Reference no: EM133206921

Case Study: Do you think that companies should disclose workers' salaries?

It's a sticky but common dilemma for managers: A valued employee finds out that a coworker earns more, gets upset, and demands a raise. If gender or race figure into the wage gap, tensions can escalate fast. Companies, including Whole Foods, Starbucks, and the social media tool Buffer, have been touting their pay transparency policies as a means of ensuring fairness. But, as it turns out, pay transparency doesn't necessarily increase workers' wages, writes Harvard Business School professor Zoe Cullen in a new working paper. More than 20 US states and 10 European Union countries have enacted laws that seek to give workers more bargaining power by requiring companies to disclose employee salaries. However, opening up the books for all to see has put 2 to 3 percent less cash in workers' pockets, at least in the US private sector, Cullen found. Rather than empower workers, these laws encourage companies to set lower salaries, hold firm on initial offers, and prevent expensive renegotiations. By publicly setting pay parameters at the outset, employees "know when you get a job offer, it's not a negotiable topic," says Cullen. Cullen and co-author Bobak Pakzad-Hurson, a professor at Brown University, detail their findings in the working paper Equilibrium Effects of Pay Transparency

When employees talk about their pay

A labor economist, Cullen noticed while conducting research in 2014 that workers with comparable jobs in the same locations earned similar amounts. In contrast, the pay for the same roles in different locations tended to vary. Cullen theorized that proximity helped workers talk to one another about their wages, creating opportunities to re-negotiate based on what they learned. "It's been a seven-year journey to understand the full ramifications of pay transparency," says Cullen, an assistant professor in the Entrepreneurial Management Unit at HBS.

Meanwhile, the legal landscape has shifted in recent years toward transparency. Laws and policies that protect workers' ability to discuss their compensation with colleagues without fear of repercussions have gained popularity since 2004. In 2016, the US passed two federal initiatives, bringing the country on par with many European nations that protect such rights.

In states that enacted such regulations between 2010 and 2017, the number of companies with salary non-disclosure policies fell by nearly half. Anecdotally, employees also started sharing salaries through Google spreadsheets, according to Cullen's research.

How transparency leads to lower pay

Cullen and Pakzad-Hurson studied how the labor market adjusts depending on pay transparency by analyzing shifts in wages during the years after these transparency laws took effect.

The researchers gathered data from the American Community Survey, which collected information on wages and employment among more than 4 million people living in states with new transparency laws between 2000 and 2016. They found that a year after these laws were passed, wages dropped by 2.2 percent, and, three years following the change, they declined by 2.6 percent.

"IF ALL ELSE IS EQUAL, YOU ARE BETTER OFF FINDING OUT AS MUCH INFORMATION AS POSSIBLE AND ASKING FOR A RAISE."

The reason the laws pushed wages lower? The researchers note that managers who disclose salaries can credibly say to employees seeking a raise: "If I give you a higher salary, I will have to give everyone else a raise, too, and I just can't afford that." This allows employers to set overall salaries lower and hold firm on initial offers when employees are hired-which tends to give companies an advantage in salary negotiations.

Interestingly, union workers' wages remained higher. When Cullen broke out firms whose employees aren't typically union members, she found their salaries dropped by 3.2 percent three years after the transparency laws went into effect, while companies with more union workers experienced a 1.5 percent drop in wages over the same period-even though in both cases employment numbers remained unchanged. At firms with unions, the company negotiates with union representatives first to create a fixed wage scale, which leaves workers with less individual bargaining power, the paper finds.

Takeaways for executives and employees

The Wall Street Journal reported in June that Johnson & Johnson, McKesson, and CBRE stated in job postings for remote workers that they wouldn't consider for employment residents of Colorado, where a new law requires companies to disclose salary ranges. But Cullen's research suggests these companies don't need to fear transparency. Real, mandated disclosure-coming from laws that protect workers and bind companies to the rules-benefits corporations that hold up their end of the bargain. Employees should be wary of managers who take an informal approach to salary disclosure and promise to let employees know when others get raises, Cullen says. "If there's no mandatory disclosure, and the firm says, 'I promise to keep you informed,' employees are unlikely to buy that," she says. Instead, it's critical for individual employees to do their due diligence and advocate for higher pay. "If all else is equal, you are better off finding out as much information as possible and asking for a raise," she says.

"EQUITY IS SOMETHING THAT HAPPENS WHEN EVERYTHING IS OUT IN THE OPEN."

Employees should keep in mind that salaries are not handled in the same way at all companies or for all workers. For instance, the rules of transparency don't necessarily hold true for "large superstar firms that are willing to pay higher wages than anyone else," says Cullen. They also don't apply to employees who bring exceptional talent to the table. "The superstar worker, without an equivalent or comparison group, is not going to have their bargaining position reduced," she says. But, what about the original intent of pay transparency, making workplaces fairer and increasing workers' bargaining power? Cullen notes that through transparency, pay equity is being achieved at the cost of high salaries for some-but perhaps it's worth that tradeoff. "Equity is something that happens when everything is out in the open," Cullen says. "The firm is more equal, but the overall wage bill is lower."