Pay compression is when either a subordinate’s base pay is very close to or more than their supervisor’s or when a less tenured employee is equal to or paid more than a senior employee in the same position. One of the most common causes of pay compression is when pay increases for current employees are low, but new employees are paid a higher salary to attract them. This problem becomes more severe in economic downturns when pay increases are limited but it occurs even in better economic times. Pay compression is most evident in pay systems where lower level jobs, either through union contracts or other market forces, create a situation where first-line supervisors are paid less, on an hourly basis, than their subordinates.
When the job market is weak, many organizations hire people who had already done the same work for another organization, eliminating the need for training. Rather than hiring people with high potential and developing them for the long term, they have opted for people who can “hit the ground running,” regardless of their potential.
When salary compression and the policies that enable it are sustained over several years, it can be demoralizing and lead to widespread employee dissatisfaction. Employers should be concerned because salary compression can transform compensation from a motivator into a de-motivator.
Salary compression may be accompanied by pay inequities which could violate equal pay regulations. In situations where newer staff earn more than experienced staff, it could create a pay equity problem if the experienced staff are a protected class.
There are steps that can limit the detrimental effects of salary compression. For instance, when a new job opens, organizations should try to promote someone from within, rather than hiring from the outside. Many organizations have policies that limit how high within a range new hires can be paid. When new hires are brought in at higher salaries or when across the board increases are given due to market movement or minimum wage increase, have a policy that requires internal equity analysis and adjustments.
Institute a policy of transparency and calibration across units. Disparate actions between different organizational units can create salary compression and other inequities. Transparency can take the form of a simple scorecard showing the rates of increases and promotions in each unit. Calibration can involve managers sharing planned compensation actions with their peer managers. It can also include several levels of approval for any actions before they take place so that a senior leader can spot any actions that appear suspect and will cause inequities, including compression. This tends to create a norm and, over time, leads to decisions that are more consistent and responsible.
Salary compression can be a serious problem that eventually causes an organization to lose some of its most talented employees. Although many organizations have unintentionally allowed salary compression to take root, there are actions they can take now and in the future to keep it from reoccurring.
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