Financial Incentives in the Workplace - Literature review Example

Financial incentives in the workplace (Name) (Institution) (Course) (Module) (Instructor’s Name) (Date of submission) Executive summary Rewards have for a long time been considered as a crucial part in management and HRM. Various ways have been invented to reward employees. Financial rewards have been the most controversial one. Theories and models have been developed to propose and oppose the efficacy of financial rewards on employees. Proponents of financial rewards argue from an economic point of view that every man loves money whereby money has no diminishing marginal returns. Opposers argue that money is not an efficient motivator and that intrinsic motivators are more effective. However, beyond finances, rewards can be offered in other forms such promotions, holidays and even plaques. Theories such as the Maslow’s hierarchy of needs theory indicate that money plays a vital role in motivation though in the short run. It is apparent that financial incentives are important in the workplace but they are not self sufficient hence the need for organizations to introduce other forms of incentives to work along financial incentives. Table of contents Executive summary 2 Introduction 4 Importance of reward systems 5 Types of financial incentives 6 Determinants of pay incentive 7 Theory on financial rewards 7 Implications 12 Conclusion 12 Introduction To improve overall organizational performance, the performance of individual employees has to be addressed first. Managers and organizations have continuously searched for the best ways to increase and maintain high performance from their employees. Management experts have on the other hand developed theories to direct managers on ways to achieve high performance. The art and science of encouraging better performance, henceforth called motivation has borrowed widely from a number of social psychology theories. These theories are broadly categorised into two; those that support financial rewards as ways to enhance performance and those that oppose pay packet and other forms of financial rewards. There have been claims that “an employee is only motivated by the money in the pay packet. Other benefits are just additional costs to the business. Get the pay right and everything else will follow.” This paper seeks to oppose this view by indicating that other rewards other than financial rewards are important in rewarding employees and enhancing individual performance. The paper will draw support from a number of sources on employee motivation and rewards and also highlight some empirical observation on the subject from existing organizations. Importance of reward systems Rewarding employees is a form of recognition of their efforts in the workplace and it encourages productivity. Organizations often develop frameworks for rewarding their employees where most of them are based on roles and responsibilities of respective roles and others such as sales are based on countable improvement in work output. The work of Armstrong (2002) underscores the importance of employee reward systems. In part he says that employees are the major variable in an organization’s success hence their recognition and appreciation through rewards is paramount. He says that rewards encourage employees to give in more at work beyond their jurisdiction or beyond their roles and duties in an acceptable manner. Huselid (2006) employee recognition and motivation through reward systems is an integral part of employee performance management and should precede organizational performance management. Reward systems aim at achieving three major things in an organization: To attract the right people at the right time for the right jobs To retain the best people by recognizing and rewarding their contribution To motivate employees to contribute to the maximum in their work A reward should also aim at achieving the following: Need-fulfilling- should satisfy certain human needs for the employees Fair- strict criteria for rewards to those who deserve only Legally acceptable- should take into consideration employment laws and rights of employers Affordable- financial incentives and other rewards used should not strain the organizational budget Cost effective- there should be visible returns on such investments Strategically aligned- should promote and enhance the organization strategy Types of financial incentives Piece-rate pay- employees are paid for time spent at work Commission- most effective in sales division as it increases both organizational performance and individual earnings Performance-related pay Bonuses- tied to profits or other measures of performance Shares and options- common reward for senior managers in large organizations as a form of equity Benefits in kind (“fringe benefits”)- e.g. holidays, shopping vouchers Pensions- payments after retirement Determinants of pay incentive Job evaluation / content; used to set the basic pay and also rewards. It evaluates roles responsibilities and to a particular position in comparison with others. Fairness – The work must match amount of work. Negotiated pay rates – rate of pay is predetermined prior to employment either by government regulation (e.g. minimum wage law) or a contract where the employer has to comply Market rates – pay rates viewed as fair and standard by the market Individual performance – payment based on personal performance. Theory on financial rewards Rewards systems are just one of the many ways of enhancing employee performance. A number of authors (Huselid, 2006; Mullins, 2007) agree that among the many ways of improving employee performance such as training, rewards, career support and performance appraisals, rewards have proved to be the most efficient. Most organizations offer rewards in form of cash incentives on top of basic salaries depending on their performance in attaining set organizational goals and targets (O’Neill 1995). However, management literature suggests that pay is not the only factor that motivates people. Rather, people expect more out of a job than a pay check. Therefore, reward systems that focus on pay and other financial rewards only at the expense of non-financial rewards are in essence bribing their employees and ultimately will pay a high price in form of low employee loyalty and commitment (Shileds, 2007; Tippet & Kluvers 2009). The McGregor's XY Theory also supports these findings by stating that “commitment to organizational objectives is a function of rewards associated with their achievement.” Employee’s commitment in this case is directed towards organizational goals and objectives leading to improved performance of the whole organization. The Implicit Person Theory which is a psychological theory used in discussing performance appraisals can be adapted in discussing rewards for employees. This theory is founded on the assumption that personal attributes can be altered through a number of measures in order to induce a change in behaviour of a person, in this context employee. This implicit theory is further divided into two, incremental and prototypical. The prototypical IMT assumes that personal traits are unchanging entity while the incremental IMT assumes that personal traits are comparatively impressionable. The incremental IMT acknowledges the role of rewards in influencing behaviour positively to increase individual performance. However, this theory indicates that money is the least effective influencer of behaviour (Scott 2007; Mullins 2007). The prototypical IMT argues that no form of rewards can influence performance. On the other hand organizations can learn from this that employees should only be paid for only what hey work for as no form of reward, financial or otherwise can influence their productivity. The Maslow’s hierarchy of needs theory also has interesting views on the place of motivation and financial rewards. This theory, named after the man who developed it, Abraham Maslow argues that stimulus is the major driver of human behavior (Maslow, 1970). As a humanist psychologist, Maslow opposed the existing views that human beings are pushed and pulled by mechanical forces, either of stimuli and reinforcements (behaviorism) or of unconscious instinctual impulses (psychoanalysis). As a humanist, his approach focused upon human potentials believing that humans always strive for their upper level of capabilities and full potentials (Wong, 2000; Tippet & Kluvers 2009). He recognized that human beings are motivated by the desire to fulfill their needs will are ordered in a hierarchical level as follows: Physiological needs (basic needs), safety needs, social needs, esteem needs and self actualization needs. Maslow postulated that there is a general pattern of needs recognition and satisfaction that people follow. He recognized five levels of needs from the most basic, derived from instincts, to the highest which he described as a fully functioning human being who seeks frontiers of creativity, wisdom and strives for the highest level of consciousness (Camerer & Hogarth 1999). However, the needs are also loosely grouped into two: deficiency needs and growth needs. Deficiency needs demand that they must first be met before seeking to satisfy other needs. If the lower need recurs again, then individuals first seek to fulfill that need. The growth needs are only those pursued after fulfilling the deficiency needs. The desire to fulfill needs therefore stimulates people to be more productive if there is a promise to fulfill those needs. Some higher needs in this theory cannot be attained through financial means though the lower level needs can. This implies that financial incentives will be effective in the short run only during which employees are seeking to achieve basic needs such as housing shelter and food and later on be useless as finances cannot be useful in attaining the higher level needs. Physiological needs are the most basic needs and also considered as biological needs. They include air, water, food, a relatively constant body temperature (offered by shelter) and other bodily comforts. Safety is basically viewed as the absence of danger. Safety needs are pursued after all physiological needs are satisfied and are no longer control or motivate the thoughts and actions of an individual. At this level, arousal is obtained from the need to achieve and retain security. Unfortunately, adults have little awareness of their security needs unless they experience the absence of it such during emergency situations of conflict and war. Children on the other hand adequately display their needs for safety due to their vulnerable age (Maslow 1970; Mullins 2007). Some adults may not display the different levels of needs openly. After satisfying safety needs, individuals pursue emotional satisfaction in the name of love affection and a sense of belonging. Maslow states that people in this level seek to overcome feelings of loneliness and isolation. Consequently, they give love and show affection in expectation of the favour to be returned (Wong, 2000). Esteem needs are basically that. After satisfying all the needs above, individuals pursue to gain some self confident and feel their self worth. This is mostly attained by how people and situations respond to a person though it is highly determined by perception. When the first three classes of needs are satisfied, the needs for esteem can become dominant. Lack of low or levels of self esteem diminish confidence breed frustrations as one feels almost worthless on the surface of the earth. The highest level is need for Self-Actualization. According to Maslow, it represents a complete and satisfied person. At this stage, a person seeks to pursue what he feels is what is destined for him e.g. if one was born a painter, strives to paint. The need for self actualization is usually manifested by some degree of restlessness where the source is not always obvious. Another theory that negates the role of financial incentives in the workplace is the goal setting theory of Locke and Latham. This theory stipulates that goal precision, difficulty and performance and directly related. It argues that employees with higher and clearer goals in life and at the workplace will perform better be more motivated than an employee with vague goals (Wong, 2000). In this sense, financial incentives play little or no role at all in stimulating goal setting in life. Makinder (2010) examined the incentives offered by a certain chain store in Sweden, Motonet-Espoo. She discovered that the firm used a combination of incentives to reward their employees. There are three major forms of incentives which the company has tried and adapted over time with varying degrees of success. These are profit sharing, personal bonus and tangible recognition. Profit sharing and personal bonus are just some of the types of financial incentives used by employers. Jensen and Murphy (1998) and Rose (2008) indicate that the method used to give financial incentives determines its efficacy but not the amount. They investigated over 2000 CEO’s in 1400 publicly owned companies between 1974 and 1988. They found out that the link between cash compensation and corporate performance was very weak but they do not rule out financial incentives. Camerer & Hogarth (1999) accessed the role of financial incentives in different situations from students to employees. They discovered that financial incentives work under certain conditions at limited space of time. They say that in cases where thee is no room for improvement, the marginal monetary return to increased effort in the workplace is low. Such a situation applies to salesmen for are rewarded for number of sales made. At a point in time, the market will be saturated with the product and no growth of sales is recorded at such a time, paying salesmen more to increases sales is just an additional cost to the company. This is called the ceiling effect. Implications The ideas on financial incentives in the workplace discussed have some implication on firms. The major ones are; Organizations should set reward systems that align with their business model. A single reward system does not work effectively hence the need to combine intrinsic and extrinsic reward systems. Reward systems should be implemented on trial basis and their impact on the employees recorded to achieve a working reward system. Conclusion Organizations are bound to appreciate and recognize the contribution of their employees in the workplace through more ways than just the basic pay. Bonuses are important and have proved to be useful in the long term as compared to just high basic pay. However, high pay does not automatically result into high performance and motivation. There is need to link incentives to measurable performance indicators for all employees. Therefore, the question of financial incentives is not limited to their benefits or detriments but rather how the system is implemented and carried out. It is obvious that cash incentives improve performance but they are not meant to replace other forms of incentives. The problem with major employers is that they assume cash incentives can replace other forms of incentives which is incorrect. Therefore, intrinsic and extrinsic incentives are complimentary rather than substitutable. References Camerer, C. & Hogarth, R. (1999) “The effects of financial incentives in experiments: A review and capital-labor-production framework” Journal of Risk and Uncertainty” Vol.19, No.1, pp. 7-42 Huselid (2006) The impact of human resource management practices on turnover and corporate financial performance, Academy of Management Journal, Vol. 38, No. 3, pp. 635-872 Jensen, M. & Murphy, K. (1998) “CEO Incentives—It’s Not how much you pay, but how.” Harvard business review, Vol. 7, No. 3, pp 138-153. Maslow, A. (1970). Motivation and Personality 3rd ed, New York: Longman, (Retrieved online on 23rd Dec 2010 from) http://faculty.spokanefalls.edu/InetShare/AutoWebs/kimt/maslow%20unmotiv%20beh.pdf Mikander, C. (2010). The impact of a reward system on employee motivation in Motonet-Espoo. (Retrieved online on 23rd Dec 2010 from) https://publications.theseus.fi/bitstream/handle/10024/16956/carolina_mikander.pdf?sequence=1 Mullins, L. (2007). Management and organizational behaviour, 8th ed, New York: Financial Times Prentice Hall O’Neill, G. (1995). “Linking pay to performance: conflicting views and conflicting evidence.” Asia pacific journal of human resource, Vol. 33 No. 2, pp. 20-35 Rose, T. (2008). The impact of financial incentive mechanisms on motivation in Australian government large non-residential building projects. (Retrieved online on 23rd Dec 2010 from), http://eprints.qut.edu.au/16680/ Scott, I. (2007). “Pay for performance in health care: strategic issues for Australian experiments” Medical journal of Australia Vol. 187, No.1, pp. 31-35 Shields, J. (2007). Managing employee performance and reward: concepts, practices, strategies. New York: Cambridge University Press Tippet, J. & Kluvers, R. (2009). “Employee Rewards and Motivation in Non Profit organizations: Case Study from Australia” International Journal of Business and Management Vol. 4. No. 3, pp. 7-14 Wong, R (2000). Motivation: a biobehavioural approach, New York: Cambridge University Press Read More