A friend of mine recently received a 3.5% raise. His boss told him that the raise was "merit pay" and that it was in recognition for his stellar performance. My friend said the boss made it clear that he should be grateful for the size of the raise (others received an average of 1.5%), and that the company expected him to continue improving his performance. But is it reasonable for the boss to think that 3.5% would really motivate him? How big does a pay raise need to be to work as an effective motivator?
A series of studies by a research team led by University of Northern Iowa management professor, Atul Mitra, has looked at this question. The researchers investigated pay raises using the psychological construct of "just noticeable differences," the idea that a change in a stimulus (such as the sound of a tone or the brightness of a light) has to reach a certain threshold in order to be noticed and seen as "making a difference." The results suggest that a merit raise needs to be about 7 to 8 percent in order for workers to feel pleased about the raise and motivated to work a little harder. According to this research, my friend's raise was well below the threshold. Unsurprisingly, it led him to feel somewhat indifferent about the raise. He did mention that the boss's mere recognition of his accomplishments made him feel "pretty good," but not very motivated to try harder. ("Another year of busting my butt for so little money.")
The researchers then turned their idea around and looked at how big a pay cut needed to be in order to have an adverse effect on employee morale and reduce motivation. It turns out that the threshold for a pay cut is much smaller: about 5 percent. Pay cuts lead to emotional reactions such as fear for one's security, anxiety, and anger. At 5 percent, these negative emotions were triggered, and employees were likely to say that they would work less hard.
It is important to note that factors other than pay, such as non-monetary rewards, recognition, and self-motivation also affect employee motivation and morale. The results of these studies, however, suggest some guidelines for employers:
• Understand that simply giving a raise will likely have little impact on motivation unless it is substantial (7% or higher).
• Couple the raise, regardless of its size, with recognition and the "social reinforcement" of praising the employee for a job well done.
• Be transparent. Let employees know exactly why economic circumstances won't allow larger pay raises.
Regarding pay cuts:
• Consider the 5% threshold. Beyond this, motivation and morale may decline significantly.
• Accentuate the trade-offs. If pay cuts are needed to prevent layoffs, make that clear. Again, be transparent.
The state of California implemented furlough days for state employees that amounted to a pay cut in excess of 14%, but some employees have enjoyed the "forced holidays," and this may have lessened the negative impact a bit. Again, however, it is important to be straight with employees and fully explain both pay cuts and raises.