Wage Transparency and Social Comparison in Sales Force Compensation

Link: https://doi.org/10.1287/mnsc.2019.3461

Wage transparency, or informing employees what their coworkers earn, facilitates social comparisons. The comparisons may induce strong feelings in insecure or competitive employees.

Companies often decide to keep wage information confidential. For example, Netflix decided against revealing pay data to employees in 2016 because it feared workforce response. Other firms, such as Whole Foods Market, have elected to make wage information available to personnel. Some government agencies are required to publicize wage data.

However, conflicting evidence about the effects of wage transparency has emerged. Some firms benefit from publicizing wages; others suffer.

This research, which explores the optimal conditions for wage transparency, is related to the marketing and economics literature addressing compensation in the principal-agent framework. Most existing studies assume sales agents work independently and focus on optimal individual compensation plans. Research on sales teams is relatively scarce.

This study investigates the implications of social comparisons on sales agents’ effort decisions and their incentives to help or collaborate with each other. Specifically, the research addresses three questions:

1. How do social comparisons affect collaboration among sales agents?
2. How can a firm capitalize on social comparisons and compensate employees optimally?
3. Under what conditions—market the possibility of collaboration, individual employee preferences, etc.—does wage transparency benefit firms?

The study begins by developing and solving a base model in which sales agents exert only individual effort. If compensation depends on individual outcomes, agents exert more effort in the presence of social comparison. The effect is a consequence of the incentive to outperform and earn higher wages than peers. This is the “motivation effect” of social comparison. But when social comparison reduces an agent’s total expected utility, firms must pay more than they would in the absence of wage transparency. This is the “participation effect” of social comparison.

The study’s base model indicates higher individual incentives yield stronger motivation and participation effects. In identifying a compensation plan’s optimal mix of individual and group incentives, firms must trade off the benefit of higher effort against the cost of participation constraints.

The paper then extends the model to cases in which agents can collaborate. By helping a peer, an agent may increase the coworker’s earned wage. But the collaboration increases the likelihood of a negative wage comparison. The negative effect increases with individual incentives. Therefore, higher individual incentives reduce the extent to which agents help each other in the presence of social comparisons. This is known as the “cooperation effect” of social comparison.

In the presence of social comparison, firms must therefore increase group incentives to reinforce assistance among sales agents. However, if substitutability between agents’ efforts is low, the firm may elect not to induce collaboration. In this case, group incentives serve only to alleviate the negative participation effect of social comparison.

What if sales agents can make joint investments to reduce effort? This is known as the “collaboration decision” and can reduce the cost of individual effort if both agents elect to work together. For heterogeneous agents, the study finds wage transparency has a positive motivation effect but negative participation effect.

Finally, the research explores the case in which sales agents engage in social comparison regardless of wage transparency. Transparency is never optimal if the agents in the condition are homogeneous (i.e., they have the same costs of effort) but may benefit the firm if the agents’ costs of effort differ.

Using the results of this study, firms may find it optimal to allocate agents to positively correlated territories or create opportunities for low-cost collaboration. While social comparison always reduces collaboration among agents, it could increase their willingness to work together to lower their cost of effort. Individual and group incentives both are required to reap the benefits.

Sales agents engaging in social comparison based on their own rational beliefs weaken the effects of wage transparency. In the presence of social comparison, firms should consider shifting from individual- to group-based payments when demand uncertainty increases or profit margins decline. Conventional wisdom suggests wage transparency is most suitable for environments with no worker interdependency. The results of this study suggest wage transparency can be effective in interdependent environments.

This study finds demand uncertainty, correlation across sales territories, and the possibility of help/collaboration should play a significant role in firms’ compensation and wage transparency decisions. Wage transparency is more likely to benefit firms when demand uncertainty is low, sales outcomes are positively correlated across sales territories, and sales agents can easily collaborate. Contrary to conventional wisdom, social comparisons do not always reduce collaboration among agents. The critical element for firms wishing to publicize wages while incentivizing collaboration is to provide the right mix of individual and group compensation.