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Minimum Wage Increases and Pay Compression

Many states increased their minimum wage this year and state minimum wage increases will continue over the next couple of years edging close to and even above the potential federal increase to $10.10 per hour.  This is creating a concern regarding pay compression and the cost of maintaining equitable pay differentials among all employees and their supervisors and managers.  A minimum wage increase not only raises the wages of workers in entry level positions, it also can create pay compression issues as entry level worker wages creep closer to the wages of more experienced and tenured employees. Many organizations are already experiencing pay compression due to several consecutive years of modest annual salary increases between 2 and 4 percent, while salaries of new hires are often exceeding that of incumbents.

Pay compression is when only a small difference in pay exists between employees regardless of their skills, seniority or experience or when employees in lower-level jobs are paid almost as much as their supervisors and/or managers. Pay inversion is the result of extreme pay compression, where the new or entry level employee is paid more than the current employees or supervisors. The most common reason for pay compression is when the market-rate for a given job outpaces the increases given by an organization creating a situation where new hires must be paid at a rate close to, equal to, or even higher than current long tenured employees.  Pay compression can also occur as a result of a newly promoted manager who is no longer eligible for overtime is now paid very low compared to employees being managed who continue to earn both base salary plus overtime. 

Pay compression creates pay differentials that are too small to be considered equitable and can lead to widespread dissatisfaction among employees causing salary and pay levels to change from motivators to demotivators.  This can impact productivity and lead to increased turnover. Pay compression can become a significant internal equity issue, from the individual level up to a large portion of the employee population.  It can even lead to pay inequities that violate equal pay laws.

Some organizations conduct periodic or regular compression studies to achieve certain levels of internal equity.  Below are some of the other actions organizations can take to minimize and correct the impacts of pay compression:

  • Revisit the salary grade structure, which may be structurally adding to pay compression.  Pay ranges may be too narrow from grade to grade.  Ensure that your ranges are keeping in step with the external marketplace.
  • Make “equity adjustments” to accelerate pay levels of long tenured, high performing employees. Perform periodic equity analysis and identify employees whose performance level and rate are not in the proper relationship.
  • Consider promoting employees only if the employee qualifies for promotion and could contribute in a job with higher responsibility.
  • Consider freezing compensation of employees whose performance contribution is less than it should be.
  • Review and rewrite job descriptions as duties, roles, and responsibilities change then re-access the salary grade and range for the job.
  • Consider lump sum increases in lieu of merit increases.
  • Ensure Compensation Manager over-sight of new hire salaries.

To maintain internal equity and avoid pay compression, it is important to stay current with the market by consulting with professionals.  At WageWatch our compensation consultants are focused on your organization’s compensation needs and ready to help you ensure that your compensation programs are supporting your company’s business strategy and objectives. We can provide your business with compensation surveys and salary reports to help you establish a budget for your merit pay program, including bonuses and incentives. Our innovative company is a leader in the collection of data for surveys and salary reports, which allows us to provide services to a wide range of industries in both the private and public sector. To learn more about our compensation surveys, salary reports and other services, please call 480-237-6130 or contact us online.

This entry was posted on Thursday, May 29th, 2014 at 5:35 AM and is filed under Uncategorized. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.