Study: Two-Tier Wage Setup Isn’t More Profitable for Companies

Think that hiring lower-wage workers to replace more expensive employees will increase profits? Think again, according to a newly published study, The Consequences of Hiring Lower-Wage Workers in an Incomplete-Contract Environment.

As more companies move to areas with lower-wage workers, the type of employment contract that is used and its effect on company profits come into question. That’s especially as companies often will try to bump up profits by replacing current employees with new lower-wage workers.

Companies using so-called complete contracts that include specific incentives tying wages to worker productivity – the more they produce, the more they earn – generally increase profits.

But profit growth isn’t as clear when incomplete, or fixed-wage, contracts are used, especially when only some existing higher-wage workers are replaced with new lower-wage workers, resulting in a mix of wage scales in the workplace.

That was the basis for a new study by assistant accounting professors Patrick Martin and Jason Brown of Indiana University, professor of business administration Donald Moser of the University of Pittsburgh, and behavioral economics professor Roberto Weber of the University of Zurich. The study was published in the current issue of The Accounting Review, a publication of the American Accounting Association.

The authors found that lower wages don’t improve profits because neither the new lower-wage earners nor the existing higher-wage employees worked as hard. And the new workers’ reduced income also reduced their social welfare.

What’s more, the higher-wage workers in an incomplete-contract workplace might work less if they consider the company’s hiring of lower-wage workers as unfair or violating social norms, according to the study.

The study cites earlier accounting research that indicated violations of employee social norms of fairness, trust, and reciprocity affect behavior. Even workers who aren’t directly affected will react negatively to violations of those norms.

“If remaining higher-wage workers lower their effort because they view hiring a new lower-wage worker as unfair or as a violation of a social norm, then this represents a social cost to the firm that would offset the financial benefit of paying lower wages,” according to the study.

The unintended consequences indicate that companies should consider wage savings and potential costs when replacing some existing workers with new lower-wage workers, according to the study.

The results are applicable to any industry, such as the airline and auto industries, involving two different groups of workers in the same workplace who earn different wages for similar tasks, and both groups are aware of this, says Martin in a prepared statement.

“They could also apply to situations in which a company moves some of its operations from a higher-cost to a lower-cost area, whether in the United States or abroad, where both the retained high-scale workers and the new low-scale cohort are aware of the pay gap," he says.

The findings are based on an experiment involving a mock two-tier wage system involving 144 participants, primarily university students, using computers in an economics laboratory.

About the author

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Terry Sheridan

Terry Sheridan is an award-winning journalist who has covered real estate, mortgage finance, health care, insurance, personal finance,
and accounting and taxation issues for newspapers,

Two Tier Wage and Benefit Systems – Equal Work For Less ...

At the opening session of negotiations between UE Local 1917 and Amalgamated Putz Corporation, the company made a serious pitch for establishing a two-tier payment system. "We need to lower costs. The parent corporation is demanding every unit reduce costs by 15%. Our competitors are paying operators $1.75 less per hour and they have to pay 30% of their insurance premium. We don't want to hurt current employees so we are proposing that all new hires start at $1.75 below the hiring rate and finish at $1.75 below the current operator rate. They will also have to pay 30% of the insurance premiums."

Larry Parrish, the Local President replied, "That's not fair, and besides, once you do it to them, we'll be next." George Boulware, negotiator for Amalgamated Putz retorted, "They don't even work here yet so why do you or your members care, and if something isn't done there might not be any jobs here."

At other locations other employers argued that a two-tier wage system was necessary in order to bid to bring more work into the shop. "We can hire more people and gain a bigger share of the market if the union will allow us to implement a two-tier wage system."

UE Local 1917 and the other locals face two problems here. One is the two-tier wage and benefit system and second is what to do about other workplaces that do the same or similar work for lower pay. Both problems involve the questions of how to maintain decent wages, how to build solidarity among workers, and the question of how union density (how many workers in a given company, industry or location are in unions) affects wages and benefits.

TWO-TIER WAGE AND BENEFIT SYSTEMS

A basic principal of unionism is "equal pay for equal work." This means that people doing the same or comparable job should receive the same hourly or salaried pay. There are some exceptions to this general rule, because often times some benefits and some portion of wages are tied into seniority. For example, vacation time off generally increases as a worker gains more seniority. Pensions increase as a worker gains more seniority. Some workplaces have pay bonuses based upon an employee's length of service, usually called longevity pay. The other way seniority ties into wages is in the "wage progression schedule." This means that a worker is hired in at one rate of pay and over a period of time they get regular pay raises until they reach the top of the rate. Among public sector workers there is often a longer time period until the top rate is reached, it may take 3 to 4 or 5 years. Among manufacturing workers, the time it takes to get to the top rate is usually geared to the time it takes to learn and become proficient in the job.

The slogan, "equal pay for equal work" was coined to deal with employer favoritism- attempts to keep workers fighting each other ("how come he gets more money than me") and to combat outright discrimination. Employers for many years openly had different-lower rates of pay for women workers and lower rates of pay for African-American and other minority workers. This massive employer discrimination shows up in the national lower average rates of pay for women and minority workers.

What about other
companies that pay
lower rates?

This is a problem that all workers face. Employers are always looking for someone who gets lower wages to compare with unionized workers. Sometimes they use the "area average" excuse. "You are pricing yourself out of the local market, in this area the average wage is five dollars an hour less than I'm paying you." It doesn't matter that the product being made is not sold locally but internationally.

The harder problem to deal with is the one Larry Parrish and the workers at Amalgamated Putz face. That's when workers in the same corporation but at a different location doing the same work are being paid lower wages. A similar situation is when the "competitors" are paying lower wages.

ORGANIZING THE UNORGANIZED

This is the only way to deal with the problem of non-union shops that are working for less. Each workplace, working with the UE Research Department can put together a list of workplaces that need to be targeted. If the targeted workplaces are in a UE area a plan can be made with the UE Organizers in the area to start trying to organize the low-wage workplace. What is key to this effort is the help given by UE members in providing information, leaflets that describe what wages and working conditions are like in the unionized workplace and actual volunteers to go help on organizing drives.

WORKING WITH OTHER UNIONIZED WORKPLACES

Every UE local should also have a list of workplaces owned by the same company or "competitor" workplaces that are already unionized. The UE Research Department can provide a fairly accurate list of which places already have unions along with contacts. What should be done next:

• Contact all the unionized workplaces and introduce your Local to them.
• Exchange contracts.
• Along with exchanging contracts, there is other valuable information that needs to be exchanged. What kind of machinery is used? How old is it? What are the productivity rates? How do the bosses act? You can think of many more questions that won't be answered by just exchanging contracts.
• Suggest a meeting of all the unionized workplaces. Make sure that rank & file members will be attending, not just Union staff.
• Be patient. Not all unions work like UE. Some local leaders may feel they have to ask for permission from their International Union to exchange a contract or attend a meeting.

WHAT IS WRONG WITH TWO-TIER WAGE AND BENEFIT SYSTEMS?

• They are basically unfair, since they violate the concept of "equal pay for equal work."
• They cause employee discontent. In every workplace that has instituted two-tier systems there is worker dissatisfication because the lower paid worker feels cheated that he/she is doing the same work as their co-workers but receiving less.
• In many cases even though it was the employer that demanded the two-tier system, it is the union that gets blamed for agreeing to it. Even if they agreed to it because of threats to move the work if they didn't. It is easier for some workers to blame their co-workers than to blame a boss.
• Employee turnover increases because of employee dissatisfaction. This negates the savings an employer gets from the two-tier system, because of constant training and lower productivity.
• Employers only gain a big savings in costs if there is a big turnover in employees, thus exchanging higher paid workers with new employees that earn less. But turnover really doesn't help them. This leads many employers to demand wage cuts for all employees.
• In the long run, as higher paid employees retire or quit, the wage rates will continue to get lower, thus erasing years of hard work by union members to improve their wages and working conditions.

WHAT CAN BE DONE ABOUT TWO-TIER SYSTEMS?

Two-tier systems should be fought against because of all the reasons listed above. They are bad for the union and usually bad for the company. Union stewards need to educate members around these facts. Even though current employees may not immediately be affected, they will be in the future.

Because of the tough re-cessionary economy we are in, many unions are leery of striking. Threats of layoffs or moving the work sometimes force unions into the hard position of having to negotiate around two-tier systems. If this is the case, here are some tips:

• Resist a permanent two-tier system. Maintain the same top rate for all employees.
• If necessary negotiate lower starting rates.
• If necessary negotiate longer progression schedules to the top rate.
• Do not give the company the right to move some people quicker along the progression schedule. This gives them an out if they are in danger of losing a new employee who they want to keep, but who is mad about the longer progression schedule. If the new system the employer wants isn't working, make them fix it for everybody.

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