Why Salary Growth Continues to Lag
The U.S. economy is humming, unemployment has fallen to a 50-year low and employers are reaping a hefty influx of cash thanks to the Tax Cuts and Jobs Act, passed by Congress and signed by President Trump last December. Yet employees aren’t seeing the kinds of increases in their paycheck they might have expected in such a robust economy.
Salary increase budgets are projected to remain barely above inflation levels, rising to 2.9 percent in 2019, compared to 2.8 percent in 2018, according to the 2018/2019 U.S. Compensation Planning Survey from Mercer. Recent studies from Willis Towers Watson and Aon uncovered similar findings, with both projecting salary increase budgets to inch up to 3.1 percent in 2019 from 3.0 percent in 2018.
The small size of the increase isn’t altogether surprising when you consider how employers responded when Mercer asked whether they would be directing some of the savings from the new tax law into their salary increase budgets. Just 4 percent said they planned to do so, while 68 percent said they would not be redirecting savings into their salary increase budgets. Twenty-eight percent indicated they were not anticipating any tax savings as a result of the change to the tax code.
While critics might paint corporations in a negative light as a result of those findings, Laury Sejen, managing director of rewards consulting at Willis Towers Watson, says even a meek improvement in salary increase budgets is a sign things are headed in the right direction.
“After 10 years of 3.0 percent, the move to 3.1 means we are finally getting unstuck,” says Sejen. “We just need to be careful about how that finding is reflected in headlines because one-tenth of 1 percent for most people after tax is barely going to be noticeable in their paycheck.”
While the average worker may not notice much of a difference in their weekly take-home pay, Sejen points out that an increase of one- or two-tenth of a percent represents “hundreds of millions of dollars, even in a mid-size company.” With the economy fully recovered from the recession and corporate profits at an all-time high, however, employees are becoming increasingly dissatisfied with their pay, according to Lauren Mason, a principal with Mercer.
“Many employees feel they have to fight for a raise that is commensurate with their worth,” says Mason. “That can be demoralizing, and we see that coming through our engagement surveys where satisfaction with compensation has declined significantly as the economy has improved.”
Indeed, employee perception of fair pay has fallen from 57 percent to 52 percent over the last five years, according to a Mercer Sirota analysis of employee satisfaction data from approximately 1 million employees. Workers are likely to grow even more disgruntled as the findings of Aon’s 2018 U.S. Salary Increase survey come to light. While base-pay budgets are expected to increase to 3.1 percent in 2019, variable pay—such as incentive or sign-on bonuses and special recognition awards—is expected to experience its largest drop since 2010, bringing total cash compensation down from 15.5 percent to 15.2 percent.
“Employers are viewing compensation holistically and are taking from variable pay to increase salaries,” says Ken Abosch, broad-based compensation leader at Aon. “Ultimately, they are putting more behind an initial higher salary to be more attractive in recruiting talent, rather than focusing on the promise of a large bonus in the future. That approach, in turn, leads to less total earning opportunity.”
Why are organizations so hesitant to increase their overall labor spend, particularly in the throes of a red-hot economy? It’s primarily due to a lack of confidence that the current economic conditions will improve, says Mason. Salary increases represent long-time, fixed-cost, non-reversible expenditures, she explains, which gives employers pause about pulling the trigger. Organizations increasingly have the ability to tap into a global labor force, including workers in developing economies with “pockets of unemployment.” That, in turn, drives wages toward a global equilibrium over the long term.
In addition, Abosch says, labor costs are a top three expense category for most organizations. Over the past decade, the goal has been to “maintain a low-cost profile as much as possible.” Thus, salary increases remained stagnant. Now that we have a booming economy and, increasingly, a seller’s market—particularly for those individuals with sought-after, scarce, or hot skills—Mason says organizations are finding it necessary to create a new model for compensation.
Sejen recommends organizations take a serious look at how they define their critical workforce segments with an eye towards “getting the best increase possible for those segments.”
“It could be that your critical segment is simply defined as the top performers and you want to make sure that the top 10 or 15 percent get 5 or 6 percent, while you dramatically hold back on people who are underperforming,” says Sejen. “The resources are obviously finite, so to the greatest extent possible, you need to mix up that 3.1 percent and give significantly more to the people who are driving the business forward and be prepared to hold back, as much as you can, from the people who aren’t contributing in the same way.”
Likewise, Mason recommends organizations undertake a strategic planning process when determining their compensation budgets. That entails taking a look at internal factors around market competitiveness and pay equity, as well as how their business needs to transform in the future and where they need to invest in the workforce to come up with a compensation budget that fits where they need to go as a business. Therein lies the most significant challenge for HR: making the business case for increasing compensation.
“They must get their CFO onboard to understand the ramifications of not addressing this,” says Mason. “It’s critical that HR takes a strategic approach to driving the desired outcomes around attracting and retaining the workforce they need to deliver business results.”