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Part One: Introduction to Employee Benefits

Chapter Two: The Psychology and Economics of Employee Benefits

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Learning Objectives

In this chapter you will gain an understanding of:

the employment relationship as an exchange relationship and the psychology behind why firms provide employee benefits.

employee benefits as part of the psychological contract and how some employee expectations about benefits might be formed.

how employee perceptions of justice or fairness are important to understanding how pay and benefits practices influence employee attitudes.

the economic rationales for why companies offer employee benefits.

who pays for employee benefits.

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Overview

We first learn about the psychological basis of employee benefits.

Employers can understand how employee benefits influence employee attitudes and performance.

It is also important to understand the economic basis of employee benefits.

Even though benefits are expensive, most employers continue to offer them.

And finally, who pays for benefits?

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The Psychology of Employee Benefits

Organized into three sections.

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The employment relationship as social exchange

Psychological contracts

The relationship between a benefits program and employee attitudes

Employment Relationship as Social Exchange

The employment relationship consists of HR practices offered to a group of employees

and the resulting employee contributions.

Social exchange is an activity exchange, tangible or intangible, between two or more.

At work, the employer offers inducements (wages, benefits)

in return for employee contributions (performance, commitment).

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How Employee Benefits Constitute Social Exchange

The employment relationship constitutes both economic exchange and social exchange.

Economic exchange is wages and salary specified at the time of employment.

Social exchange evolves over time.

If employers provide benefits meeting employee’s evolving needs,

they reciprocate with increased work effort and commitment.

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Workforce Changes and the Employment Relationship

Jobs are no longer traditional as in

job security,

strong loyalty to the organization, or

the patriarchal role of the organization.

Work and careers are more flexible.

The workforce is becoming increasingly diverse.

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Psychological Contracts

Employee benefits can be a part of the psychological contract.

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A psychological contract

is an employee’s subjective perceptions of the relationship of mutual obligations with the employer

EXHIBIT 2.2

Transactional – Relational Continuum of Employee Expectations

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Psychological Contracts

Employee benefits practices could fulfill both transactional and relational expectations.

Legally required benefits fulfill transactional expectations.

Benefits such as paid time off might fulfill relational expectations.

Some benefits might fulfill both, such as retirement plans or educational assistance.

Psychological contracts change over time.

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Psychological Contract Development

Most psychological contracts start in the pre-employment phase.

Employee expectations form in two ways:

interactions with other members of the company,

and their perceptions of the company’s culture.

Psychological contracts undergo constant change, allowing employees to adapt.

Stable expectations resist changes while flexible expectations more easily accept changes.

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Psychological Contract Violation

A violation occurs when an employee perceives a discrepancy between employer promises and fulfillment of those promises.

Differs from unmet expectations.

Two basic causes for contract violations:

Reneging – when a company deliberately breaks a promise, willingly or due to circumstances.

Incongruence – when the employee and employer have different conceptualizations of the employment relationship.

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Employee Benefits as Constituting Psychological Contracts

Avoid contract violations by using clear communication and education about benefits.

Employer’s have expectations too.

If employee performance is not what is expected, the company may withhold benefits.

Benefits have become a growing source of psychological contract violations.

Expectations about cost, needs, and benefits design affect employee satisfaction.

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Employee Attitudes and Employee Benefits

Violations of contracts will lead to perceptions of injustice.

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Congruence between employees’ and the employer’s expectations will lead to a greater fit between the employee and the employer as well as a sense of fairness.

Justice and Perceived Organizational Support

In a work setting, the distribution of:

rewards (such as pay and benefits),

information, and

other resources,

will all lead to perceptions of justice.

Perceptions may be based on:

the rules by which distributions are made,

the way rules are implemented,

or the way decisions are made.

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Justice and Perceived Organizational Support

There are four types of justice perceptions.

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Distributive justice

is the perceived fairness about how rewards are distributed

Procedural justice

is the perceived fairness of processes

Informational justice

is the perceived fairness of the accounts given for certain procedures

Interpersonal justice

is perceived fairness of the interpersonal treatment people receive from others

Where employee benefits are concerned:

Justice and Perceived Organizational Support

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Distributive justice

employees form perceptions of fairness based on the benefits they are eligible for

Procedural justice

perceptions of the fairness of decisions and the extent of employee involvement

Informational justice

perceptions about the quality of information used to explain decision making

Interpersonal justice

perception of the degree to which the employer demonstrates concern

Justice and Perceived Organizational Support

Perceived organizational support is an employee’s perception of the degree to which the employer values the employee’s contributions and well-being.

Certain benefits signal organizational support.

Wellness programs or recognition and rewards.

Discretionary benefits generate perceptions of organizational support more than legally required benefits.

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Organizational Citizenship Behavior

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Employees’ discretionary behavior, not explicitly or directly recognized by the formal reward system, but in aggregate promoting organizational effectiveness, is termed as organizational citizenship behavior.

Organizational Citizenship Behavior

Satisfied employees engage in good citizenship behavior.

Employee benefits practices influence satisfaction.

Discretionary and not enforceable.

Distributive and procedural justice affect citizenship behavior.

Based in social exchange.

Employee benefits are also part of social exchange.

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The Economics of Employee Benefits: Why Do Employers Offer Benefits?

Three primary reasons:

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A cost advantage to the employer

Recruitment of certain types of workers

Tax incentives

Cost Advantage

Some benefits are cheaper for the employer to purchase for a group rather than individuals.

Group rates decrease as group size increases.

Insurance becomes less risky to provide.

Reduced fear of high-risk policyholders driving out the low-risk ones.

Fixed administrative cost per employee is reduced.

Referred to as economies of scale.

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Cost Advantage

The insurance company can more easily predict total expenses for a larger group.

Medical expenses will likely be close to predictions for age, gender, and medical history.

Those with more expenses will offset those with less expenses.

Due to less risk, they get lower costs for coverage.

Individuals and small groups may undergo medical underwriting, and provide a medical history.

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Cost Advantage

The larger the group, the less likelihood of adverse selection.

A condition where the insurance pool attracts only high-risk individuals.

One solution is experience rating where healthier people get insurance at lower costs.

Reason behind government-provided insurance.

Due to economies of scale, as the group gets larger the average cost per person is reduced.

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Recruiting Certain Types of Workers

Recent undergrads might be attracted to a tuition reimbursement benefit.

Women 20-40 might want health insurance.

Older workers may want a retirement plan.

Tailoring packages may have unintended consequences.

A strong mental health program may attract those with mental health issues.

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Tax Incentives

The Internal Revenue Code provides financial incentives to offer benefits.

Many benefits are not taxed as income to employees.

Retirement plans are driven by generous tax treatments.

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The Economics of Employee Benefits: Why Do Employers Offer Benefits?

Consequences to presupposing that employees value a benefit and are willing to give up something to receive it.

Employers need to define the cash value employees place on a benefit.

And which types they value more.

If employees willingly give up something to receive a benefit, then the cash component and the benefits are inexorably linked.

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Who Pays For Benefits?

One of the biggest misconceptions is that benefits are “free add-ons.”

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Employees pay for all benefits in the form of lower cash wages

When the cost of benefits increase, employees pay the increase; employers’ profits are generally not affected

Who Pays For Benefits?

When benefit costs increase, the degree that cost is passed on to employees depend on:

The cash value that employees place on the benefit.

The degree to which employers will change their hiring practices and the degree to which employees will change their desire to work.

Whether the benefit cost increases for all employers in the market, or for a specific employer.

Whether the hiring decisions of a particular employer affect the market compensation level.

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Who Pays For Benefits?

Most employees are required to contribute toward their health insurance costs.

There are advantages to this.

This allows employers to charge different prices according to family sizes, or plan type.

Employers can more easily raise these contributions when benefit costs increase.

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Summary

We first learned about the psychological basis of employee benefits.

Employers must understand how employee benefits influence employee attitudes and performance.

We now understand the economic basis of employee benefits.

Even though benefits are expensive, most employers continue to offer them.

And finally, we answered who pays for benefits?

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