COMPENSATION MANAGEMENT

RANJIT KUMAR MUKHERJI

INTRODUCTION :The term compensation is a substitute word for wages and salaries, is of recent origin. Wages is now considered as a cost factor. Therefore, strategic management of wages and salaries is very important for organisations.

It has become imperative for organisations to balance the cost of compensation and employee motivation (for retention) to survive in a competitive world.Employee compensation is a better term than employee benefits or wages or salaries. What the employee provides the employer is a labor service, usually known as work.

 COMPENSATION MANAGEMENT◦ Pay or compensation represents an exchange between

the employee and the organization. Each gives something in return for something else. In the past, the compensation issue was often confidential and governed by individual employer’s preference and choice.

However, in today’s competitive world, compensation issues are more transparent.

◦ Different scholars in different countries, have defined the world compensation from different perspectives.

◦ Globally, almost every country views compecompensation as a measure of justice. Also, some countries (particularlydeveloped ones) consider compensation as a means of protection against potential job loss.

◦Compensation should be fair, irrespective of economic consideration. Many scholars believe that compensation is the outcome of productivity.

◦In India, right from Vedic Age, the volume of work and the time required to perform the work were considered to decide compensation.

 COMPENSATION MANAGEMENT◦I n Europe, the Church advocated the

principles of just wage or compensation. The word compensation may be defined as all forms of financial returns, tangible; services and benefits that an employee receives in his/her tenure of employment.

◦The modern definition of compensation, however, considers both intrinsic and extrinsic components of compensation. While extrinsic compensation covers both monetary and non-monetary rewards,, intrinsic compensation reflects the employees’ mental satisfaction with their job accomplishments.

 COMPENSATION MANAGEMENT◦Wages and Compensation :◦A wage is a basic compensation for labour and for

Labour per period of time referred to as the wage rate. Other frequently used terms for wages are payment per unit of time (typically an hour or year) Total compensation representes earnings and other benefits for labour.

◦Wage Income represents total compensation and unearned income. Wages are also referred to as economic rent, which is the figure of total compensation, after reducing the opportunity cost. Opportunity cost represents the cost of something in terms of an opportunity forgone (and the benefits which could be received from that opportunity) or the most valuable forgone alternative.

COMPENSATION MANAGEMENT◦The term ‘wages’ has emerged from

French Word ‘wagier or gagier’ meaning to pledge or promise. The term wage is thus meant ;to indicate making a promise in monetary form.

◦“ payment to a person for service rendered, the amount paid periodically, by the day or week or month for the time during which workman or servant at the employers' discretion”- Oxford english dictionary

◦Under Sec. 2(m) wages includes ‘Wages for leave period, holiday pay, overtime pay, bonus, attendance bonus etc. Any award of settlement and production bonus if paid, constitutes wages. But under Payment of Wages Act, 1948 ‘Retrenchment compensation , payment in lieu of notice and gratuity payable on discharge constitute wages.

◦SALARY: A periodic payment to persons to persons doing a job other than mechanical usually to white collared employees remuneration paid monthly

TYPES OF WAGES :-◦TIME RATE- oldest and most common method- worker

is paid according to the work done during a certain period of time.( hour, day, week, month etc)

◦PIECE RATE – Payment for each item produced, payment by result system.

◦BALANCE OR DEBT METHOD- Combination of time and piece rates, If the earnings of a worker calculated at piece rate exceeds the amount , which he could have earned if paid on time basis, he is credited for the balance( the excess piece rate earnings over time rate earnings)where piece rate earnings are less than time rate earnings , he is paid on the basis of time rate , but the excess which he is paid is carried forward as debt against him to be recovered from any future balance of piece work earnings over time work earnings.

COMPENSATION MANAGEMENT◦From financial perspective, wages are

defined as the cash paid for some specified quantity of labor, in contrast with salaries. Wages are paid based on wage rate (based on units of time) while salaries are paid periodically without reference to a specified number of hours worked. Given an established job description , wages can often be negotiated by workers through collective bargaining.

◦Differences between Wages and Compensation :

◦The term labour cost is best understood from the International Labour Organisation (ILO) Geneva. Labour cost is the cost incurred by the employer in the employment of labour. This also includes payments in respect of time paid for but not worked, bonuses, gratuities, the cost of food, drink and other payments in kind, the cost of workers’ housing borne by employers, employers’ social security expenditures, the cost to the employer for vocational training, welfare services, miscellaneous items, such as transport of workers, work clothes and cost of recruitment and taxes paid by the employers on employment .

11. COMPENSATION MANAGEMENT◦From the employers’ perspective, therefore, the

compensation consists of all payments (in kind or in cash) and all contributions to employees’ social security, pension, insurance etc.

◦Labor cost and the compensation of employees are thus closely-related concepts, with many common elements. The major part of labor cost comprises compensation of employees. However, definition of labor cost and the compensation of employees differ from country to country. For example, some items of labor cost such as vocational training are borne not by employers but by respective government s. In India, the Central Board for Workers’ Training and the Regional Labor Institutes provide either free or subsidized training for industrial workers.

12. COMPENSATION MANAGEMENT◦The State’s contributions to wage-related social

security schemes are not included in the cost of compensation for employers. In some countries, payroll taxes or ;employment taxes are considered as labour costs.

◦ In Human Resource Management we consider the term from a broader perspective, that is, the strategic use of wages paid to employees. Some organizations refer to use the term rewards instead of wages or compensation.

◦Compensation or wage structure in a given case should take into account industrial adjudication as well as considerations of right and wrong and fairness and unfairness. Given social conscience and the welfare policy of the state, collective bargaining is now the most dynamic form of negotiation to decide wage structure in a particular organization.

 COMPENSATION MANAGEMENT◦Wage issues are no longer purely mathematical

issues. It was with this perspective that the framers of the Constitution drew up Article 43 (part of the directive principles of State Policy) which states that “The State shall Endeavour to secure, by suitable legislation or economic organization or in any other way, to all workers – agriculture, industrial or otherwise – work , a living wage, conditions of work ensuring a decent standard of life and full employment of leisure and social and cultural opportunities.” The declaration in effect, assured labor that where they were not able to secure a living wage for themselves, the government, through legislation or means will come to their aid.

COMPENSATION MANAGEMENT◦ Two aspects of the State’s role prevent employers from

taking undue advantage of workers-strong bargaining strength and direct participation of the state in the economic life of the nation.

◦ Wage Components :◦ Although the term ‘wage’ is an encompassing and

includes any form of financial support and benefits , in a narrower sense wages are the price paid for the services of labour.

◦ Broadly, there are two wage components – the base or basic wages and other allowances. The basic wage is the remuneration, by way of basic salary and allowances which are paid or payable to an employee in terms of the contract of employment` for the work done.

Allowances are paid in addition to the basic wage to ensure that the value of basic wages does not fall over a period of time. Some allowances are statutory , while others are voluntary.

Compensation management◦ Compensation is what employees receive in

exchange for their contribution to the organisation.◦ Total compensation =Direct + Indirect

Compensation Base Pay Incentives Benefits

Components of employee remuneration Remuneration Financial Non-financial Basic wages Incentives, Individual plans Group plans◦ Fringe benefits, P.F. Medical care, Accident relief,

Health and Group insurance, Perquisites, CarClub membership, Paid holidays, Furnished house, Stock piton scheme, Job context, Challenging job, Responsibilities, Growth prospects,SupervisionWorking conditions, Job sharing etc.

Objectives of compensation planning◦Internal equity◦External equity◦Individual equity◦Attract talent◦Retain talent◦Ensure equity◦New and desired behavior◦Control costs◦Ease of operation

◦ Objectives of Compensation :◦ The objectives of compensation or wages can be

classified under four broad categories – Equity, Efficiency, Macro-economic stability and Optimum allocation of labor

◦ Equity : The first category is equity, which may take several forms. It includes income distribution through narrowing of inequalities, increasing the wages of the lowest paid employees, protecting real wages (purchasing power ) and the concept of equal pay for work of equal value. Compensation management strives for internal and external equity.

◦ Efficiency : It is often closely related to equity, because two concepts are not antithetical. The objectives of efficiency are reflected in attempts to link a part of wages to productivity or profit, group or individual performance acquisition and application of skills and so on.

◦ Macro-economic stability – It can be achieved through high employment levels and low inflation. For instance, an inordinately high minimum wage would have an adverse impact on levels of employment.

Efficient allocation of labour : The efficient allocation of labor in the labour market implies that employees will move to wherever they receive a net gain.

◦Determinants of Wage Rates : Wage rates are either the products of market forces (supply and demand). In the United States, market forces determine wage rates. In Japan, seniority is still the dominant factor for wage determination. Several countries, including India have enacted a statutory minimum wage rate that fixes the price of certain kinds of labour.

◦While market forces determine the wage rate in most developed countries, workers often negotiate their wage rate in most developed countries, workers often negotiate their wage rate through collective bargaining wherever Unions are present.

◦Theories of Wage Determination : There are two key theories to determine wages – the traditional theory of wage determination and the theory of negotiated wages.

◦Traditional Theory of Wage Determination : This theory assumes that market forces, that is, demand and supply determine wages. Computer programmers are in short supply, so they are able to command higher salaries. In our country, many organisations pay very high salaries to entry-level IT professionals, who sometimes get more than senior managerial employees in other sectors. This is because of demand and supply gap .

◦Theory of Negotiated Wages : Union employees can negotiate salaries. This is done through collective bargaining . Normally, in any unionised organisations Unions periodically submit their memorandum to the management, asking for wage raises to keep pace with market standards and organisational profitability.

◦ECONOMIC THEORY OF WAGES◦Subsistence Theory : David Ricardo (1817)

advocated this theory. In Ricardo’s words, workers ; should be paid “To enable them to subsist and perpetuate the race .” The theory is based on the notion that if workers are paid more than the subsistence wage their numbers will increase as they would procreate more

◦ and this would bring down the rate of wages. If wages fell down below the subsistence level, the number of workers would decrease, as many would die of hunger, malnutrition, disease, cold etc and many would not marry. When this happened wages would increase again. In economics, the subsistence theory of wages states, that in the long run, wages will be reduced to the minimum level needed to keep workers alive.

◦ Wages Fund Theory : This theory was developed by Adam Smith (1723-1790) on the assumption that wages are paid out of a predetermined fund of wealth, the surplus savings of the wealthy. This fund could be utilized for employing laborers for work. If the fund was large, wages would be high; if it was small , wages would be reduced to subsistence level. The demand for labor and the level of wages were determined by the size of the fund.

◦ Surplus Value Theory : The surplus value theory owes its developments to Karl Marx (1818-1883) According to this theory, labour was an article of commerce, which could be purchased on payment of the ‘subsistence price’ . The price of any product was determined by labor and time needed for producing it. The labour was not paid in proportion to the time spent on work, but was paid much less, and the surplus was utilised for paying other expenses.

◦ Residual Claimant Theory : The residual claimant theory advocated by Francis Walker (1840-1897) assumes that there are four factors of production/business activity – land, labour, capital and entrepreneurship. Wages represent the amount of value created in the production, which remains after payment has been made for all these factors of production. In other words, labour is the residual claimant.

◦Marginal Productivity Theory ( Henry Philips and Bates Clark ) : This theory assumes that wages are based upon an entrepreneur’s estimate of the value that will probably be produced by the last or marginal worker.

◦Bargaining theory of wages:(John Davidson): wages determined by relative bargaining power of labours

◦Compititive theory : employers compete among themselves by offering a higher a higher wage to attract employees.

◦Types of Wages in India :◦Any minimum rate of wages or revised

may consist of a basic rate of wages and a special allowance

◦The Central Government appoints a Central Advisory Board to advise the central and state governments on the fixing and revising of the minimum rate of wages.

◦Wages in Kind : Minimum wages payable under this Act are to be paid in Cash. However, the payment of minimum wages can be made partly in cash and partly in kind.

◦Minimum Wage: ( committee on fair wages, 1948)

◦A minimum wage is one which has to be paid by an employer to his workers irrespective of his ability to pay. According to the above committee,

◦"Minimum wage is the wage which must provide not only for the bare sustenance of life, but for the preservation of the efficiency of

◦ the workers. For this purpose, minimum wage must provide some measure of education, medical requirements and amenities. "

◦The Supreme Court has ruled that minimum wage must be paid in any event, irrespective of any extent of profits, the financial condition of the establishment or the availability of workers at lower wages.

◦ For the calculation of wages, the Conference suggested the following guidelines:

◦ The standard working class family should be taken to consist of three consumption units for the earner; the earnings of women, children and adolescents should be disregarded.

◦ The minimum food requirements should be calculated on the basis of the net intake of 2.700 calories per adult.

◦ The clothing requirements should be estimated at a per capita consumption of 18 yards per annum per person.

◦ In respect of housing. the norms should be the minimum rent charged by the Government in any area for houses provided under subsidized housing scheme for low-income groups.

◦ Fuel,Lighting and other miscellaneous items of expenditure should constitute 20 per cent of the total minimum wage.

◦Living Wage : Living wage is defined as ‘One which should enable the earner to provide for himself and his family not only the bare essentials of food, clothing and shelter but a measure of comfort, including education for his children, protection against ill-health, requirements of essential social needs and a measure of insurance against more important misfortunes, including old age.

◦Living wage is more than the concept of minimum wage. Such a wage is determined keeping in view the national income and paying capacity of industrial sector.

35. Fair Wage: The concept of fair wage is linked with the capacity of the industry to pay. The Committee has defined fair wage as follows: "Fair wage is the wage which is above the minimum wage but below the living wage. The lower limit of the fair wage is obviously the minimum wage: the upper limit is to be set by the capacity of the industry to pay. " Thus, fair wage depends on different variables affecting wage determination. Such factors are labor productivity prevailing wage rates, the level of national income and its distribution and the capacity of industry to pay.

36. Factors Affecting Wages:◦ Demand for and supply of labor:◦ Labor unions:◦ Cost of living:◦ Prevailing wage rates◦ Ability to pay◦ Job requirements:◦ State regulation:◦ Increment system