Is there a “market rate” for a job?

“What’s the market rate for this job?”

This seems like a simple question but the answer is never straightforward. The best way to reply is to review market data from a range of different sources and make a judgement as to what other employers are paying for comparable jobs. Often it’s impossible to say what the correct “market rate” is because the job for which the pay decision has to be made has no functioning market. Although the idea of a “market rate” for a job has always been a central part of reward management there are real problems in applying it to the complex and flexible jobs of the 21st century.

One of these problems is that there may be no comparable jobs in the market. This can happen if no other organisations are employing people to do the same job, or if there are no comparably jobs in the same sector or location.

Even when valid comparators can be found great care should be taken in using the calculated "market rate" for the job to make pay decisions. This is because market comparisons cannot take account of intrinsic rewards, such as the differences in culture and working environment that employers may provide for the same job. Nor do they capture individual performance and the fact that some employees contribute more in the same job than others. Using a “market rate” for a job is like trying to use a “market rate” for car without considering the brand or the size of the engine.

The equity of pay within the organisation also needs to be considered when using market data. Paying more for some specialist skills than others to resolve recruitment problems is divisive and can add unnecessary cost in the longer term. For example, the supply of labour for IT specialists has always struggled to keep up with demand, but higher pay for IT specialists can result in excessive costs. As each new IT-literate generation of younger people moves into the employment market the supply problem is resolved and the older generation of IT specialists becomes too expensive.

There are some jobs for which the “market rate” is useful. If employees can leave and do a similar job elsewhere it is important to know what competitors are paying. This happens when a number of employers in the same location are competing with each other for the same employees to create a functioning local market for simpler jobs. For more complex jobs, where it takes years to develop the necessary knowledge and skills, and where results depend on the capabilities of individuals, the “market rate” is less useful, and can lead to the wrong pay decisions being made.

The concept of a “market rate” for a job is popular because it's the easiest way to make decisions. Business people like the idea of using the “invisible hand” of the market to help them make decisions and market data provides numbers on which pay decisions can be based. For executives pay is a measure of status, and Remuneration Committees use market pay data to made sure remuneration matches the companies with which they want to compare themselves. This leads to ludicrously high levels of executive pay because nobody wants the inferior status of paying below the market.

The use of a “market rate” for a job hides the true complexity of pay decisions and gives the appearance of objectivity. It is easy to say to employees “we have looked at the market data and we are paying the market rate”. But employees are less likely to accept this explanation now that we are moving into an age of pay transparency. Information on what other people are being paid is increasing available on the internet making it is easy for employees to find numbers to support whatever they want to believe.

Employers who truly want to be open and transparent about pay should move away from using “market rate” as the basis for pay decisions and give more attention to making sure that their pay systems are internally coherent and fair.