- The Pay Compression Problem. Because of the tight labor market, employers are driven to offer higher starting pay to attract qualified talent to fill critical roles. When employers fail to take into account the impact of higher starting salaries on compensation levels of existing employees in comparable or more experienced roles, they inadvertently create a pay compression problem.
- Minimize the Risk. Employers manage pay equity and legal risk by implementing a comprehensive compensation policy that guides pay decisions, assigning positions to pay ranges based on market drivers, and employing a system of checks and balances to prevent bias.
- Push for Pay Transparency. There is a proliferation of state and local laws and proposed bills requiring employers to provide salary range information to applicants for posted positions either when requested or at specific points in the hiring process.
- Managing Legal Risk. There are steps employers can take to minimize legal risk and preserve or even enhance their pay equity status, such as conducting annual companywide pay equity analyses and reviewing current pay grades against current market trends.
The U.S. labor market has been on a roller coaster ride, from
massive job losses at the start of the COVID-19 pandemic to unprecedented
growth in last year.
According to the Economic Policy Institute, the labor market
lost 22 million jobs in spring 2020. In
the past 12 months, however, the economy added 6.6 million jobs and is on track
to return to pre-pandemic labor market conditions before the end of 2022. Unfortunately,
there are not enough people looking for work to fill available positions. According
to the Bureau of Labor Statistics, nearly 5 million people, who left the
workforce at the start of the pandemic, have not returned and are not looking
In December 2021, the Society of Human Resource Management projected that labor shortages would continue through 2022 with wage growth topping 4%. Because of the tight labor market, employers are driven to offer higher starting pay to attract qualified talent to fill critical roles. When employers fail to take into account the impact of higher starting salaries on compensation levels of existing employees in comparable or more experienced roles, they inadvertently create a pay compression problem.
Pay compression occurs when there is little difference in
pay between employees with different levels of skill, responsibility and/or
qualifications. The current race for talent has created pay inequities between
newly hired and long-term experienced employees and between subordinates and
Offering higher starting pay addresses employers’ current
labor shortage problem. But the resulting pay compression inevitably leads to
increased turnover among the more senior and/or highest performing employees. Pay
compression also negatively impacts pay equity exposing employers to
significant legal risk and reputational harm.
Pay Inequity: An
Unintended By-Product of Pay Compression
Pay compression often results in co-workers performing the
same or similar jobs being paid differently with the most recent hire earning
more than a long-term employee. Countless articles have been published on the
impact of pay compression on employee morale and turnover rates. However, very little has been reported on the
effect of pay compression on pay equity and related legal risks. This is
surprising given that current labor market conditions create the perfect storm
for creating pay inequities.
To minimize the risk of biased decision-making, employers
manage pay equity and legal risk by implementing a comprehensive compensation
policy that guides pay decisions, assigning positions to pay ranges based on
market drivers, and employing a system of checks and balances to prevent bias.
However, when faced with challenging labor market conditions, policies and
guardrails are often pushed aside in an effort to attract much needed talent
and fill critical roles quickly at any cost. The result may be similarly
situated employees who are paid differently, which may allow for the inference
of biased decision-making.
Discussions related to pay equity focus almost entirely on
the impact on women and employees of color. However, where pay compression is
the driving force behind the pay inequity, employers should not overlook the
risk of adversely affecting older employees with more company seniority who may
be paid less than younger, newly hired workers.
Role of Pay
The idea that pay rates for any role are confidential is an
antiquated notion. Indeed, the current buzzword in pay equity circles is “pay
transparency.” Twenty states and the District of Columbia have passed legislation
prohibiting employers from taking adverse action against employees who discuss
On the federal level, the National Labor Relations Act gives employees
the right to communicate with other employees at their workplace about their
wages. Similarly, federal contractors subject to the jurisdiction of the Office
of Federal Contract Compliance Programs are prohibited from firing or discriminating
against employees for discussing, disclosing or inquiring about their own pay
or the pay of their coworkers.
The most recent
trend in the push for pay transparency is at the state level. There is a proliferation
of state and local laws and proposed bills requiring employers to provide salary
range information to applicants for posted positions either when
requested or at specific points in the hiring process. Colorado is the most
pay ranges be included in job postings. New York City passed a similar bill
in December 2021 requiring employers to state the minimum and maximum salary in
all posting for an open posting, promotion or transfer opportunity.
Impact on Pay Equity and Managing Legal Risk
Pay compression can lead to an unintended impact on
employees based on gender, race, ethnicity or age. Further, as discussed above, the heightened
transparency around pay makes it more likely that employees will become aware
of the fact that they are paid less than recently hired colleagues. There are
steps employers can take to minimize legal risk and preserve or even enhance
their pay equity status.
- Continue to conduct annual companywide pay
equity analyses under attorney/client privilege. In addition, during this
period of rapid competitive hiring, periodically review pay differences between
employees in the same or similar jobs for equity imbalance. Make adjustments
- Review current pay grades against current market
trends. Adjust grades where necessary, ensuring appropriate pay differentials
between each level. Also, consider whether certain ranges for hard-to-fill
roles need to be expanded to allow more differentiation between employees. Identify
any current employees who are not paid in-line with the current market rate for
their role. Implement a plan for raising the pay of employees who are out of
line with the rate for their roles.
- Maintain contemporaneous documentation of the
legitimate, non-discriminatory reasons for offering new hires starting wages
close to or more than their comparators.
Documentation is critical to defending against pay discrimination
- Consider offering new hires a one-time signing
bonus rather than a base pay rate that exceeds the pay rate of current
employees in similarly situated roles.
Implementing a compensation program that eliminates and minimizes
the risk for gender and race/ethnicity-based wage gaps is time and resource
intensive. It can take multiple years to achieve pay equity. It takes almost no
time to undo all the work that went into developing and implementing a fair
Thoughtful decision-making, monitoring compensation
decisions and implementing adjustments where necessary is critical.