes all expenditures for the employees including managers and professionals.

Salary

It is a fixed regular payment which the employer paid to the employee. When the amount is paid monthly, then it is termed as salary. On the other hand, if it is given by the hour or day, then it is referred as wages.

Different terms used in wages

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There are several terms are used to refer the wage levels. Those are : (a) the minimum wage, (b) the basic minimum wage, (c) the fair wage, (d) the living wage (e) the statutory minimum wage, and (f) the need based minimum wage.

1. The minimum wage is the bare subsistence which would be sufficient to cover the bare physical needs of a worker and his family. There is three criteria to fix the minimum wage. Those are : (a) the need of the worker, (b) the capacity to pay and (c) the wages paid for comparable work elsewhere.

2. The basic minimum wage is also the minimum wage and it is used in industrial awards and judicial dicta of the courts. It is mentioned by court as the wage which the employer of any industrial labour must pay in order to be allowed to continue an industry.

3. The fair wage is higher than the minimum wage. It is equal to that received by workers performing work of equal skill. The fair wage is dependent on (a) the productivity of labour, (b) the prevailing rates of wages in similar occupation in same or neighbouring localities, (c) the level of national income and its distribution and (d) the place of the industry in the economy of the country.

A fair wage is a theoretical wage level that allows the earner to afford adequate shelter, food and the other necessities of life. The living wage should be substantial enough to ensure that no more than 30% of it needs to be spent on housing. The goal of the living wage is to allow employees to earn enough income for a satisfactory standard of living.

4. Higher than the fair wage, is the living wage. It is the normal needs of the average employee, regarded as a human being living in a civilized community. This means that (a) it should be sufficient to purchase the minimum theoretical needs of the typical family, (b) it should be sufficient to pay for a satisfactory basic budget and (c) it should be comparable to the living wage already established in other parts or in similar circumstances.

5. The statutory minimum wage is the minimum which is prescribed by the statute and it may be higher than the basic minimum wage.

6. The need-based minimum wage is defined in the Indian Labour Conference in 1957. It is the minimum human needs of the industrial worker, irrespective of any other considerations.

Wage Theory

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Many theories have been advanced to explain the nature of wages. This means that there are different theories related to wages. These are (a) subsistence theory of wages, (b) wage fund theory, (c) . these theories are discussed below

1. Subsistence Theory of Wages

The Subsistence Theory of Wages, also known as the "Iron Law of Wages," was an alleged law of economics that asserted that real wages in the long run would tend to the value needed to keep the workers' population constant. Adam Smith and Ricardo put forward this theory. Ricardo stated that the natural price of labour is that price which is necessary to enable the labourers to subsist and to perpetuate their race without either increase or dimunation. According to this theory, wages are tend to maintain the level just significant to maintain the workers at the minimum subsistence. If the level of wages rises above the subsistence level, the supply of labor becomes high in number or large. The supply of labor brings wages downward to maintain the subsistence level. If the wages falls below the subsistence level, the supplies of labor decrease until wages rise to maintain the subsistence level. It is supposed that the supply of labor is infinitely elastic. 

According to the subsistence theory wages tend to settle at the level just sufficient to maintain the worker and his family at the minimum subsistence level. The workers are encouraged to marry and to have large families due to increase in wages above the subsistence level. In this way, the supply of labor increase and it will bring wages down to the subsistence level. The marriages and births are discouraged due to fall in wages below this level. It will also cause to increase the death rate. The supply of labor decreases and it will cause to rise in wages to the subsistence level. 

While Adam Smith and David Ricardo argued that it is the growth of population which brings down the wages to the level of minimum subsistence, Karl Marx argued that subsistence wages emerge because of the phenomenon of unemployment and the reserve army of labour.

Subsistence theory of wages was promoted by David Ricardo.  The theory maintains that wages cluster around the bare subsistence level of workers. A wage rate much above the subsistence level causes an increase in the number of workers; competition will then lead to a depression of wages back toward the cost of subsistence. Wages that are below subsistence reduce the size of the working population; in that case competition will raise wages, but only up to the subsistence level again.

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In the surplus-value theory as propounded by Karl Marx, the value produced by the worker in excess of what is paid in wages is called surplus value. The surplus value, exacted from the worker, constitutes the capitalist's profit. The wage-fund theory is that wages are advanced out of a fixed fund of capital, from which an excess withdrawal, either through legislation or through union pressure, will ultimately reduce the amount available for other workers. Any increase in wages would also have to be taken out of profits, and their reduction would cause a decline in savings, which provide the capital from which the wage fund is derived.

Criticism: Criticism on subsistence theory of wages are as under:

1. Wages are not cause of increase in population: When the wage of a worker increases, his living standard also increases. The worker does not want to produce more children. In actual life, the birth rate is higher in poor countries.

2. Wage Differences: This theory does not explain the wage differences among the workers due to education, skills, training etc. This theory explains only the wage rates that tends to be equal to subsistence level of all the workers.

3. Trade union: The trade unions have there important role for determination of wages. This theory ignores the role of trade unions.

4. Practical value: This theory does not explain wage fluctuations from ear to ear. So it has little practical value.

5. The subsistence level is uniform for all working labor with certain exceptions. The theory thus does not explain differences of wages in different employments. 

6. The fundamental weaknesses of subsistence theory lie in its long term character. It contains adjustment of wages over lifetime of a generation and does not explain wage in fluctuations from year to year. 

7. "The subsistence minimum" vary vague, thus it prefers to the minimum requirements of a modern man or of a tribal savage? There is not rapidly fixed minimum and it is not independent of the wages ruling over a period of time.

2. Wage Fund Theory

The credit for formulating another theory of wages, complementary to, rather than a substitute for, the subsistence theory, goes to John Stuart Mill. The theory known as the wages-fund or wage-fund theory was first suggested by Adam Smith when he intimated that a store of funds was available out of which wages could be paid. J. R. McCulloch, James Mill, Nassau Senior, Malthus, and Ricardo all found the concept of a wages-fund acceptable as an explanation for the level of wages. Wages depended upon the relationship which existed between the supply of population and the capital available to employ workers. Mill was forced to add qualifications to the concepts of population and capital. By the former he meant

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those members of the laboring population who offered their services for hire; and by the latter, the amount of capital to be used for the payment of wages and any amounts incidental to the hire of laborers. Thus the funds available for wages were fixed at any given time, and the only way to increase wages was to reduce the number of wages to be paid or increase the capital funds available. The theory had important bearing upon the relation of trade unions and legislation to wages. At best the effect of either of these would be merely the shifting of a share of wages from one group of wage earners to another, since no absolute increase in the total wages paid was possible. That there was no fundamental contradiction between the subsistence and the wages-fund theories is clearly demonstrated by the fact that the strongest advocates of the subsistence theory also accepted the wages-fund theory without criticism.

Criticism : Criticism of the wages-fund theory came from a variety of sources. It was the consumers who set the demand for labor, and workers might be provided for out of current income as well as from capital. Also there was no specific fund for wages which was separable from other funds to be used in production. The "fund" then was really a matter of the employer's discretion as to how much he would provide for wages.

3. Marginal Productivity Theory

The classical theories laid more emphasis on the supply aspects of labour, later theories such as marginal productivity theory focused on demand of labour. Economic concept that demand for labour is determined by its marginal productivity. The wage rates are determined by its marginal productivity of labour. This is also called as marginal productivity theory of income distribution. Alfred Marshal and J R Hicks are the main exponents of this theory. According to this theory, in a competitive labour market situation, labour like any other factor of production is determined by the marginal productivity of labour. The wages received by the marginal labourer determines the wages paid to all the other labourers on the same grade. This theory uses the firm as the unit determining the wage rate.

This means that according to the marginal productivity theory of wages, under the conditions of perfect competition, every worker of same skill and efficiency will receive a wage equal to the value of the marginal product of labor. By the value of marginal product of labor is mean the net addition to the value of the total product of a firm when and additional unit of labor is added. In brief, imperfectly competitive product and input markets, a worker is paid the value of his marginal physical product.

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The marginal-productivity theory maintains that employers will only pay a wage that is, at most, equal to the amount of extra value added to the total product by one additional worker. The marginal productivity theory is criticized by the modern economists on the following rounds.

1. It ignores the supply side of a factor of production.

2. It does not explain the real issue i.e. the determination of the price of a factor of production.

4. Bargaining Theory

The theory behind collective bargaining, that an agreement should be reached which is acceptable to both management and workers, and which is not detrimental to the overall profitability of the company. Bargaining theory of wages was propounded by John Davidson. According to him, wages are determined by relative bargaining power between workers or trade unions and employers. The wages as well as all the fringe benefits are determined by the relative strength of the organization and the trade unions. This theory form an important wage theory as wages are now being determined by collective groups of workers organized into trade unions and employers organized into employers association. It is a system in which the union and the management participate together to regulate the terms and conditions of employment and in decision making. In this bargaining theory, there are four sub process of bargaining and those are (1) intra organizational bargaining, i.e., bargaining between two groups, union and management of the organization (2) distributive bargaining, i.e., competitive behavior of two groups i.e., union and management with limited resources. (3) integrative bargaining, i.e., problem solving approach of both the groups, where both are concerned with problems rather than issues and (4) attitudinal bargaining, where the attitude is more dominating than any bargaining. It might be cooperation or conflict.

The bargaining theory modifies the marginal-productivity theory by taking into consideration other factors (e.g., laws and social and political changes) that might affect the determination of wage levels and by acknowledging that certain basic assumptions (equal bargaining power of employer and employee, free competition between the two, and mobility of labor) that characterize the marginal-productivity theory do not hold in our present economic system.

The bargaining theory is criticized on the following rounds.

1. The upper and lower limit of the wages for the given type of labour is not distinctive.

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2. There is failure to define the limits or the range between the wages. It becomes a relative term. The lower limit is that where the workers refused to work. The upper limit is the rate above which the employer refrains to hire the certain group of workers.

3. Basically supply and demand play a role for bargaining4. The wage is determined on the relative strength of the parties.

Criteria of Wage Fixation

The criterion of wage fixation is dependent upon the interaction between 13 factors. These factors affect the actual pay rates employees receive. While each factor is straightforward when considered in isolation, it becomes far more complicated when considered alongside the other factors. The 13 factors are:

1. Types and levels of skills and knowledge required.2. Type of business.3. Union affiliation or no union affiliation.4. Capital-intensive or labor-intensive.5. Company size.6. Management philosophy.7. Complete compensation package.8. Geographic location.9. Labor supply and demand.10. Company profitability.11. Employment stability. 12. Gender Difference. 13. Length of employment and job performance.

Six primary and interrelated factors can shape a company's pay structure:

1. Social Customs: Beginning in the thirteenth century, employees began

demanding a "just" wage. This idea evolved into the current notion of a

federally mandated minimum wage. Hence, economic forces do not

determine wages alone.

2. Economic Conditions: Demand for labor influences employee wages.

Employers pay wages based on the relative contributions employees make to

production goals. In addition, supply and demand for knowledge and skills

helps determine wages.

3. Company Factors: Pay structures depend on the kind of technology a

company has and on whether a company uses pay as an incentive to

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motivate employees to improve job performance and to accept more

responsibilities.

4. Job Requirements: Some jobs may require greater skills, knowledge, or

experience than others and hence fetch a higher pay rate.

5. Employee Knowledge and Skills: Likewise, employees bring different levels of

skills and knowledge to companies and hence they are qualified to work at

different levels of a company hierarchy and receive different rates of pay as a

result.

6. Employee Acceptance: Employees expect fair pay rates and determine if they

receive fair wages by comparing their wages with their coworkers' and

supervisors' rates of pay. If employees consider their pay rates unfair, they

may seek employment elsewhere, put forth little effort in their jobs, or file

lawsuits.

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