The importance of pay in employee motivation Discrepancies between what people say and what t

It is easy to overestimate the frequency with which adults actually go to the opera and underestimate the frequency with which they watch TV cartoons on Satur-day mornings, based on their self-reports.(Nunnally & Bernstein, 1994, p. 383)

Rynes, Colbert, and Brown (2002) pre-sented the following statement to 959 mem-bers of the Society for Human Resource Management (SHRM): “Surveys that di-rectly ask employees how important pay is to them are likely to overestimate pay’s true im-portance in actual decisions” (p. 158). If our interpretation (and that of Rynes et al.) of the research literature is accurate, then the correct true-false answer to the above state-ment is “false.” In other words, people are

more likely to under report than to overreport the importance of pay as a motivational fac-tor in most situations. Put another way, re-search suggests that pay is much more im-portant in people’s actual choices and behaviors than it is in their self-reports of what motivates them, much like the cartoon viewers mentioned in the quote above. Yet,only 35% of the respondents in the Rynes et al. study answered in a way consistent with research findings (i.e., chose “false”).

Our objective in this article is to show that employee surveys regarding the impor-tance of various factors in motivation gener-ally produce results that are inconsistent with studies of actual employee behavior. In particular, we focus on well-documented

findings that employees tend to say that pay

Human Resource Management,Winter 2004, Vol.43, No.4, Pp.381–394

?2004 Wiley Periodicals, Inc.Published online in Wiley InterScience (https://www.sodocs.net/doc/8a18443546.html,).DOI:10.1002/hrm.20031

Sara L. Rynes, Barry Gerhart, and Kathleen A. Minette

A majority of human resources professionals appear to believe that employees are likely to over-report the importance of pay in employee surveys. However, research suggests the opposite is ac-tually true. We review evidence showing the discrepancies between what people say and do with respect to pay. We then discuss why pay is likely to be such an important general motivator, as well as a variety of reasons why managers might underestimate its importance. We note that pay is not equally important in all situations or to all individuals, and identify circumstances under which pay is likely to be more (or less) important to employees. We close with recommendations for implementing research findings with respect to pay and suggestions for evaluating pay sys-tems. ? 2004 Wiley Periodicals, Inc.

Correspondence to: Sara L. Rynes, Tippie College of Business, 108 PBB, University of Iowa, Iowa City, IA

52242-1000, tel. 319-335-0838, Sara-Rynes@https://www.sodocs.net/doc/8a18443546.html,

382? H UMAN R ESOURCE M ANAGEMENT, Winter 2004

is less important to them than it actually is. This is an important point because if em-ployees’reports are taken at face value, HR professionals are likely to seriously underes-timate the motivational potential of pay. Moreover, a quick survey of the journals or magazines that are most often read by prac-titioners (in particular, HR Magazine for HR professionals and Harvard Business Review for general managers)suggests that they, too, tend to take employee surveys at face value without carefully examining the behavioral evidence related to pay and motivation.

In the section that follows, we first pres-ent evidence demonstrating the gap between what people say and what they do with re-spect to pay. We then show that practitioner journals present claims about pay importance that are inconsistent with research about the actual motivational effects of pay. In general, there appears to be a consistent (but incor-rect) message to practitioners that pay is not a very effective motivator—a message that, if believed, could cause practitioners to seri-ously underestimate the motivational poten-tial of a well-designed compensation system. Gaps between What People Say and Do

with Respect to Pay

Table I presents findings from a number of major studies that have attempted to deter-mine the importance of pay to employees, relative to other potential motivators. In the first column are the results of studies that have simply asked people to rate or rank pay’s importance, relative to other potential motivators. In the right-hand column are the results of studies in real, ongoing or-ganizations that examine differences in work output following implementation of various motivational interventions: modifi-cations of pay systems, work redesign, in-creases in employee participation, and en-hanced performance feedback. In order to increase the reliability of the conclusions drawn, we included only studies that are ei-ther narrative reviews of the literature, meta-analytic reviews (which incorporate the data from many individual studies into a single large-scale empirical analysis),1or single studies with very large sample sizes (e.g., Jurgensen [1978], which had over 50,000 respondents, and Towers Perrin [2003], which had over 35,000].

As the first column of Table I shows, when asked directly about the importance of pay, people tend to give it answers that place somewhere around fifth (range = second to eighth) in lists of potential motivators. In contrast, meta-analytic studies of actual be-haviors in response to motivational initiatives (second column) nearly always show pay to be the most effective motivator. Indeed, after conducting the first such meta-analysis with respect to motivational interventions, Locke, Feren, McCaleb, Shaw, and Denny (1980) concluded: “Money is the crucial incentive . . . no other incentive or motivational tech-nique comes even close to money with re-spect to its instrumental value” (p. 379). Subsequent research has continued to sup-port their conclusion.

Why do such discrepancies occur, and how can psychological theories help us ex-plain them? The common tendency for peo-ple to say one thing but do another is known as socially desirable responding:“the tendency to choose items that reflect societally ap-proved behaviors” (Nunnally & Bernstein, 1994, p. 382). Social desirability stems from either a lack of self-insight or a lack of frank-ness (Nunnally & Bernstein, 1994). In the case of pay, people are likely to understate im-portance either because they misjudge how they might react to, say, an offer of a higher-paying job, or due to social norms that view money as a less noble source of motivation than factors such as challenging work or work that makes a contribution to society.

Generally speaking, the more a particu-lar question touches on strongly held social values, the less valid direct self-reports are likely to be. In such cases, both managers and researchers must find additional ways of ferreting out more valid information. Recog-nizing this, some researchers have ap-proached the topic of pay importance by ex-amining how employees’behaviors(such as turnover or performance) change in re-sponse to changes in pay and other HR prac-tices (e.g., the second column in Table I). These behavioral responses are far more compelling pieces of evidence than people’s

In general, there appears to be a consistent (but incorrect) message to practitioners that pay is not a very effective motivator—a message that, if believed, could cause practitioners to seriously underestimate the motivational potential of a well-designed compensation system.

The Importance of Pay in Employee Motivation ? 383

responses to surveys regarding what is “im-portant” to them. As Table I shows, on aver-age, employees respond more effectively to monetary incentives than to any other moti-vational HR intervention.

The presence of socially desirable re-sponding has been revealed using a number of other research techniques as well. For ex-ample, one common psychological research strategy is to adopt projective techniques (e.g., asking what people think others proba-bly think or do, or asking them to create a motivational story from an ambiguous pic-ture) to draw out sensitive or threatening in-formation. A creative example of this ap-proach was implemented by Jurgensen (1978), who assessed the relative importance of ten job characteristics (including pay) to 50,000 job applicants over a 30-year period by asking them to “decide which of the fol-lowing [job attributes] is most important to you” (p. 268). Based on these direct re-sponses, males reported pay to be only the fifth most important factor, while women re-ported it to be even lower (seventh; see Table I). However, when Jurgensen asked the same men and women to rank the importance of the same ten attributes to “someone just like

Discrepancies between Self-Reports of Pay Importance and Behavioral Responses to Changes in Pay

Major Studies of Behavioral Responses to Pay and Other Major Studies of Self-Reported Pay Importance

Motivational Interventions

1. Locke, Feren, McCaleb, Shaw, and Denny, 1980. Meta-analysis (see Note 1 at end of article) of productivity-en-hancing interventions in actual work settings found that in-troduction of individual pay incentives increased

productivity by an average of 30%. In contrast, job enrich-ment produced productivity increases ranging from 9–17%,while employee participation programs increased productiv-ity by less than 1%, on average.

2. Guzzo, Jette, and Katzell, 1985. Meta-analysis of monetary incentives and other motivational programs on productivity or physical output. Financial incentives had by far the

largest effect on productivity of all interventions. For exam-ple, pay was four times more effective than interventions designed to make work more interesting.

3. Judiesch, 199

4. Meta-analysis found that individual pay in-centives increased productivity by an average of 43.7%. Re-sults were even larger (48.8%) when the sample was re-stricted to studies in real organizations (as opposed to

laboratory experiments). Other interventions were not stud-ied, but we know of no meta-analysis that has presented findings for other motivational interventions that come close to approaching these effect sizes.

4. Stajkovic and Luthans, 1997. Meta-analysis found that in-centive systems yielded productivity 1.36 standard devia-tions higher than in comparable groups without incentives in manufacturing firms (comparable figure in service firms was .42). Similar effect sizes were found for feedback and social rewards.

5. Jenkins, Mitra, Gupta, & Shaw, 1998. Meta-analysis of rela-tionships between financial incentives and performance quantity and quality. Found an average correlation of .32between incentives and quantity of production, but no reli-able relationship between incentives and product quality.

TABLE I 1. Herzberg, Mausner, Peterson, and Capwell, 1957. Litera-ture review of 16 studies showed that pay ranked sixth in importance. Ranking above pay were job security, interest-ing work, opportunity for advancement, appreciation, and company and management.

2. Lawler, 1971. Reviewed 49 studies showing that pay ranked approximately third across studies. Did not list rankings for other motivators.

3. Jurgensen, 1978. Collected rankings of importance from more than 50,000 applicants to the Minneapolis Gas Com-pany over a 30-year period. Pay ranked fifth in importance to men, and seventh in importance to women.For men,security, advancement, type of work, and company ranked higher than pay. For women, type of work, company, secu-rity, supervisor, advancement, and coworkers ranked higher.

4. Towers Perrin, 2003. Surveyed more than 35,000 U.S. em-ployees. Found importance of pay varies by objective. Com-petitive base pay ranked second and pay raises based on in-dividual performance ranked eighth for attracting

employees. Competitive base pay ranked sixth in retaining employees. Pay was not ranked in the top ten in terms of “engaging” (motivating) employees.

384? H UMAN R ESOURCE M ANAGEMENT, Winter 2004

yourself—same age, education, and gender,”pay jumped to first place among both men and women. In other words, job applicants seemed to believe that pay is the most impor-tant attribute to everyone except themselves!

A second creative technique, called “policy capturing,” examines how people evaluate the attractiveness of holistic job al-ternatives (i.e., entire “bundles” of job char-acteristics, such as pay, location, type of work, and benefits) in order to tease out the relative contribution that pay and other characteristics make to their overall assess-ments. The use of holistic job descriptions presents a situation much closer to the deci-sions job seekers actually make about prospective jobs than asking them to rate or rank a list of abstract, decontextualized job characteristics. By measuring each job in terms of its underlying characteristics (i.e., level of pay, location, type of work, average time to promotion) and then comparing those characteristics with people’s overall ratings of job attractiveness, the importance of each underlying job characteristic to over-all attractiveness can be inferred without asking direct questions about importance.

In such studies, pay has generally been found to be a substantially more important factor when inferred via policy capturing than when assessed via people’s direct re-ports (Barber, 1998; Rynes, Schwab, & Hen-eman, 1983; Schwab, 1982). For example, Feldman and Arnold (1978) found that pay was fourth out of six job attributes (opportu-nities to use important skills and abilities was first) when graduate business students were asked to rank them from “most preferred to least preferred” (p. 707). In contrast, when using policy capturing with “willingness to accept the position” as the outcome variable and the six job attributes as the predictor variables, they found that pay’s “importance weight” was largest and nearly twice as large as that of the next job attribute.

In summary, there is strong evidence that pay is a powerful motivator—perhaps the most powerful potential motivator—of per-formance. (We say “potential” motivator be-cause in order to motivate, pay must be no-ticeably contingent on performance—a condition that does not hold in many organ-izations; more on this later.) However, the study by Rynes et al. (2002) suggests that managers do not believe pay is as important to employee behaviors as employees say it is, despite the fact that employees themselves appear to seriously underreport pay’s impor-tance to their actual behaviors! The system-atic underestimation of pay’s importance, both by managers and employees, is a puzzle that merits examination.

We have already noted that one potential explanation for these discrepancies is social desirability—the idea that to be motivated by money is somehow “crass” or undignified. Another explanation, however, may lie in the kinds of information that HR professionals receive about pay in the most widely read practitioner journals. A review of these jour-nals shows that articles about motivation are based on the types of survey evidence pre-sented in the first column of Table I, rather than the behavioral evidence reported in col-umn two. As such, it is perhaps not surpris-ing that practitioner journals tend to widely disseminate the idea that pay is not a very important motivator.

Consider, for example, the February 2004 issue of HR Magazine, the periodical that Rynes et al. (2002) found to be far and away the most frequently read source of in-formation by HR professionals. The cover story, called “Getting Engaged” (Bates, 2004), reports on two recent surveys of em-ployee “engagement,” defined as the “bases for . . . an innate human desire to contribute something of value to the workplace.”Roughly, then, engagement would appear to have much in common with the psychologi-cal construct of motivation.

The first survey, by Towers Perrin (2003), identified ten factors influencing engage-ment. In contradiction of the meta-analytic evidence presented earlier, pay was not even on the list. (The top four were senior man-agers’interest in employees’well-being, chal-lenging work, decision-making authority, and customer focus.) A Towers Perrin principal was quoted as saying, “A lot of the drivers of engagement are subtle issues that don’t re-quire a lot of capital outlay. They take work”(Bates, 2004, p. 64).2Similarly, the second survey (by Walker Information) reported the

The systematic underestimation of pay’s importance, both by managers and employees, is a puzzle that merits examination.

The Importance of Pay in Employee Motivation ? 385

The broad usefulness of money as well as its many symbolic meanings suggests that,far from being a mere low-order motivator,pay can assist in obtaining virtually any level on Maslow’s motivational hierarchy,

including social esteem and self-actualization.

top five factors with the “greatest influence on an employee’s commitment to a firm”(note that commitment is not the same as motivation). Again, pay was not on the list.

A similar tendency to publish viewpoints arguing against the importance of pay exists in other practitioner resources as well. Con-sider, for example, the Harvard Business Re-view,which has a circulation of a quarter-million and tends to be read by high-level executives who are in charge of corporate strategy. A review over the past 12 years re-veals the following titles: “Why Incentive Plans Cannot Work” (Kohn, 1993, who goes on to explain “why bribes simply cannot work”), “Six Dangerous Myths about Pay”(Pfeffer, 1998, which claims it is a “myth”that individual pay-for-performance is an ef-fective motivator), and “One More Time:How Do You Motivate Employees?”(Herzberg, 1987, whose answer basically is “not with pay, because pay is actually a de-motivator”). Moreover, in introducing a re-cent special issue of HBR on “The Most Tan-gible Assets” (i.e., employees), the “From the Editors” section identified two overarching themes of the articles, one of which was that “we learn that while traditional rewards and punishments can, if ill managed, severely damage motivation, they have little benefi-cial effect under even the best of circum-stances.” These claims are simply inconsis-tent with the voluminous evidence, based on hundreds of studies, exemplified in the sec-ond column of Table I. (For a more extensive treatment of these and other research distor-tions, see Gerhart & Rynes, 2003.)

In summary, research on employee re-sponses to HR interventions shows rather convincingly that pay is a very important mo-tivator. The most general theoretical explana-tion for pay’s importance is the fact that it is useful for obtaining so many other desirable things (Lawler, 1971). For example, in addi-tion to Maslow’s (1943) frequently men-tioned “lower-order” needs (such as food and shelter), money can also pave the way toward social status, a good education for one’s chil-dren, or making it possible to retire early and enjoy increased leisure.

Another general explanation for the im-portance of pay is that pay is frequently used

as a yardstick for social status (Frank, 1999)and personal accomplishment vis à vis oth-ers, particularly among high achievers (Trank, Rynes, & Bretz, 2002). Status- and accomplishment-based signals associated with compensation appear to be particularly sensitive to relative pay, or pay comparisons,rather than absolute levels of pay. Equity the-ory (Adams, 1963) has long emphasized the importance of pay comparisons to individu-als’sense of fairness and well-being. More recently, sociobiologists and evolutionary psychologists have built a compelling case that the importance of relative wealth and status is “hard-wired” in human nature—the result of evolutionary and natural selection processes that favor (in terms of procre-ational success) those who come out “on top” in a positional or hierarchical sense.Thus, we find that people are often moti-vated to buy houses or yachts that are “just a little bigger” than those of some close com-parator (Frank, 1999), or to demand that their salaries always be “just a little bit higher” than the highest current salary among their peers (e.g., Crystal, 1991).

In summary, the broad usefulness of money as well as its many symbolic meanings suggests that, far from being a mere low-order motivator, pay can assist in obtaining virtually any level on Maslow’s motivational hierarchy, including social esteem and self-actualization.

Contingency Factors: The “It Depends”

Nature of Pay Importance To this point, we have presented evidence suggesting that pay is a very important moti-vator, despite employee self-reports and per-sistent articles in practitioner journals that suggest otherwise. In fact, meta-analytic re-sults do not reveal any motivational interven-tions that work better than performance-contingent pay for enticing people to attain higher performance levels.

However, in emphasizing the impor-tance of pay as a motivator, we are not say-ing that pay is the only important motivator.Indeed, it is clear that many of the other fac-tors mentioned by researchers such as Maslow and Herzberg (for example, interest-

386? H UMAN R ESOURCE M ANAGEMENT, Winter 2004

ing work and participation in decision mak-ing) are also important motivators to many people, as confirmed in the empirical results shown in both columns of Table I. Thus, we recommend that multiple motivators—for example, performance-based pay and chal-lenging work—be used in conjunction with one another as they are in such successful firms as Microsoft and General Electric, or firms that use open book management prac-tices (a combination of complete financial information sharing, companywide perfor-mance-based pay, and high levels of em-ployee involvement in decision making; see Case, 1998).

In addition, we are not saying that pay is always the most important motivator or that pay is equally important in all situations. Al-though meta-analytic results can tell us about motivational effects “on average,” they cannot tell us what is appropriate for a par-ticular manager to do in a given situation. Most managers (correctly) believe that the importance of pay depends on a number of variables, both situational (e.g., what others are paying) and individual (e.g., personality or performance level). This same point has also been made by academics. For example, economists have emphasized that attribute importance can only be determined in con-crete choice situations where various job characteristics are assumed to be traded off against each other to reach the highest over-all utility (Rottenberg, 1956). Similarly, psy-chologists have noted that individual differ-ences in personality and performance also influence the attention given to pay in be-haviors and decisions (e.g., Trank et al., 2002; Trevor, Gerhart, & Boudreau, 1997).

Space limitations preclude us from dis-cussing all the contingencies that appear to affect the importance of pay in a given situ-ation (for a more complete summary, see Gerhart & Rynes, 2003). However, some of the most interesting or consistent findings are presented in Table II, which is broken down into “individual difference” and “situ-ational” contingencies.

On the individual differences front, we think it is very important to note the types of individuals who are most likely to prefer pay that is contingent on performance. Specifi-cally, research suggests that individual pay-for-performance schemes (e.g., merit pay, individual incentives, or bonuses) are most important to high academic achievers, high-performing employees, and individuals with high self-efficacy and high needs for achievement (e.g., Harrison, Virick, & Williams, 1996; Trank et al., 2002; Trevor et al., 1997; Turban & Keon, 1993)—just the types of people most employers claim to be looking for! In addition, pay is more impor-tant to extroverts than to introverts (e.g., Stewart, 1996), while pay relative to peers is of higher importance to individuals who have held more leadership positions in col-lege (Trank et al., 2002). Once again, these are the types of employees—those with “people” and leadership skills—that most companies seem to be looking for.

We think these findings are important, particularly in light of the currently pre-dominant advice suggesting that employers reduce the relationship between individual pay and performance (e.g., Herzberg, 1968/2003; Kohn, 1993; Pfeffer, 1998). Al-though there are some reasonable notions behind such recommendations (e.g., to en-courage teamwork), it is important to con-sider that some of the most sought-after and desirable employees do not wish to work in systems that do not differentiate individual performance. Indeed, the average U.S. worker desires individual (rather than team-or organization-based) pay-for-performance (e.g., Bureau of National Affairs, 1988), with high performers desiring it to an even greater extent (e.g., Trank et al., 2002).

There are also a number of interesting findings on the situational side of Table II. Some of the most important of these can be summarized in terms of four general princi-ples. The first such principle is that in order for pay to be an important motivator, there has to be variability in pay options.For example, consider an applicant’s job choice decision. Taken to the extreme, a person faced with several job alternatives, all at the same pay and benefit levels, would indeed find that salary was not “important” to his or her job choice. Likewise, if employees in the same job at the same company all receive highly similar “merit” increases despite noticeable

Research suggests that individual pay-for-performance schemes (e.g., merit pay, individual incentives, or bonuses) are most important to high academic achievers, high-performing employees, and individuals with high self-efficacy and high needs for achievement—just the types of people most employers claim to be looking for!

The Importance of Pay in Employee Motivation ? 387

differences in performance (a rather com-mon situation, by most accounts), managers will similarly conclude that pay is not effec-tive in motivating people.

However, it is important to recognize that in these examples, pay is not motivating because it is not being used in a way that would be expected to produce motivation.In both scenarios, pay would be expected to play an important role if opportunities for pay varied significantly across employers, or across individuals of varying performance levels within the same employer. The impor-tance of pay variability in influencing pay im-portance has been demonstrated empirically under carefully controlled conditions. For ex-ample, Rynes et al. (1983) showed that pay explained an average of 65% of the variance in subjects’overall evaluations of job attrac-tiveness when presented with jobs having a wide range of salary alternatives, as com-pared to only 40% when presented with a pay range half as great.

The fact that the importance of pay changes with variability in pay alternatives can also be seen by contrasting the effects of pay in vibrant versus stagnant economies.During the late 1990s, for example, the im-portance of pay in shaping behavior could easily be observed as many of the most mar-ketable employees bailed out of large, rela-tively stable employers to pursue much

Illustrative Examples of Contingency Factors Affecting Pay Importance

Individual Difference Contingencies

Situational Contingencies

1. Pay is more important in job choice when pay varies widely across employers than when pay is relatively more uniform (Rynes, Schwab, & Heneman, 1983).

2. There is a declining marginal utility to additional incre-ments of pay. This means that, dollar for dollar, being “under market” has a stronger deterrent or demotivational effect than the positive effect of paying above market. Peo-ple often reject low-paying job offers on the basis of pay alone, without considering other factors (Rynes, Schwab, &Heneman, 1983).

3. The salience or “importance” of pay is likely to rise after changes are made to pay systems. Employees are particu-larly sensitive to pay cuts.For example, Greenberg (1990)showed substantial increases in employee theft when em-ployees were subjected to pay cuts.

4. Employee reactions to changes in pay depend heavily on communication of the reasons for pay policies and changes.For example, Greenberg observed a 141% increase in theft when a 15% pay cut was made without explanation, as com-pared with only a 54% increase in theft in a plant where workers received an adequate explanation and where man-agers expressed remorse.

5. Pay is probably more important in job choice than in deci-sions to quit, in part because pay is one of the few charac-teristics people can know with certainty before taking a job.In contrast, once a person has been on the job for awhile,other factors (such as quality of supervision) come into play (Rynes et al., 1983; Towers Perrin, 2003).

6. Pay will do little to motivate performance in systems where people receive similar pay increases regardless of individual or firm performance. However, dramatic changes in perfor-mance often occur when pay is made more contingent on performance (see column 2, Table I).

TABLE II 1. Pay is more important to extroverts than to introverts

(Lucas, Diener, Grob, Suh, & Shao, 2000; Stewart, 1996).2. Receiving performance-based pay is more important to high academic achievers than to others. Receiving higher pay than their co-workers is more important to extroverts and individuals with a history of social achievements (e.g., lead-ership positions; Trank, Rynes, & Bretz, 2002).

3. High-performing employees appear to be particularly sensi-tive to whether their higher performance is rewarded with above-average pay increases, while low performers prefer low-contingency pay systems (e.g., Harrison, Virick, &Williams, 1996; Trevor, Gerhart, & Boudreau, 1997).

4. Pay appears to be more important to men than to women (e.g., Hollenbeck, Ilgen, Ostroff, & Vancouver, 1987; Jur-gensen, 1978; Mincer & Polachek, 1974).

5. People with high need for achievement and higher feelings of self-efficacy prefer pay systems that more closely link pay to performance (e.g., Bretz, Ash, & Dreher, 1989; Tur-ban & Keon, 1993).

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higher upside earnings opportunities (via stock options and grants) at smaller, high-growth companies. Indeed, before the slow-down in 2000, large numbers of MBA stu-dents were leaving such elite universities as Harvard before completing their degrees in order to take advantage of the dot-com and Silicon Valley bubbles. Retaining informa-tion technology professionals became ex-tremely difficult for many employers, as companies continually outbid each other in an effort to secure scarce talent in a booming economy. But these effects dampened con-siderably as the economy collapsed and em-ployers no longer had to bid employees away by offering higher salaries and increased variable pay.

A second general principle is that the motivational effect of money is nonlinear across pay levels. This phenomenon is re-flected in the economic principle of “declin-ing marginal utility,” which suggests, for ex-ample, that the opportunity to earn an additional $100 will be more motivating to an individual at the poverty level than to someone earning $100,000 per year. Another important example of nonlinear pay impor-tance is the concept of a reservation wage in job choice—a level of pay that must be met before an individual will even consider ac-cepting a job offer. Thus, companies that fall considerably below market in terms of start-ing salaries will find that this lower threshold of acceptability will be a rather severe im-pediment to applicant attraction, while those who are near the middle of the market will find that factors other than pay begin to play a much larger role in applicants’job choices.

A third principle is that people judge the fairness of pay in relative terms. Equity theory (Adams, 1963) posits that individuals assess the fairness of their pay by comparing their own ratio of inputs (e.g., effort and skill) and outcomes (pay, recognition) to the input-out-come ratios of important “comparison oth-ers” such as close coworkers, workers in other companies, or the employee’s past work history. The theory also predicts that an individual who perceives her raise to be in-equitable is likely to change her behavior in one of several ways: expressing dissatisfac-tion to her supervisor, working harder to get a bigger raise next year, working less to bring her inputs in line with her perceived out-comes, or quitting in disgust.

One implication of the importance of comparative standards and past practices to employees’sense of justice is that employ-ees react strongly to changes in pay that af-fect their standing relative to some impor-tant standard (e.g., the past, or a coworker perceived to be a close rival for future ad-vancement). As such, every time employers make pay changes, employees are on “high alert” for changes that might signal differ-ences in how they are regarded by the em-ployer, particularly in relation to peers or to their own past relationship with the em-ployer. Psychological contract perspectives likewise recognize the key role that pay has in the broader employment relationship, noting that “the meaning of compensation systems is far broader than mere economic terms, signaling much about the nature of the employment relationship” (Rousseau & Ho, 2000, p. 304).

For example, pay level will clearly be-come “important” and affect employee be-haviors if it is cut, particularly if employers do not communicate a convincing reason for the change (e.g., Greenberg, 1990). In-deed, most managers have at least an im-plicit understanding of this psychological dynamic in that they appreciate the extreme sensitivity of the decisions they make con-cerning pay and how it is communicated. Unfortunately, awareness of employees’sensitivity to pay often causes managers to shrink from openly communicating about it (Lawler, 1981), despite the fact that direct communication can be very important in terms of making employees feel that deci-sions were fairly arrived at and in motivat-ing future performance (e.g., Greenberg, 1990; Prince & Lawler, 1986).

The fourth principle is that the impor-tance of pay tends to differ depending upon whether the objective is attraction, retention, or on-the-job performance. In addition, differ-ent dimensions of pay differentially affect these three objectives.As an example of the first point, pay level is likely to be quite im-portant both in attracting employees (e.g., Rynes et al., 1983) and in retaining them

Every time employers make pay changes, employees are on “high alert”for changes that might signal differences in how they are regarded by the employer, particularly in relation to peers or to their own past relationship with the employer.

The Importance of Pay in Employee Motivation ? 389

The aspect of pay that will most directly motivate

performance…will be the

extent to which pay is

contingent on performance.Thus, if raises are barely differentiated on the basis of performance,then it should not be at all surprising to find little influence of pay on

motivation.

(e.g., Delery, Gupta, Shaw, Jenkins, &Ganster, 2000; Guthrie, 2000). However, it is likely to be relatively more important in at-traction than retention (Towers Perrin, 2003;see column 1, Table I). This is because pay is one of the few job characteristics that can be known with certainty at the point of job choice. In contrast, other important factors (such as the quality of management or the camaraderie among coworkers) may not be known until one has been on the job for some time (Rees, 1973). As such, these other factors are likely to become relatively more important in the decision of whether to leave an employer than they are in job choice.

To the second point (that different di-mensions of pay differentially affect different outcomes), applicant attraction and reten-tion are probably most heavily influenced by pay level, or the extent to which employees receive higher or lower pay than similar workers at other companies.3However, once employees have decided to accept a job, pay levels will not be much of a factor in how hard they work (with the partial exception that if the pay level is noticeably above-mar-ket, most employees will probably work hard enough not to get fired). The aspect of pay that will most directly motivate performance,however, will be the extent to which pay is contingent on performance. Thus, if raises are barely differentiated on the basis of per-formance, then it should not be at all sur-prising to find little influence of pay on mo-tivation. In contrast, as meta-analytic evidence shows, when pay is sharply differ-entiated on the basis of performance, pay is a very effective motivator indeed.

We cannot emphasize this last point enough. To this point in the article, we have suggested that practitioners generally under-estimate the motivational potential of pay because of socially desirable responding by employees in surveys and misinformation in the practitioner press. However, it is now time to add a third possibility—that most practitioners work in companies where the differential rewards for performance are so small, or so well concealed, that employees are not in fact motivated by money. How-ever, this is not because employees can’t be motivated by money, but rather because they

do not believe that higher performance will result in noticeably more money. Observers of pay practices have long noted that char-acteristics of so-called “merit pay” systems generally result in only minuscule perfor-mance-based raise differentials among em-ployees, with the bulk of the raise pool being distributed very closely around the “average”increase level. In this respect, most private-sector employees are not all that different from government employees, whose general level of efficiency is bemoaned by taxpayers due to the fact that they have “no incentive”for better performance.

In summary, although pay has strong motivational potential, its actual effective-ness as a motivator depends on a variety of individual and situational factors, including the way it is administered in practice. We turn now to a discussion of how practitioners can incorporate the findings from this re-search into their compensation systems.Implementing General Principles from

Compensation Research The preceding evidence leads to the follow-ing suggestions:

?

Take complaints about pay seri-ously.Given that there is a general social norm against revealing that one is motivated by pay (at least in nonunionized situations), when an employee does indicate pay dissatis-faction, it is generally a cause for concern. This assumes, of course,that you actually want to retain the individual.

?

Do not fall very far below market pay levels. It is more disadvanta-geous to be “way below market” than it is advantageous to be “way above”it .Being noticeably below market will cause some applicants, often the most desirable ones, to reject your offer out of hand. However, once you reach market levels, choices will gen-erally be made on a multidimen-sional basis, where factors other than pay can also become competi-tive advantages (or disadvantages).

390? H UMAN R ESOURCE M ANAGEMENT, Winter 2004

?Realize that most of the best em-ployees want strong pay-perfor-mance relationships. On average, the ability to earn a lot of money for outstanding performance is a com-petitive advantage for attracting, motivating, and retaining high-per-forming employees. This is not to say that organizations cannot attract good employees without high-con-tingency systems; clearly, a number of well-known firms have done so

(e.g., SAS software). However, in

such cases, the absence of contin-gent pay is compensated by a strong culture emphasizing other values and benefits (in SAS’s case, family-friendliness, as well as high general pay levels and benefits). In addition, there are also a number of organiza-tions that thrive on high company-based (versus individually based) contingent pay, such as Southwest Airlines or Nucor Steel. These com-panies are able to attract high per-formers who also hold relatively strong collectivist values.?Evaluate current pay systems with respect to the strength of pay-per-formance relationships. Although most nonunionized and nongovern-ment employees are ostensibly paid on the basis of merit, examination of most companies’pay systems re-veals little differentiation in raises between average and superior per-formers. Pay-performance contin-gencies are generally limited by such practices as setting job grade ceilings and paying for nonmerit considerations (e.g., external equity adjustments or matching competing offers) out of the “merit” pay budget. Similarly, pay-performance contingencies should also be evalu-ated at the supra-individual level: Are there gain-sharing or profit-sharing programs? If so, are the pay-outs large enough, immediate enough, or frequent enough to make a difference to how hard peo-ple are willing to work? (For exam-

ple, deferred profit-sharing plans that are designed as substitutes for defined benefit pensions are un-likely to have a motivational effect.) Finally, examine how closely pay-in-crease budgets mirror changes in organizational performance levels.

Many employees have become quite used to being told that the annual increase budget will be very modest due to limited ability to pay (i.e., low corporate profitability). How-ever, the reverse is often not true, with raise pools remaining modest even in years of high profitability and the remaining money being al-located elsewhere.

?Examine whether executive pay is moving in the same direction, and at roughly proportionate rates, as employee increases.Evidence from the past 30 years reveals quite con-vincingly that in the typical corpora-tion, the ratio between executive and nonexecutive compensation has increased to a very substantial de-gree. Not only has the earnings gap between executive and nonexecu-tive employees exploded over the past several decades (Bok, 1993;

Crystal, 1991; Frank & Cook, 1995;

Shulman, 2003), but there are also many examples of disproportionate increases in executive pay in the face of poor organizational perfor-mance (Samuelson, 2003; Useem, 2003). Because how people feel about their pay is a result of com-parative processes, organizations with huge variance between execu-tive and employee pay practices are likely to be populated with workers eagerly awaiting opportunities to move to other organizations. (An important side note is that workers are often accepting of very high ex-ecutive pay, such as Bill Gates at Microsoft or General Electric under Jack Welch, so long as the fruits of strong organizational performance are also passed on to lower layers of the organization.)

Although most nonunionized and nongovernment employees are ostensibly paid on the basis of merit, examination of most companies’pay systems reveals little differentiation in raises between average and superior performers.

The Importance of Pay in Employee Motivation ? 391

One of the most important suggestions to emerge from the reviewed research is that one needs to track employee behaviors as well as employee attitudes.

Evaluating the Effectiveness of Pay

Systems After following the general design principles outlined in the preceding section, how can an organization evaluate the success of its compensation policies and practices? One of the most important suggestions to emerge from the reviewed research is that one needs to track employee behaviors as well as em-ployee attitudes.On the behavioral side,there are at least three outcomes that are likely to be heavily affected by compensation practices: attraction, retention, and perfor-mance. Each of these outcomes should be closely monitored to detect problems with the compensation system.

For example, with respect to attraction, is a company’s job acceptance rate higher or lower than those of other companies in its area or industry? If lower, are applicants accepting positions with higher or lower starting salaries?In addition, what types of applicants and em-ployees are being lost—the most desirable or the least? Similar questions should be asked about retention. (A good example of monitor-ing turnover by employee performance levels can be found in Trevor et al. [1997].) Also, in both cases, outcomes should be tracked in re-lation to previous years, as well as to bench-mark firms or competitors. Different results suggest different kinds of solutions.

Similar kinds of tracking should be done with respect to employee performance. Be-cause most firms do not have objective mea-sures of individual performance, perfor-mance outcomes must often be tracked at team, department, or plant levels. Of partic-ular interest are changes in performance as-sociated with major changes in HR practices,such as shifting from individual to team pro-duction or from merit pay to gain sharing.

Although assessing employee behaviors is crucial to evaluating effectiveness, there are still reasons to monitor employee attitudes as well.In particular, changes in satisfaction or importance levels are often leading indica-tors of subsequent changes in behavior. As such, employee surveys can still be a valu-able part of the evaluative arsenal.

Previous research has shown that re-sponses to employee surveys (e.g., which

items are rated as more “important” or “sat-isfying” than others) can be heavily depend-ent on such things as the precise wording and format of the questions asked (Lawler,1971). Therefore, managers should use highly similar surveys from year to year and pay considerable attention to changes in re-sponses to key questions having to do with pay importance, pay fairness, and pay satis-faction. If the implicit contract regarding pay level, pay-for-performance, or any other as-pect of pay has changed (due either to actual changes in practice or to a changing market or workforce conditions), a good survey should be able to capture this.

In particular, the responses and reac-tions of the top performers should be care-fully monitored. Of course, employee survey data are typically anonymous, so direct links to performance data may not be feasible.However, self-reported performance on em-ployee surveys can be used. Additionally, the turnover rates of high performers can be compared to those of other employees.

Employers can also be more proactive in anticipating and heading off certain prob-lems (e.g., eroding pay levels) by using salary surveys to benchmark their pay level and other pay practices against other organiza-tions. Finally, realizing that people may not always be forthright in exit interviews about their reasons for leaving, one should ask di-rectly what they will be earning in their new job as a way of gauging the extent to which pay might be a determining factor.

Conclusion

Money is not the only motivator and it is not the primary motivator for everyone. How-ever, there is overwhelming evidence that money is an important motivator for most people. Further, there is ample evidence that surveys asking people to rank order money and other motivators do not accurately re-flect the important effects that changes in pay levels or the way pay is determined actu-ally have on people’s decisions to join and leave organizations. Likewise, the often-modest survey rankings are at odds with be-havioral evidence on the powerful effects that monetary incentives have on the goals

392? H UMAN R ESOURCE M ANAGEMENT, Winter 2004

that people choose to pursue within organi-zations and the effort and commitment they exert toward those goals. Thus, while man-agers will (and should) consider both finan-cial and nonfinancial tools for attracting, motivating, and retaining employees, it would be a mistake to conclude, based on general surveys, that monetary rewards are not highly important. Finally, as we have demonstrated, the importance (or potential importance) of monetary rewards in any particular situation can be evaluated by considering both the situational variables (e.g., pay variability) and individual vari-ables (e.g., performance level) that best de-scribe the context of a particular manager’s decision.

The empirical evidence we have pre-sented here is highly consistent with the mo-tivational views of former CEO Jack Welch, who is widely acknowledged to have breathed new life into a well-respected, but somewhat “sleepy,” General Electric. Chang-ing GE’s pay system to provide much higher rewards for strong individual and organiza-tional performance was one of the pivotal tactics in Welch’s overall strategy for revital-ization and growth:

I think showering rewards on people for ex-cellence is an important part of the man-agement process. There’s nothing I like more than giving big raises . . . You have to get rewarded in the soul and the wallet. The money isn’t enough, but a plaque isn’t enough either. . . . you have to give both. (Jack Welch, quoted in Hymowitz & Mur-ray, 1999, p. B1)

The Importance of Pay in Employee Motivation ? 393

NOTES

1.Meta-analysis is a method that combines effect

size estimates from previous studies to increase sample size and thus yield better estimates of the mean and variance of the population effect size.

2.Note in Table I that the complete Towers Perrin

report does show pay to be in the top ten for both attraction (second) and retention (sixth).

However, these findings are not reported in HR Magazine.

3.There can also be some effect of pay basis—i.e.,

the bases for pay increases, such as seniority, merit, gain sharing, or profit sharing—on appli-cant attraction and retention, since high-achieving applicants and employees often seek companies that differentially reward for high performance (Towers Perrin, 2003; Trank et al., 2002; Trevor et al., 1997).

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