Relative Pay Comparisons in the Workplace: Field Evidence on Effort and Labor Supply

Project Outcomes Statement

The primary goal of this project is to test our core hypothesis -- that relative pay affects worker behavior at economically meaningful magnitudes. We use a month-long field experiment with manufacturing workers to test whether relative pay comparisons affect effort and labor supply. Further, we use our experimental variation to explore when and why such effects may arise.

We find that for a given absolute pay level, output declines by approximately 22% on average when a worker is paid less than both his co-workers. This is accompanied by a 12 percentage point decrease in attendance. We estimate that employees give up approximately 9% of their earnings to avoid a workplace where they are paid less than their peers. These negative effects persist over the duration of the employment period, with some evidence that they become stronger in later weeks. In contrast, we find little evidence that performance improves if a worker is paid more than both his peers: average effects on output are statistically indistinguishable from zero, and attendance actually declines. In addition, we similarly cannot reject that there is no impact on the output or attendance of workers who receive the median wage on their team.

Perceived justifications play an important role in mitigating the negative treatment effect of low relative pay. When teammates' baseline productivity levels are farther apart -- so that differences in productivity swamp differences in wages -- we find no evidence for negative effects of being paid less than one's peers. Additionally, in production tasks where workers can easily see that their higher paid peers are more productive than themselves, there is no negative effect of being paid less than one's peers. In contrast, perceived justifications have no differential effect on workers who are not aggrieved -- for example, those who receive the median wage on their team. These findings suggest that in our particular setting, the reference point violation does not come from simply comparing a worker's own ratio of pay/productivity relative to that of referent others (Adams 1963). Rather, workers appear to compare differences in pay in levels. When lower relative pay levels trigger a potential fairness violation, this is mitigated if lower pay is clearly justified by relative productivity.

Our findings provide empirical support for reference dependence in co-worker pay, a notion that has long been advanced not only in the field of economics, but also in the fields of psychology, sociology and human resource management. These findings are important in helping us understand several features of the labor market. Our findings also indicate that transparency about the firm's rationale for pay is important for fairness perceptions and output. The results suggest that optimal pay for a given worker will potentially be a function of co-worker pay. Our results may thus have bearing on explaining the conditions under which differential pay will arise -- for example, when it is easy to observe and quantify co-workers' relative productivity.