LHR305:
Lesson 10: Pay for Performance
Lesson Overview
Pay structures provide opportunities for organizations to compare and contrast job titles in a manner that allows for a systematic distribution of wages based on a variety of compensable factors. Those employed in the same title and pay grade will receive comparable salaries or wages. “Pay for performance” is a term that conditions the amount of compensation not solely on time worked, nor longevity in a job, nor one’s pay grade, but the quantity and quality of output created while at work.
Lesson Objectives
Upon successful completion of this lesson, you should be able to
- identify wage alternatives that reward individual and/or team performance;
- identify wage adjustments based on firm performance;
- analyze the manner in which pay for performance plans affect organizational outcomes; and
- explain the manner in which a pay for performance plan can support an organization’s strategic objectives.
Lesson Readings & Activities
By the end of this lesson, make sure you have completed the readings and activities found in the Lesson 10 Course Schedule.
Pay for Performance
Pay structures provide opportunities for organizations to compare and contrast job titles in a manner that allows for a systematic distribution of wages based on a variety of compensable factors. Those employed in the same title and pay grade will receive comparable salaries or wages.
“Pay for performance” is a term that conditions the amount of compensation not solely on time worked, nor longevity in a job, nor one’s pay grade, but the quantity and quality of output created while at work. The traditional example of this concept is piecework. Employees will receive a set amount of money for each unit of production, for every widget produced of a certain quality.
There are a number of assumptions that help you understand the manner in which pay for performance systems operate. For example pay for performance systems assume that most employees are motivated to maximize their incomes. To pay everyone virtually identical wages for differing levels of effort does not reward employees who actually work harder and therefore produce more than their less motivated colleagues. The argument suggests that without individual incentives, the best employees are likely to become discouraged and perhaps leave, or at least become dispirited at work.
At the same time, another assumption underpins the ability of pay for performance systems to effectively operate: that organizations are actually able to measure in a valid and reliable manner individual performance. As the text points out, one of the most common pay for performance methods is merit pay, differentials based on the results of an organization’s performance appraisal process. The text also makes clear that one of the problems associated with appraisals is the degree to which they actually measure performance in a valid and reliable manner. In other words, many such systems are fraught with rater errors. And sometimes the “errors” are truly intentional.
But I got to tell you, many organizations still use these rating systems. And very often, what they do is they apply what we call the bell curve to how people will be rated. And, essentially, what they say to their supervisors is if you have 10 people, only one of them can be excellent. Maybe two can be very good. The majority have to be this, that, and the other thing.
And very often, what they try to do, then, is decide merit pay based on these kinds of categories that have been created. Now the problem here is manyfold-- not the least of which these rating systems often aren't measuring very much. They're just asking supervisors to give judgments-- not measurements-- about what they're observing, in terms of employee performance.
But beyond that, it creates a dynamic that I would be-- first became aware of-- in an elevator. I was working on a campus, many years ago. And the university system had created a system of this sort. And it turns out, that if you got an excellent rating, you would get more money than if you got a very good. And, of course, in offices where there were just a few employees, that might mean only one person would get that excellent.
And so at some point, the employees would all know that if they didn't get it, they would be terribly upset. And they would want to know who did get it, and so on. It made, really, some problems for supervisors, who would have to make those decisions.
So I'm in the elevator, and there are two young women sitting there-- both clerical employees in a particular office. And I heard one person say to the other, I talked to Jim-- that's the supervisor. And he told me that I'm going to get the excellent this year, but you're going to get it next year. So don't worry, we're both going to get excellent.
And I'm thinking to myself, I'm not so sure if I were those two employees and Jim, I might not basically engage in the same kind of negotiations. The point I guess I'm trying to make is that these systems certainly aren't foolproof. And just the way in which they're structured often creates outcomes that just aren't very effective, very useful to the organization-- in fact, almost make what they're trying to accomplish impossible.
As an example of the debate that surrounds pay for performance programs, consider the following link to an article published by the Harvard Business School:
