MODULE-2

Performance Appraisal
It is the systematic assessment of an individual with respect to his or her performance on the job and
his or her potential for development in that job. Thus, performance appraisal is a systematic and
objective way of evaluating the relative worth or ability of an employee in performing his job.

Gary Dessler defined “Performance appraisal as means of evaluating an employee's current

and or past performance relative to his or her performance standards”.

The performance is measured against such factors as job knowledge, quality and quantity of output,

initiative, leadership abilities, supervision, dependability, co-operation, judgment, versatility ,etc.

WHY conduct a Performance Appraisal

• Provide information about the performance ranks.

• Decision regarding salary revision, confirmation, promotion and demotions.
• Provide feedback about level of achievement and behaviour of the subordinate.
• Provide information regarding coaching, mentoring and counseling the employees.
• Provide information to diagnose the deficiency of the employees and thereby develop
a plan for correcting any deficiencies.
• Provide information for a suitable career planning purpose.
• Provide an information regarding the training and development needs of the
employees.

The main objective of performance appraisal is to measure and improve the performance
of employees and increase their future potential and value to the company. Other objectives
include providing feedback, improving communication, understanding training needs,
clarifying roles and responsibilities and determining how to allocate rewards.

Additional Objectives of performance appraisal are depicted below :

• To let the employees know where they stand
• To help employee do a better job by clarifying what is expected of them
• To plan opportunities for development and growth
• To strengthen the superior subordinate working relationship by developing a mutual
agreement of goals
• To review the performance of the employees over a given period of time
• To judge the gap between the actual and the desired performance.
• To help the management in exercising organizational control.
• To diagnose the strengths and weaknesses of the individuals so as to identify the
training and development needs of the future.
• To provide feedback to the employees regarding their past performance.
• Provide information to assist in the other personal decisions in the organization.
Who should do the appraising?

 The immediate supervisor

 Appraisal by peers
 Rating committees
 Self ratings
 Appraisal by subordinates

Performance Appraisal Process

The six steps involved in process of performance appraisal are as follows:

 Establish Performance Standards

 Communicate Performance Expectation to Employee
 Measure Actual Performance
 Compare Actual Performance with Standards
 Discuss the Appraisal with the Employee
 Initiate Corrective Action

1. Establish Performance Standards:

The appraisal process begins with the establishment of performance standards. The managers
must determine what outputs, accomplishments and skills will be evaluated. These standards
should have evolved out of job analysis and job [Link] performance standards
should also be clear and objectives to be understood and measured.

2. Communicate Performance Expectations to Employees:

Once the performance standards are established, this must be communicated to the respective
employees so that they come to know what is expected of them’.The feedback from the
employees on the standards communicated to them must be obtained. If required, the
standards may be modified or revised in the light of feedback obtained from the employees. It
is important to note that communication is a two-way street.

3. Measure Actual Performance:

This is the third step involved in the appraisal process. In this stage, the actual performance of
the employee is measured on the basis of information available from various sources such as
personal observation, statistical reports, oral reports, and written reports.

4. Compare Actual Performance with Standards:

In this stage, the actual performance is compared with the predetermined standards. Such a
comparison may reveal the deviation between standard performance and actual performance
and will enable the evaluator to proceed to the fifth step in the process, i.e., the discussion of
the appraisal with the concerned employees.

[Link] the Appraisal with the Employee:

The fifth step in the appraisal process is to communicate to and discuss with the employees
the results of the appraisal. This is, in fact, one of the most challenging tasks the manager’s
face to present an accurate appraisal to the employees and then make them accept the
appraisal in a constructive manner.A discussion on appraisal enables employees to know their
strengths and weaknesses. This has, in turn, impact on their future performance.

6. Initiate Corrective Action:

The final step in the appraisal process is the initiation of corrective action when it is
necessary. The areas needing improvement are identified and then, the measures to correct or
improve the performance are identified and [Link] corrective action can be of two
types. One is immediate and deals predominantly with symptoms. This action is often called
as “putting out fires.” The other is basic and delves into causes of deviations and seeks to
adjust the difference [Link] type of action involves time to analyse deviations.
Hence, managers often opt for the immediate action, or say, “put out fires”. Training,
coaching, counselling, etc. are the common examples of corrective actions that managers
initiate to improve the employee performance

Methods of Performance Appraisal

Traditional Methods:

Ranking Method:

It is the oldest and simplest formal systematic method of performance appraisal in which

employee is compared with all others for the purpose of placing order of worth. The

employees are ranked from the highest to the lowest or from the best to the [Link] doing

this the employee who is the highest on the characteristic being measured and also the one

who is L lowest, are indicated. Then, the next highest and the next lowest between next

highest and lowest until all the employees to be rated have been ranked. Thus, if there are ten

employees to be appraised, there will be ten ranks from 1 to 10

Advantages of Ranking Method

i. Employees are ranked according to their performance levels.
ii. It is easier to rank the best and the worst employee.

Limitations of Ranking Method

1. The “whole man” is compared with another “whole man” in this method. In practice,
it is very difficult to compare individuals possessing various individual traits.

2. This method speaks only of the position where an employee stands in his group. It

does not test anything about how much better or how much worse an employee is

when compared to another employee.

 3. The task of ranking individuals is difficult when a large number of employees are

rated, and

(iii) It is very difficult to compare one individual with others having varying behavioural
traits. To remedy these defects, the paired comparison method of performance appraisal has

been evolved.

Paired Comparison:

In this method, each employee is compared with other employees on one- on one basis,

usually based on one trait only. The rater is provided with a bunch of slips each coining pair

of names, the rater puts a tick mark against the employee whom he insiders the better of the

two. The number of times this employee is compared as better with others determines his or

her final [Link] number of possible pairs for a given number of employees is

ascertained by the following formula:N (N-1)/2,Where N = the total number of employees

to be evaluated. Let this be exemplified with an imaginary [Link] the following five

teachers have to be evaluated by the Vice Chanceller of a University:(K), Mohapatra (M Raul

(R), Venkat (V), and Barman (B), the above formula gives 5 (5 -1) / 2 or 10 pairs.

These are:

Thus, the pairs so ascertained give the maximum possible permutations and combinations.

The number of times a worker is considered better makes his/her score. Such scores are

determined for each worker and he/she is ranked according to his/her score. One obvious

disadvantage of this method is that the method can become unwieldy when large numbers of

employees are being compared.

Graphic Rating Scale-It is a most commonly used method. It assesses a person on the
quality and quantity of his work divided into a number of factors. These factors can be
categorized as employee characteristics and employee [Link] employee
characteristics include qualities such as initiative, leadership, dependability, cooperativeness,
enthusiasm, loyalty, decisiveness, emotional stability, maturity, analytical ability, co-
ordination and co-operation. The employee contribution include quantity and quality of work,
responsibilities undertaken, results achieved, devotion to the organization, attitudes toward
superiors as well as subordinates, versatility in communication [Link] traits are then
evaluated on a “continuous” scale from unsatisfactory to outstanding, wherein the rater puts
his mark somewhere along this scale based on his judgment of that particular trait.

Forced Distribution Method:

This method was evolved by Tiffen to eliminate the central tendency of rating most of the

employees at a higher end of the scale. The method assumes that employees’ performance

level confirms to a normal statistical distribution i.e., 10,20,40,20 and 10 per cent. This is

useful for rating a large number of employees’ job performance and promo ability. It tends to

eliminate or reduce [Link] is also highly simple to understand and easy to apply in appraising

the performance of employees in organisations. It suffer from the drawback that improve

similarly, no single grade would rise in a ratings.

Limitations of Forced Distribution

The limitation of using this method in salary administration, however, is that it may lead low
morale, low productivity and high absenteeism.

Employees who feel that they are productive, but find themselves in lower grade(than
expected) feel frustrated and exhibit over a period of time reluctance to work.
Forced-Choice Method:

The forced-choice method is developed by J. P. Guilford. It contains a series of groups of

statements, and rater rates how effectively a statement describes each individual being

evaluated. Common method of forced-choice method contains two statements,either both

positive or [Link] example: A B

Works hard learns quickly

Absent too often usually tardy

The rater is forced to choose among these statements that best describe the most and least of

an employee.

Confidential Report:It is the traditional way of appraising employees mainly in the

Government Departments. Evaluation is made by the immediate boss or supervisor for giving

effect to promotion and transfer. Usually a structured format is devised to collect information

on employee’s strength weakness, intelligence, attitude, character, attendance, discipline, etc.

report.

Essay Evaluation method

Essay method is the simplest one among various appraisal methods available. In this method,
the rater writes a narrative description on an employee’s strengths, weaknesses, past
performance, potential and suggestions for improvement. Its positive point is that it is simple
in use. . Moreover, because the essays are descriptive, the method provides only qualitative
information about the employee. In the absence of quantitative data, the evaluation suffers
from subjectivity problem
Checklists and Weighted Checklists
In this method, a series of statements, i.e., questions with their answers in ‘yes’ or ‘no’ are
prepared by the HR department The check-list is, then, presented to the rater to tick
appropriate answers relevant to the appraisee. Each question carries a weight-age in
relationship to their importance. While rating an employee the supervisor checks all those
statements that most closely describe the behaviour of the individual under assessment. The
rating sheet is then scored by averaging the weights of all the statements checked by the rater.
A checklist is constructed for each job by having persons who are quite familiar with the
jobs. These statements are then categorized by the judges and weights are assigned to the
statements in accordance with the value attached by the judges.

The following are some of the sample questions in the checklist.

Is the employee really interested in the task assigned? Yes/No
Is he respected by his colleagues (co-workers) Yes/No
Does he give respect to his superiors? Yes/No
Does he follow instructions properly? Yes/No

Advantages of Checklists and Weighted Checklists

Most frequently used method in evaluation of the employees performance.

Limitations of Checklists and Weighted Checklists

i. This method is very expensive and time consuming

ii. Rater may be biased in distinguishing the positive and negative questions.
iii. It becomes difficult for the manager to assemble, analyze and weigh a number of
statements about the employees characteristics, contributions and behaviours.

Critical Incident techniques

Under this method, the manager prepares list of statements of very effective and ineffective
behaviour of an employee. These critical incidents or events represent the outstanding or poor
behaviour of employees or the job. The manager maintains logs of each employee, whereby
he periodically records critical incidents of the workers behaviour. At the end of the rating
period, these recorded critical incidents are used in the evaluation of the worker’s
performance.

Example of a good critical incident of a Customer Relations Officer is : March 12 - The

Officer patiently attended to a customers complaint. He was very polite and prompt in
attending the customers problem.

Advantages of Critical Incident techniques

This method provides an objective basis for conducting a thorough discussion of an

employees performance.

This method avoids recency bias (most recent incidents are too much emphasized)

Limitations of Critical Incident techniques

Negative incidents may be more noticeable than positive incidents.

The supervisors have a tendency to unload a series of complaints about the incidents during
an annual performance review sessions.

It results in very close supervision which may not be liked by an employee.

Modern Methods
1. Management By Objectives: This concept was introduced by Peter Drucker in 1954
who named it as management by objectives. It is also known as goal setting approach to
appraisal .In this process the supervisor and subordinate members jointly identify the
common goals of the organization and set the areas of the responsibility of each individual in
terms of results expected from that person .There is a periodic review to track progress ,
identify performance gaps, training needs, and course corrections.
This appraisal type can be applicable in organizations where employees perform varied
job roles and require a collaborative approach with Supervisors to attain their work
objectives. The method consists of four steps: setting of goals, setting performance
standards, comparing the achieved goals with the goals agreed on, and periodic review to take
corrective steps for better performance.

Advantages-it helps the employees know what is expected of them and how their
contribution leads to overall success for the organization. With the periodic review, the
Manager also gets an opportunity to communicate regularly with the employee in a
constructive setup that eliminates expectation mismatch and promotes organizational
alignment.

Disadvantages-There are several disadvantages – MBO can be quite time-consuming.

Moreover, there is the possibility of conflict with Managers setting exceedingly high
goals while employees aiming for lower targets. Also, if objectives are not measurable,
then the process fails as progress review and assessment will be extremely subjective.

2 Assessment centre method: This method was used for the first time in 1930 by the
German army and then in 1960’s by the British army. This method is used to test the
individual in various social situations by using a number of procedures and assessors. The
performance, as well as the potential of an employee, is evaluated by this method by
assessing his performance on the job-related simulations. It includes all the characteristics
which the concerned manager feel is important for a candidate to get success in his job. This
method uses different techniques such as business games role play and in-basket exercises. It
also includes a personal interview and projective tests to assess the career orientation,
motivation and dependence on others of an employee. To assess the intellectual capacity of
an employee, written tests are used. This performance appraisal technique is used to
measure the planning ability, organizational skills, and interpersonal skills of an employee.
3 Human Resource Accounting Method: Organizations, who want to evaluate the net
contribution of an employee to the company in terms of monetary aspects, use
this performance evaluation method. It is used for assigning, budgeting and reporting the
cost of the human capital in an organization which includes the salaries, wages and all other
training expenses.. The method assesses the cost of employees and their contribution to the
company, ideally, the contribution part should be greater than the cost incurred on them. The
difference then shows the performance of the employees. This method is still developing
hence is not very popular at present.
4 Behaviorally anchored rating scale (BARS- This method combines the critical
incident and graphic rating scale method. This appraisal technique gives emphasis on the
job related behaviours of the employees. The method breakdowns the job into various
behaviours which are listed on the rating scale. Then the actual behaviors of the employee are
compared with the predetermined behaviors rated on the scale.

The following steps are used for constructing BARS.

1. Generating Critical Incidents:

Critical incidents (or say, behaviours) are those which are essential for the performance of the

job effectively Persons who are knowledgeable of the job in question (jobholders and/or

supervisors) are asked to describe specific critical incidents of effective and ineffective

performance.

2. Developing Performance Dimensions:

The critical incidents are then clustered into a smaller set of performance dimensions, usually

five to ten. Each cluster, or say, dimension is then defined.

3. Reallocating Incidents:

Various critical incidents are reallocated dimensions by another group of people who also

know the job in question. Various critical incidents so reallocated to original dimensions are

clustered into various categories, with each cluster showing similar critical incidents. Those

critical incidents are retained which meet 50 to 80% of agreement with the cluster as

classified in step 2.

4. Scaling Incidents:

The same second group as in step 3 rates the behaviour described in each incident in terms of

effectiveness or ineffectiveness on the appropriate dimension by using seven to nine points

scale. Then, average effectiveness ratings for each incident are determined to decide which

incidents will be included in the final anchored scales.

5. Developing Final BARS Instrument:

A subset of the incidents (usually six or seven per cluster) is used as a behavioural anchor for

the final performance dimensions.

The following chart represents an example of a sales trainee's competence and a

behaviorally anchored rating scale.
Table: An Example of Points Behavior
Behaviorally Anchored
Rating Scale (BARS)
Performance
Extremely good 7 Can expect trainee to make
valuable suggestions for
increased sales and to have
positive relationships with
customers all over the
country.
Good 6 Can expect to initiate
creative ideas for improved
sales.
Above average 5 Can expect to keep in touch
with the customers
throughout the year.
Average 4 Can manage, with difficulty,
to deliver the goods in
time.
Below average 3 Can expect to unload the
trucks when asked by the
supervisor.
Poor 2 Can expect to inform only a
part of the customers.
Extremely poor 1 Can expect to take
extended coffee breaks and
roam around purposelessly.

(BOS)- Behavioral observational scale-A technique for evaluating the performance of an

employee which can be used as part of the appraisal process. Like behaviourally anchored
rating scales, the BOS technique involves a process of identifying the key tasks for a
particular job, but the difference is that employees are evaluated according to how frequently
they exhibit the required behaviour for effective performance. The scores for each of these
observed behaviours can then be totalled to produce an overall performance score. In such
instances, the various measures of behaviour are normally weighted to reflect the relative
importance of the measure to the overall job.

Psychological Appraisals-This type of performance appraisal assesses the employee’s

aptitude, emotional balance, analytical skills, and other psychological attributes. The
appraisal is done in the form of detailed interviews, tests and supervisor [Link]
appraisal type is best applicable to identify employees for fast track or future leaders for
the Management Cadre.
These types of appraisal are useful to identify training & development needs of and
suitable job roles for employees.

360 degree appraisal: The 360 degree method of performance appraisal is used to make the
appraisal process more transparent, objective and participative. A method wherein the details
of an employee’s performance are collected from various stakeholders which include the
peers, superiors, subordinates, customers and self.. It is called a 360 degree appraisal because
it involves the persons above him, alongside him, below him as well as a self-appraisal to
evaluate an employee’s performance. It is called a 360 degree method because it involves the
evaluation of an employee by persons above him, below him and alongside him. Structured
questionnaires are used to collect information from the seniors, subordinates and peers. The
employee to be evaluated thus acquires a central position and everyone around him
participates in the appraisal process in the 360 degree method.
720 degree performance appraisal is an integrated and the latest of performance appraisal
method where, the performance of an employee is evaluated from 360 degrees (Management,
Colleagues, Self and also customers) and timely feedback is given and performance is
evaluated again based on the targets that are set. Hence, 720 degree performance appraisal
can be stated as twice 360 degree performance appraisal: once when the appraisal is done and
the targets are set and he second where the feedback is given and the boss gives tips to
achieve the goals. Hence, there is a pre and a post round of feedback. The main need of 720-
degree performance appraisal is the improvement of the performance of the people in their
jobs and to ensure that the expectations of the employer, employee and the customers are
met. 720-degree performance appraisal method is more development focused than
performance alone, and supplements training and development functions in a better way.720
degree appraisal method aims at monitoring, measuring, giving feedback and encouraging the
employees to achieve the goal and for the Organization in turn.

OBSTACLES IN PA

Judgment errors

First Impression (primacy effect): Raters form an overall impression about the ratee on the
basis of some particluar characteristics of the ratee identified by them. The identified qualities
and features may not provide adequate base for appraisal.

Halo Effect: The individual’s performance is completely appraised on the basis of a

perceived positive quality, feature or trait. In other words this is the tendency to rate a man
uniformly high or low in other traits if he is extra-ordinarily high or low in one particular
trait. If a worker has few absences, his supervisor might give him a high rating in all other
areas of work.

Horn Effect: The individual’s performance is completely appraised on the basis of a

negative quality or feature perceived. This results in an overall lower rating than may be
warranted. “He is not formally dressed up in the office. He may be casual at work too!”.

Excessive Stiffness or Lenience: Depending upon the raters own standards, values and
physical and mental makeup at the time of appraisal, ratees may be rated very strictly or
leniently. Some of the managers are likely to take the line of least resistance and rate people
high, whereas others, by nature, believe in the tyranny of exact assessment, considering more
particularly the drawbacks of the individual and thus making the assessment excessively
severe. The leniency error can render a system ineffective. If everyone is to be rated high, the
system has not done anything to differentiate among the employees.

Central Tendency: Appraisers rate all employees as average performers. That is, it is an
attitude to rate people as neither high nor low and follow the middle path. For example, a
professor, with a view to play it safe, might give a class grade near the equal to B, regardless
of the differences in individual performances.

Personal Biases: The way a supervisor feels about each of the individuals working under
him - whether he likes or dislikes them - as a tremendous effect on the rating of their
performances. Personal Bias can stem from various sources as a result of information
obtained from colleagues, considerations of faith and thinking, social and family background
and so on.

Spillover Effect: The present performance is evaluated much on the basis of past
performance. “The person who was a good performer in distant past is assured to be okay at
present also”.

Recency Effect: Rating is influenced by the most recent behaviour ignoring the commonly
demonstrated behaviours during the entire appraisal period.

2. Poor appraisal form

 Rating scale may be vague and unclear
 Rating may ignore imp aspects of job performance
 Rating form may contain additional irrelevant performance dimensions
 The form may be too long and complex
3. Lack of rater preparedness
4. Ineffective organization and practices

Potential appraisal
Potential typically refers to latent and hidden qualities in an [Link] potential
appraisal is to identify the potential of a given employee(the hidden talent of an employee) to
cater to the future needs of the organization. For example- to occupy higher positions in the
organizational hierarchy and undertake higher responsibilities.
Potential appraisal is required to
 • Inform employees about their future prospects.
• Help the organization chalk out a suitable succession plan.
• Update training efforts from time to time
• Advise employees about what they must do to improve their career prospects.
Steps for a good potential appraisal system
• Role description
• Qualities needed to perform the roles
• Rating mechanisms
• Organizing the system
• Feedback
Some of the Potential attributes of an employee:
 Analytical power
 Creativity
 Sense of reality
 Effective leadership
 Conceptual skills
 Planning and organizational ability
 Communication skills
 Initiative
 Result orientation
 Teamwork and team building
 Negotiation skills
 Problem solving and descision making
 Willingness to take additional responsiblities

Potential Appraisal at Philips India:

Philips India has combined performance and potential appraisal together. It is basically based

on the conceptual background as used by Philips N. V. for potential appraisal.

The various criteria used by Philips N.V. are divided into four types:

1. Conceptual Effectiveness:

Vision, business orientation, entrepreneurial orientation and sense of reality.

2. Operational Effectiveness:

Result orientation, individual effectiveness, risk taking and control.

3. Interpersonal Effectiveness:

Network directedness, negotiating power, personal influence and verbal behaviour.

4. Achievement Motivation:

Drive, personal ambition, innovativeness, and stability.

Each of the criterions is then measured on five-point scale. The final grading is based on the

appraisal by management development review team that consists of members from functional

areas with whom the appraisees have close interaction in the normal course of their job. A 2 ×

2 matrix is used to demonstrate the combination of performance and potential appraisal as

shown in the figure below.

Let us give a brief description of four classifications of appraises:

1. Low Potential – Low Performance:

These employees are low on both dimensions. These can be advised to improve performance

otherwise the result will be planned separation.

2. High Potential – Low Performance:

In order to utilize their high potential, these employees are shifted either to new locations or

new departments. If still they do not improve their performance, they are reclassified as

question mark for planned separation.

3. Low Potential – High Performance:

They are performers termed as solid citizens. They lack potential for higher job. Therefore,

they are encouraged to do their present jobs better.

4. High Potential – High Performance:

They are termed as stars. More developmental efforts are directed towards them.

JOB EVALUATION
Job Evaluation
It is the process of analyzing and assessing the various jobs systematically to ascertain their
relative worth in an organization.
In the words of Edwin B. Flippo. "Job evaluation is a systematic and orderly process of
determining the worth of a job in relation to other jobs."

Features of job evaluation

 It tries to assess jobs not people.
 Reference is made to the ‘content’ of the job i.e. what the work consists of, what is
being done, what skills are developed and the actions that are performed. This is
normally discovered by job analysis.
 There are predetermined criteria or factors against which each job is measured.
 It provides a basis for evaluating a rational wage structure.
 Job evaluations are carried out by groups not by individuals.
 Job evaluation helps the management to maintain high levels of employee
productivity and employee satisfaction.

The objectives of job evaluation

To establish an orderly, rational, systematic structure of jobs based on their worth to the
organization.

 To justify an existing pay rate structure or to develop one that provides for internal
equity.
 To assist in setting pay rates that are comparable to those of in similar jobs in other
organizations to compete in market place for best talent.
 To ensure the fair and equitable compensation of employees in relation to their duties.
 To ensure equity in pay for jobs of similar skill, effort, responsibility and working
conditions by using a system that consistently and accurately assesses differences in
relative value among jobs and
 To establish a framework of procedures to determine the grade levels and the
consequent salary range for new jobs or jobs which have evolved and changed.
 To identify a ladder of progression for future movement to all employees interested in
improving their compensation.
 To comply with equal pay legislation and regulations determining pay differences
according to job content.
 To develop a base for merit or pay-for-performance.

Process of Job Evaluation

Gaining acceptance-Before undertaking job evaluation, top management must explain the
aims and uses of the program to the employees and unions.

Creating job evaluation committee

It is not possible for a single person to evaluate all the key jobs in an organization. Usually a
job evaluation committee consisting of experienced employees, union representatives and HR
experts is created to set the ball rolling.
Finding the jobs to be evaluated
Every job need not be evaluated. This may be too taxing and costly. Certain key jobs in each
department may be identified. While picking up the jobs, care must be taken to ensure that
they represent the type of work performed in that department.

Analyzing and preparing job description

This requires the preparation of a job de3scription and also an analysis of job needs for
successful performance.

Selecting the method of evaluation

The most important methods of evaluating the jobs must be identified now, keeping the job
factors as well as organizational demands in mind.

Classifying the jobs

The relative worth of various jobs in an organization may be found out after arranging the
jobs in order of importance using criteria such as skills requirements, experience needed,
under which conditions job is performed, type of responsibilities to be shouldered, degree of
supervision needed, the amount of stress caused by the job [Link] can be assigned to
each such factor. When we finally add all the weights, the worth of a job is determined. The
points may then be converted into monetary values.

Installing the program me

Once the evaluation process is over and a plan of action is ready, management must explain it
to employees and put it into operation.

Reviewing periodically
In the light of changes in environmental conditions (technology, products services etc) jobs
need to be examined closely. For e.g. the traditional clerical functions have undergone a rapid
change in sectors like banking, insurance and railways after computerization. New job
descriptions need to be written and the skill needs of new jobs need to be duly incorporated in
the evaluation process.

Methods and techniques of job evaluation

1 ( Qualitative methods)

Ranking method
The simplest method of job evaluation is ranking method. According to this method jobs are
arranged from highest to lowest, in order of their value or merit to the organization. Jobs can
also be arranged according to the relative difficulty in performing them. The jobs are
examined as a whole rather than on the basis of important factors in the job. The job at the
top of the list has the highest value and obviously the job at the bottom of the list will have
the lowest value.
Jobs are usually ranked in each department and then departmental rankings are combined to
develop an organizational ranking. The following is a hypothetical illustration of ranking of
jobs.

Ranking of a Pay scale

 university
personnel
Ranking order
Professor Rs45000-60000
Associate Rs35000-40000
professor
Assistant Rs22000-30000
professor
Registrar Rs11500-16500

Assistant Rs7500-10050
registrar

Class four Rs5000-6350

servants

Merits of ranking method

The system is simple, easily understood and easy to explain to employees or a union.
Therefore it is suitable for small organizations with clearly defined jobs.
It is far less expensive to put into effect than other systems and requires little effort for
maintenance.
It requires less time, fewer forms and less work.

Demerits
The system merely produces a job order and does not indicate to what extent it is more
important than the one below it.
This kind of ranking is highly subjective in nature and may offend many employees.
This method is difficult to develop in a large and complex organization.

Job classification or grading method

According to this method, a predetermined number of job groups or classes are established
and jobs are assigned to these classifications. This method places group of jobs into job
classes or job grades. Separate classes may include office, clerical, managerial, personnel etc.
Merits
This method is simple to operate and understand, for it does not take much time or require
technical help.
Since many workers think of jobs in, or related to, cluster or groups, this method makes it
easier for them to understand ranking.
The grouping of jobs into classifications makes pay determination problems administratively
easier to handle. It is used in important government services and operates efficiently. But it is
rarely used in an industry.
Job classification is less subjective compared to ranking method.
This system can be effectively used for variety of jobs.

Demerits
Even when the requirements of different jobs differ, they may be combined into a single
category, depending on the status a job carries.
This method oversimplifies sharp differences between different jobs and different grades...
The evaluators have the tendency to classify their job using their subjective [Link]
system is rather rigid and unsuitable for a large organization of very varied work.

2-Quantitative methods-

Factor comparison method

A more systematic and scientific method of job evaluation is factor comparison method.
Under this method, instead of ranking complete jobs, each job is ranked according to a series
of factors. These factors include mental effort, physical effort, skill, responsibilities,
supervisory responsibility, working conditions; accountability [Link] will be assigned in this
method by comparing the weights of the factors required for each job.

The steps involved in factor comparison method may be briefly stated thus:
 Select key jobs (say 15 to 20), across the organization. The selected jobs must
represent as many departments as possible.
 Find the factors in terms of which the jobs are evaluated(such as mental effort,
physical effort,skill,responsibilities,supervisory responsibility, working conditions,
accountability etc)
 Rank the selected jobs under each factor (by each and every member of the job
evaluation committee, independently.)
 Assign money value to each factor and determine the wage rates for each key job.
 The wage rate for a job is apportioned along the identified factors.
 All other jobs are compared with the list of key jobs and wage rates are determined.

An example is given below

Key jobs Daily wage Physical Mental Skill Responsibi Working

rate effort effort lity conditions
Electrician 60 11(3) 14(1) 15(1) 12(1) 8(2)
Fitter 50 14(1) 10(2) 9(2) 8(2) 9(1)
Welder 40 12(2) 7(3) 8(3) 7(3) 6(3)
Cleaner 30 9(4) 6(4) 4(5) 6(4) 5(4)
Labourer 25 8(5) 4(5) 8(4) 3(5) 4(5)

After the wager rate for a job is distributed along the identified and the ranked factors all
other jobs in the department are compared in terms of each factor. Suppose the job of a
painter is found to be similar to electrician in skill (15),fitter in mental effort(10),welder in
physical effort(123),cleaner in responsibility(6) and laborer in working conditions(4).the
wage rate for this job would be(15+10+12+6+4) is 47.
Merits
It is analytical and objective.
Relative and valid as each job is compared with all other jobs in terms of key factors.
Money values are assigned in a fair way based on agreed ranked order fixed by the job
evaluation committee.
Flexible as there is no upper limitation on the rating of a factor.

Demerits
Difficult to understand, explain and operate.
Using same criteria to assess all jobs is questionable as jobs differ across and within
organization.
Time consuming and costly.

Point Method
This is most widely used system of job evaluation. The method evaluates the compensable
factors of each job. It involves a more detailed, quantitative and analytical approach to the
measurement of job work. Under this method jobs are broke down based on various key
identifiable factors such as skill, effort, training, knowledge, hazards, responsibilities and so
on. Thereafter, points are allocated to each of these factors. Weights are given to factors
depending on their importance to perform the job. Points so allocated to various factors of a
job are then summed. Then, the jobs with similar total of points are placed in similar pay
grades. The sum of points gives an index of the relative significance of the jobs that are rated.
Here jobs are expressed in terms of key factors. Points are assigned to each factor in order of
importance. The points are summed up to determine the wage rate for a job.

The procedure involved may be explained thus:

 Select key jobs. Identify the factors common to all the identified jobs such as skill,
effort, responsibility etc.
 The next step is to break down each factor into degrees or levels and to assign a point
value to each degree or level.

 Find the maximum number of points assigned to each job (after adding up the point
values of all factors of such a job).this would help in finding the relative worth of a
job.
 Once the worth of a job in terms of total points is expressed, the points are converted
into money values.
Merits
The workers acceptance of the system is favorable because it is more systematic and
objective than other job evaluation methods.
The system cannot be easily manipulated.
It has an n ability of handling a large number of jobs and enjoys stability as long as factors
remain relevant.
It forces raters to look into all key factors and sub factors of a job.
It eliminates bias at each stage.

Job evaluation Performance appraisal

It evaluates the job and not the job 1. It evaluates the job holder on the
 holder. basis of his job performance.
2. The job is evaluated before the job [Link] is done after the employee
holder is appointed to perform the job. has performed the job.
3. Once job evaluation is done. it is 3. Appraisal is a continuous process
applicable over a number of years. and is undertaken every year.
4. Evaluation is done by a committee 4. Appraisal is done by the concerned
consisting of specialists in the relevant superiors and other persons who know
areas. about he employees concerned.
5. Job evaluation is not adopted by all 5. Appraisal is undertaken by all
organizations, even the large ones. organisations on regular basis, either
They may follow the generally formally or informally.
accepted prevailing practices. 6. There are many objectives of
6. The basic objective is to measure the appraisal: wage/salary increase.
relative worth of a job in comparison to promotion/ demotion, transfer,
other jobs. assessing training needs.

COMPENSATION

Compensation means any type of monetary and non-monetary benefits received by an

employee for providing services to his employer.

Definition Gary Dessler in his book Human Resource Management defines compensation in
these words “Employee compensation refers to all forms of pay going to employees and
arising from their employment.”

Compensation management means designing, administering and maintaining the

compensation system in such a way so as to attract, motivate and retain competent employees
inside the organization.

Objectives of compensation management

1) Attracting and retaining personnel
Better compensation package attract suitable candidates to join the organization as well as
retain competent employees because if the compensation package is not good then there is a
tendency of the employees to switch over to other highly paid organization

2) Motivating Personnel
Salary and benefits is the prime motivator. Compensation management aims at motivating
personnel for higher productivity.

3) Optimizing cost of compensation

Compensation management aims at optimizing cost of compensation by establishing some
kind of linkage with performance and compensation.

4) Consistency in compensation
Compensation management tries to achieve consistency-both internal and external-in
compensating employees. Internal consistency involves payment on the basis of criticality of
jobs and employee’s performance on jobs. Thus, higher compensation is attached to higher
level jobs. Similarly; higher compensation is attached to higher performers in the same job.
External consistency involves similar compensation for a job in all organisations.

5) New and desired behavior

Pay should reward loyalty, commitment, experience, risk taking, initiative and other desired
behavior. Where the company fails to reward such behaviors, employees may go in search of
greener pastures outside.

6) Control costs
Effective compensation management ensures that the employees are neither overpaid nor
underpaid

7) Comply with legal rules

Compensation programmes must invariably satisfy governmental rules regarding minimum
wages, bonus, allowances, benefits etc.

8) Helps in creating better brand equity

.
9) Has social implications as poorly paid employees are likely to indulge in social unrest and
undesirable activities.

10) Helps in improving organization and work efficiency due to enhanced employee
commitment.

11) Helps in providing job satisfaction to the employees.

Objectives of Compensation Management

1. Adequate
2. Equitable
3. Balanced Pay
4. Cost –effective
5. Secure
6. Incentive providing
7. Acceptable to the employee

Types of compensation

Base compensation-involves monetary benefits and rewards in the form of wages and
salaries.

Variable pay-it is that compensation that is contingent on discretion,performance or [Link]

may be reffered to as pay at risk.

Supplementary compensation-these refer to fringe benefits which is basically provided over

and above the base compensation to retain the competent employees on a long term basis.

Components of Compensation
 Basic Wages/Salaries - refer to the cash component of the wage structure based on which
other elements of compensation may be structured. It is normally a fixed amount which is
subject to changes based on annual increments or subject to periodical pay hikes.

Wages represent hourly rates of pay, and salary refers to the monthly rate of pay, irrespective
of the number of hours put in by the employee. Wages and salaries are subject to the annual
increments. They differ from employee to employee, and depend upon the nature of job,
seniority, and merit.

Dearness Allowance- The payment of dearness allowance facilitates employees and workers
to face the price increase or inflation of prices of goods and services consumed by him. The
onslaught of price increase has a major bearing on the living conditions of the labour. The
increasing prices reduce the compensation to nothing and the money’s worth is coming down
based on the level of inflation. The payment of dearness allowance, which may be a fixed
percentage on the basic wage, enables the employees to face the increasing prices.

Incentives- Incentives are paid in addition to wages and salaries and are also called
‘payments by results’. Incentives depend upon productivity, sales, profit, or cost reduction
efforts.

There are: (a) Individual incentive schemes, and (b) Group incentive programmes.

Individual incentives are applicable to specific employee performance. Where a given task
demands group efforts for completion, incentives are paid to the group as a whole. The
amount is later divided among group members on an equitable basis.

Bonus- The bonus can be paid in different ways. It can be fixed percentage on the basic
wage paid annually or in proportion to the profitability. The Government also prescribes a
minimum statutory bonus for all employees and workers. There is also a bonus plan which
compensates the managers and employees based on the sales revenue or profit margin
achieved. Bonus plans can also be based on piece wages but depends upon the productivity of
labour.

Commissions- Commission to managers and employees may be based on the sales revenue
or profits of the company. It is always a fixed percentage on the target achieved. For taxation
purposes, commission is again a taxable component of compensation. The payment of
commission as a component of commission is practiced heavily on target based sales.
Depending upon the targets achieved, companies may pay a commission on a monthly or
periodical basis.

Fringe Benefits- Fringe benefits may be defined as wide range of benefits and services that
employees receive as an integral part of their total compensation package. They are based on
critical job factors and performance. Fringe benefits constitute indirect compensation as they
are usually extended as a condition of employment and not directly related to performance of
concerned employee. Fringe benefits are supplements to regular wages received by the
workers at a cost of employers. They include benefits such as paid vacation, pension, health
and insurance plans, etc.. The purpose of fringe benefits is to retain efficient and capable
people in the organization over a long period. They foster loyalty and acts as a security base
for the employees.

Perquisites: These are normally provided to managerial personnel either to facilitate their job
performance or to retain them in the organisation. Such perquisites include company car, club
membership, free residential accommodation, paid holiday trips, stock options, etc

Types of Compensation-

Direct Compensation: an employee’s base wage which can be an annual salary or hourly
wage and any performance-based pay that an employee receives.

Indirect Compensation: far more varied, including everything from legally required public
protection programs such as Social Security to health insurance, retirement programs, paid
leave, child care or moving expenses.

Direct /Base Compensation- Direct compensation refers to monetary benefits offered and
provided to employees in return of the services they provide to the organization. The
monetary benefits include basic 8 salary, house rent allowance, conveyance, leave travel
allowance, medical reimbursements, special allowances, bonus, Pf/Gratuity, etc. They are
given at a regular interval at a definite time.

Basic Salary- Salary is the amount received by the employee in lieu of the work done by
him/her for a certain period say a day, a week, a month, etc. It is the money an employee
receives from his/her employer by rendering his/her services

House Rent Allowance Organizations either provide accommodations to its employees who
are from different state or country or they provide house rent allowances to its employees.
This is done to provide them social security and motivate them to work.

Conveyance Allowance- Organizations provide for cab facilities tto their employees. Few
organizations also provide vehicles and petrol allowances to their employees to motivate
them

Leave Travel Allowance These allowances are provided to retain the best talent in the
organization. The employees are given allowances to visit any place they wish with their
families. The allowances are scaled as per the position of employee in the organization.

Overtime Pay-Employees should be provided with the adequate allowances and facilities
during their overtime, if they happened to do so, such as transport facilities, overtime pay,
etc.

Bonus -Bonus is paid to the employees during festive seasons to motivate them and provide
them the social security. The bonus amount usually amounts to one month’s salary of the
employee.

Special Allowance- Special allowance such as overtime, mobile allowances, meals,

commissions, travel expenses, reduced interest loans; insurance, club memberships, etc are
provided to employees to provide them social security and motivate them which improve the
organizational productivity

Indirect Compensation -Indirect compensation refers to non-monetary benefits offered and

provided to employees in lieu of the services provided by them to the organization.

They include Leave Policy, Hospitalization, Insurance, Leave travel Assistance Limits,
Retirement Benefits, Holiday Homes.

Leave Policy -It is the right of employee to get adequate number of leave while working with
the organization. The organizations provide for paid leaves such as, casual leaves, medical
leaves (sick leave), and maternity leaves, statutory pay, etc

Hospitalization -The employees should be provided allowances to get their regular check-
ups, say at an interval of one year. Even their dependents should be eligible for the medi-
claims that provide them emotional and social security.

Insurance- Organizations also provide for accidental insurance and life insurance for
employees. This gives them the emotional security and they feel themselves valued in the
organization.

Leave Travel -The employees are provided with leaves and travel allowances to go for
holiday with their families. Some organizations arrange for a tour for the employees of the
organization. This is usually done to make the employees stress free.

Retirement Benefits -Organizations provide for pension plans and other benefits for their
employees which benefits them after they retire from the organization at the prescribed age.

Holiday Homes -Organizations provide for holiday homes and guest house for their
employees at different locations. These holiday homes are usually located in hill station and
other most wanted holiday spots. The organizations make sure that the employees do not face
any kind of difficulties during their stay in the guest house.

Non-Monetary Benefits -These benefits give psychological satisfaction to employees even

when financial benefit is not available.

Such benefits are: (a) Recognition of merit through certificate, etc. (b) Offering challenging
job responsibilities, (c) Promoting growth prospects, (d) Comfortable working conditions, (e)
Competent supervision, and (f) Job sharing and flexi-time. g)Casual dress

Criteria of Wage Fixation

Factors influencing Wage and Salary Administration

External factors
Demand and supply: When the demand of a particular type of labor is more and supply is
less then the wages will be more. On the other hand, if supply of labor is more demand on the
other hand, is less then persons will be available at lower wage rates also. In the words of
Mescon, ‘the supply and demand compensation criterion is very closely related to the
prevailing pay, comparable wage and ongoing wage concepts since, in essence all of these
remuneration standards are determined by immediate market forces and factors.
Cost of living: The wage rates are directly influenced by cost of living of a place. The
workers will accept a wage which may ensure them a minimum standard of living. Wages
will also be adjusted according to price index number. The increase in price index will erode
the purchasing power of workers and they will demand higher wages..
Trade unions bargaining power: The wage rates are also influenced by the bargaining
power of trade unions. Stronger the trade union higher well be the wage rates. Union’s last
weapon is strike which may also be used for getting wage increases. If the workers are
disorganized and disunited then employers will be successful in offering low wages.
Government legislation: To improve the working conditions of workers, government may
pass legislation for fixing minimum wages of workers. This may ensure them a minimum
level of living.. In India, Minimum Wages Act, 1948 was passed to empower government to
fix minimum wages of workers.
Economy: Economy also has its impact on wage and salary fixation. While it may be
possible for some organizations to thrive in a recession, there is no doubt that economy
affects remuneration decisions. A depressed economy will probably increase the labor
supply. This, in turn, should lower the going wage rate.
Technological development: With the rapid growth of industries, there is a shortage of
skilled resources. The technological developments have been affecting skills levels at faster
rates. Thus, the wage rates of skilled employees constantly change and an organization has to
keep its level up-to the mark to suit the market needs.
Psychological and social factors: Psychological the level of compensation is perceived as a
measure of success in life. Management should take into consideration the psychological
needs of the employees while fixing the wage rates so that the employees take pride in their
work. Sociologically and ethically, the employees want that the wage system should be
equitable, just and fair. These factors should also be taken into consideration while devising a
wage programme.

Prevailing market rates: No enterprise can ignore prevailing or comparative wage rates.
The wage rates paid in the industry or other concerns at the same place will form a base for
fixing wage rates. If a concern pays low rates then workers leave their jobs whenever they get
a job somewhere else. It will not be possible to retain good workers for long.
Internal factors:
Ability to pay: The ability to pay of an enterprise will influence wage rates to be paid. If the
concerns is running into losses then it may not be able to pay higher wage rate. A profitable
concern may pay more to attract good workers. During the period of prosperity, workers are
paid higher wages because management wants to share the profits with labor.
Job requirements: Basic wages depend largely on the difficulty level, and physical and
mental effort required in a particular job. The relative worth of a job can be estimated through
job evaluation. Simple, routine tasks that can be done by many people with minimum skills
receive relatively low pay. On the other hand, complex, challenging tasks that can be done by
few people with high skill levels generally receive high pay.
Management strategy: The overall strategy which a company pursues should determine to
remuneration to its employees. Where the strategy of the organization is to achieve rapid
growth, remuneration should be higher than what competitors pay. Where the strategy is to
maintain and protect current earnings, because of the declining fortunes of the company,
remuneration level needs to be average or even below average.
Employee: Several employees related factors interact to determine his remuneration.
1. Performance or productivity is always rewarded with a pay increase. Rewarding
performance motivates the employees to do better in future.
2. Seniority. Unions view seniority as the most objective criteria for pay increases whereas
management prefers performance to affect pay increases.
3. Experience. Makes an employee gain valuable insights and is generally rewarded.
4. Potential. Organizations do pay some employees based on their potential. Young
managers are paid more because of their potential to perform even if they are short of
experience.

EXECUTIVE COMPENSATION

It is a collective term for all the components that make up the remuneration package of the
executives of the company.
A company’s Board of Directors designs executive Compensation packages, typically by the
Compensation Committee consisting of independent directors, with the purpose of
incentivizing the executive team, who have a significant impact on company strategy,
decision-making, and value creation (Pay for Performance) as well as enhancing Executive
Retention

Objectives of executive compensation

Aligning managerial interest with ownership interest

Bringing in the best executives ,to retain them and to avoid poaching
Enhancing employee motivation, involvement and commitment.
Promoting managerial efficiency.
Ensuring complete financial security.
Encouraging progressive treatment.
Favorable tax treatment for the company.

Factors affecting executive compensation

Complexity of the job
Competency required
Capacity to pay
Organization philosophy
International impact(MNC)

Elements/componenets of executive compensation

[Link] pay/ Salary-It is the first component of executive [Link] salary

make upto 40-60 percent of the top managerial annual compensation.
A basic salary is regarded as a “fixed” element of pay and it does not normally vary in
relation to company performance. Since salary establishes the executive’s basic standard of
living, it is necessary for both high and low-performing firms to pay at the going market
rates.

[Link] -Because executive performance may be difficult to determine, bonus compensation

must reflect some kind of performance measure if it is to be meaningful.
Four types of bonus are common.

Discretionary bonus
It is provided under four conditions
 Company profit
 Financial condition of the co
 Business conditions
 Prospects for the future

Performance contingent bonus-( Attainment of specific performance criteria)

Predetermined allocation bonus -( It is done at a fixed formula when the co attains
profit).
Target plan bonus (Depends upon executive’s performance.)

3) Short term incentives-These type of incentives usually apply to a group of selected

executives within a company. Basically for achieving milestone work objectives. These are
designed to reward them for meeting immediate performance criteria.

Profit sharing and gain sharing plans-Profit sharing plans pay a portion of their profits to
employees separate from base pay .which may be payment in cash or can be deferred cash
payments.
In Gain sharing plan, group incentive systems provide participoarting employees with an
incentive payment based on improved company performance such as increased
productivity,increased customer satisfaction,lower costs, or better safety records.
.
4) Long term incentives /Deferred core compensation-Company stock /shares are the main
form of executives deferred [Link] is designed to promote an executives sense
of ownership of the [Link] on the plan, the share unit holder may receive cash
or actual stock at the point of exercise. Share unit holders will also normally receive the same
dividends as regular shareholders Because each share unit has more value than a stock option,
fewer units need to be granted to provide the same compensation value to the executives.

5) Perks / fringe benefits-Executives also receive discretionary benefits like other

employees like-protection program benefits,paid time –off, and employee services.

Designing the Pay structure

Compensation is a critical area of human resource (HR) management, and one that can
greatly affect employee behavior. To be effective, compensation must be perceived by
employees as fair, competitive in the market, accurately based, motivating and easy
to understand. HR professionals might create the pay structure for their organization, or they
might work with an external compensation
consultant.
 There are several steps to designing a pay structure: job analysis; job evaluation; pay survey
analysis; pay policy development; and pay structure formation. Each step is briefly explained
below.

Step 1: Job Analysis

Job analysis is the process of studying jobs in an organization. The outcome of this process is
a job description that includes the job title, a summary of the job tasks, a list of the essential
tasks and responsibilities, and a description of the work context. Also included are the
knowledge, skills and abilities needed to perform the job.

Step 2: Job Evaluation

Job evaluation is the process of judging the relative worth of jobs in an organization. The
outcome of job evaluation is the development of an internal structure or hierarchical ranking
of jobs. Job-based evaluation is used more often than person-based evaluation, and so the
former will be the focus in this case. There are three methods of job-based evaluation: the
point method(which is the most commonly used); ranking; and classification. Job evaluation
helps to ensure that pay is internally aligned and perceived to be fair by employees.

Step 3: Pay Policy Identification

Pay policy identification is the process of determining whether the organization wants to lead,
lag or meet the market in compensation. The pay policy or strategy will likely influence
employee attraction and retention. Pay policies can vary across job families (i.e., groups of
similar jobs) and job levels if the top management feels that different strategies can be
effective in different areas of the organization.

Step 4: Pay Survey Analysis

Pay survey analysis is the process of analyzing compensation data gathered from other
employers in a survey of the relevant labor market. Gathering external pay data (e.g., base
pay, bonuses, stock options and benefits) is essential to keep the organization’s compensation
externally competitive within its industry. Employee attraction and retention can be improved
by maintaining externally aligned pay structures.
Step 5: Pay Structure Creation Pay structure creation is the final step, in which the internal
structure (Step 2) is merged with the external market pay rates (Step4) in a simple regression
to develop a market pay line. Depending on whether the organization wants to lead, lag or
meet the market, the market pay line can be adjusted up or down. To complete the pay
structure, pay grades and pay ranges are developed.

To ensure that the pay structure is externally competitive, a pay survey will be conducted. For
the results of a survey to be valid,the market pay data must be from the relevant labor market
for each benchmark job. Descriptive organization data (e.g., size, industry,annual revenue) is
gathered as well as compensation data for each of the benchmark jobs, including base pay, bonuses,
stock options and benefits.

TYPES OF WAGES

Statutory Minimum Wage- It is the wage determined according to the procedure prescribed
by the relevant provisions of the Minimum Wages Act, 1948. Once the rates of such wages
are fixed, it is the obligation of the employer to pay them, regardless of his ability to pay.
Such wages are required to be fixed in certain employments where “sweated” labour is
prevalent, or where there is a great chance of exploitation of labour.

Bare or Basic Minimum Wage- It is the wage, which is to be fixed in accordance with the
awards and judicial pronouncements of Industrial Tribunals, National Tribunals and Labour
Courts. They are obligatory on the employers. Minimum wage, and fair wage and living
wage are the terms used by The Report of the Committee on Fair Wages, set up by the
Government in 1948 to determine the principles on which fair wages should be based and to
suggest how these principles should be applied. According to this Committee, the minimum
wage should represent the lower limit of a fair wage. The next higher level is the fair wage,
and the highest level of the fair wage is the living wage.

A Minimum Wage- It has been defined by the Committee as “the wage, which must provide
not only for the bare sustenance of life, but for the preservation of the efficiency of the
worker. For this purpose, the minimum wage must provide for some measure of education,
medical requirements and amenities.” In other words, a minimum wage should provide for
the sustenance of the worker’s family, for his efficiency, for the education of his family, for
their medical care and for some amenities.

Living Wage- It 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
frugal comfort, including education for his children, protection against ill-health,
requirements of essential social needs and a measure of insurance against the more important
misfortunes, including old age.” In other words, a living wage was to provide for a standard
of living that would ensure good health for the worker, and his family as well as a measure of
decency, comfort~ education for his children, and protection against misfortunes. This
obviously implied a high level of living. Such a wage was so determined by keeping in view
the national income, and the capacity to pay of an industry.

Fair Wage- According to the Committee on Fair Wages, “it 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 set by the “capacity of the industry to pay.” The committee
envisages that while the lower limit of the fair wage must obviously be the minimum wage,
the upper limit is equally set by what may broadly be called the capacity of the industry to
pay. This will depend not only on the present economic position of the industry but on its
future prospects.

Between these two limits, the actual wages should depend on considerations of such
factors as

The productivity of labour; (b)The prevailing rates of wages in the same or neighboring
localities; (c) The level of the national income and its distribution; and (d) The place of
industry in the economy of the country
The Need-Based Minimum Wage- The Indian Labour Conference, at its 15th session held
in July 1957, suggested that minimum, wage fixation should be needbased, and should meet
the minimum needs of an industrial worker. For the calculation of the minimum wage, the
Conference accepted the following norms and recommended that they should guide all wage-
fixing authorities, including the Minimum Wage Committee, Wage-Boards, and adjudicators

: (i) The standard working class family should be taken to consist of 3 consumption units for
the earner; the earnings of women, children and adolescents should be disregarded;

(ii) The minimum food requirements should be calculated on the basis of the net intake of
2,700 calories, as recommended by Dr. Akroyd, for an average Indian adult of moderate
activity.

(iii)The clothing requirements should be estimated at a per capita consumption of 18 yards

per annum, which would mean, for an average worker’s family of four, a total of 72 yards;

(iv)In respect of housing, the norms should be the minimum rent charged by the Government
in any area for houses provided under the Subsidized Housing Scheme followincome groups;
and

(v) Fuel, lighting and other miscellaneous items of expenditure should constitute 20 per cent
of the total minimum wage.

The need based minimum wage is also a level of fair wage and represents a wage higher than
the minimum obtaining at present in many industries, though it is only in the lower reaches of
the fair wage. We therefore hold that in fixing the need based minimum, the capacity to pay
will have to be taken in to account.

Money and Real Wages- Wages earned by employees are normally expressed in terms of
money. There are two aspects of wages. One is expressed by the term money wage while the
other by real wage. money wages can be expressed by amount in terms of currency while
the real wages refer to the goods and services that an worker can buy with these wages.
Real wages are calculated by relating changes in money wages to changes in the consumer
price index.

THEORIES OF WAGES

Acc. To Prof. J. Dunlop, the history of wage theory may be divided in to 3 periods :
 Up to 1870 -was dominated by WAGE FUND THEORY
 1870-1914 : THEORY OF MARGINAL PRODUCTIVITY
 1914- till date : Process of Collective bargaining & Keynesian Equity & the General
Wage Level & Employment.

Subsistence theory -This theory, also known as ‘Iron Law of Wages,” was propounded by
David Ricardo (1772-1823). According to this theory-“the labourers are paid to enable them
to subsist & perpetuate the race without increase or diminution” The theory maintains that
wages cluster around the bare subsistence level of workers. A wage rate much above the
subsistence level causes an increase in the number of workers; competition will then lead to a
depression of wages back toward the cost of subsistence. Wages that are below subsistence
reduce the size of the working population; in that case competition will raise wages, but only
up to the subsistence level again.
The theory Pre-supposes
 Low wagesà decrease of number of labourers due to death, malnutrition, family
problems etc.
 High wagesà increase their number due to better health, long life, procreations.

Wage fund theory-Propounded by Adam Smith (1723-90).Wages are paid out of a

predetermined fund of wealth. If fund is large, wages should be high and if it is small wages
would be reduced. Demand for labour and wages paid are determined by the size of the
[Link] level is a function of surplus fund available with the employer.

 Higher the fundà more is the level of pay.

 Lower the fundà lower is the level of pay

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

Residual claimant Theory- Francis A. Walker (1840-1897) propounded this theory.

According to him, there were four factors of production/ business activity, viz., 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 This theory was developed by Phillips Henry Wicksteed
(England) and John Bates Clark (USA). According to this theory, wages are based upon an
entrepreneur’s estimate of the value that will probably be produced by the last or marginal
worker. In other words, it assumes that wages depend upon the demand for, and supply of,
labour. Consequently, workers are paid what they are economically worth.

The bargaining theory of wages -John Davidson propounded this theory. Under this theory,
wages are determined by the relative bargaining power of workers or trade unions and of
employers. When a trade union is involved, basic wages, fringe benefits, job differentials and
individual differences tend to be determined by the relative strength of the organization and
the trade union.

The purchasing-power theory of wages concerns the relation between wages and
employment and the business cycle. It is therefore assumed that a decline in wages will
reduce consumption and that this in turn will reduce demand for goods and services, causing
the demand for labour to fall. Hence, if the wage rates are high they will have more
purchasing power, which would increase the aggregate demand for goods and also a high
level of output.

Employment theory of wages- It is also known as Supply and demand theory,developed by

[Link] is based on the inter-relation between wages and employment Unemployment
would disappear, ifworkers were to accept a voluntary cut in wages, pleaded for wage
flexibility for promoting employment at a time of [Link] lowering in prices would
cause additional demand, which will increase production, and will increase
employment of workers.

Competitive theory of wages-Wages were fixed in accordance with demand and supply,
workers would be attracted by high wages to industries,occupations and localities.

(A refinement of marginal-productivity theory) known as human-capital [Link] has

since become a dominant means of understanding how wages are determined. It holds that
earnings in the labour market depend upon the employees’ information and skills. In the early
1960s the American economist Theodore W. Schultz coined the term human capital to refer
to this stock of productive knowledge and skills possessed by workers. The theory of
human capital was shaped largely by Gary S. Becker, an American student of Schultz who
treated human capital as the outcome of an investment process. Becker introduced the
important distinction between “general” human capital (which is valued by all potential
employers) and “firm-specific” human capital (which involves skills and knowledge that
have productive value in only one particular company)

WAGE DIFFERENTIALS

The difference in wages between workers with different skills in the same industry or
between those with comparable skills in different industries or localities.

The committee on fair wages recommended that wage differentials should be established on
the basis of certain considerations:

 The degree of skill

 The strain of work
 The experience involved
 The training required
 The responsibility undertaken
 The mental and physical requirement
 The disagreeableness of the task
 Hazards /severity of risk factor

Types of Wage differentials

1) Occupational Wage Differentials:
Occupational differentials are based on skill, experience and training taken by the employees.
These may be inter plant, inter industries and inter regional also.
Inter plant differentials imply the differences in pay for the same or a similar job in the same
industry, while inter industry differentials are for the same or similar jobs between industries
in the same locations or in the same labour market at the same time. They are the pay
differences for the same kind of input.

[Link] Based Wage differential

Industry based differentiations refer to the wage or salary payment according to the nature of
the job, types of industry, technical knowledge or expertise required, their paying capacity
according to the size of the company and differential wages in similar industries or
neighbouring industries.
Accordingly, these can be classified as:
i. Nature of the organization
ii. Size of the organization
iii. Technology used
Intra Industries (inter plant) wage differentiation – In the same plant or industry, the
employer may pay different compensation packages, based on differences in the quality of
work, quality of labour, imperfection in the market, and differences in efficiency of plant or
machinery. Other factors, which reflect wage differences, could be (a) Technology
advancement, (b) Managerial efficiencies, (c) Financial capacity of the firm and (d) Age and
size of the company.
v. Inter Industries wage differentiation – These differences arise when the workers in the
same occupation and in the same area at the same time are paid different compensation
packages in different industries in the same location.
Inter industries differentials generally arise due to the extent of unionization, their bargaining
strengths, structure of the product market, the employer’s ability to pay and the stage of
development of the industries paying a higher pay to expedite production. Other factors such
as advancement in technology, managerial efficiency, financial strength and age of the
company influence inter industry differentials.

3. Skill Based Wage Differentiation:

The wage difference among different degrees of skill of the workers appears in these
differentials. Skilled workers on an average earn more than semi-skilled, unskilled and casual
workers in any industry and in any state or country. Generally companies have found it
necessary to widen the skill differences to attract the requisite skill-holders.
[Link] Differentials
Wage and salary differentials exist at personal level too. Different persons having similar
qualifications are offered different salaries in the same organisations. This happens because
they have acquired different skills in spite of the fact that they may have similar educational
background. This happens more so when skill-based pay system is adopted as against job
based pay.

5) Regional wage differences

The inter area or geographical wage differentials arise when workers in the same industry and
in the same occupation group, but living in different geographical areas are paid different
wages. It refers primarily to differences in the wage of workers doing the same jobs in units
of an industry located in different regions. Capacity to pay, nature of the product market,
relative abundance of the natural resources ,differences in the labour productivity, differences
in the cost of living, the extent of unionization, the urban or rural character of the
surroundings,the quantity and quality of labour supply etc create regional wage differences.
Eg L&T operating in Rourkela and Mumbai have wage differences.

6) Gender Based Differentiation:

Generally some of the jobs may need a masculine role and some may need a feminine role for
its effective performance. These considerations employ women for some roles and only men
for some roles, but because of the difference in the capacity to work the pay or wages differ
accordingly, creating wage/salary differentiations.

Wage differentials have a great economic and social significance.

Its importance arises because:
1. It enables full employment of the resources of the economy to be attained.
2. It provides an important incentive for labour mobility as it brings about a re-allocation of
the labour force under changing circumstances, so as to maximize the national product.
3. It facilitates desirable rate of economic progress. It is found that wage differentials giving
the wide differences in demand and supply of jobs along with wide variations in job
requirement like skill, ability, knowledge and experiences so on, ensures full exploitation of
the national resources and thus is justified