Determinants of Compensation

Determinants of compensation

Compensation means the basic returns that an employee obtains from his/her work. Every organization offers a good compensation to attract and retain the ablest employees on the actual work floor. It is because if the company does not offer an attractive package of compensation, compared to other competitive firms, the efficient employees may leave the firm. Hence, the employees should be compensated adequately. A well-designed job evaluation program helps to determine an appropriate compensation system.

There are a number of internal and external factors that affect compensation  which are:

Internal factors

  • Objectives of compensation

Objectives of compensation may be controlling cost, establishing fair and equitable pay structure, attracting and retaining competent human resources, improving motivation and morale, improving labor relation, improving the image of an organization and comply with the legal framework and policies of the organization.

  • Policies of an organization

Policies of an organization influence compensation. Compensation policy is the policy made by the organization.They serve as guidelines for formulating compensation. An organization can be leader or follower regarding pay.

  • Job evaluation

Job evaluation states job description and job satisfaction. These two factors determine the compensation to be required for payment. By evaluating a particular job, worth of job was determined. It determines the relative worth of a job in an organization. Job evaluation sets up a predictable and precise relationship among base pay rates for all employment.

  • Employee productivity

The new trend is to link pay with performance. Productivity determines compensation. Employees abilities and motivation affect productivity.


External factors

  • Legal consideration

Government law and regulation affect compensation management and policies. Government influences pay directly through laws, regulation. Tax implication also influences employees. Legal considerations can be taken as an important determinant of compensation. The government makes various rules and regulations to protect the interests of workers.

  • Market rates

Nature of demand and supply of various types of personnel determine compensation (wages and salaries). Market wage rates are to be followed. Wage rates will be different in a stable economy than in a depressed economy. Matching for the market rate is a major consideration. It should account for inflationary pressures. Skills in short supply carry the high rate of compensation. Compensation rates should be competitive.

  • Equity consideration

Equity means fairness in the relationship between what a person does (input) and what the person receives (output). Determination of compensation is reasonably viewed in terms of equity. It should be fair within the same organization of similar jobs. Employees should view it as equitable and valuable. There should be equality between the employees otherwise, they will be demotivated. The rate of compensation should not be determined differently on the basis of religion, gender, caste, race etc.

  • The cost of living

Aggregate pay can influence purchasing power. Compensation should be adjusted according to the rise of market price rate. The cost of living at the average level may change. It is to be considered to maintain living cost through compensation. The organization should compensate the employee at least to meet the cost of living.

  • Union pressure

A union is a power and it affects compensation. Union pressure depends on the high rate of compensation through collective bargaining, negotiated pay settlements serve as the basis for compensation. Employees have the legal right to have collective bargaining. They work for all the members of the interest of their class.Generally, compensation is determined to balance the pressure of union and organization abilities.


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