Inflation’s effect on salaries: What does time tell us?

Contrary to popular belief, numbers can both lie or tell certain truths. It all depends on the question asked. For example, looking at long-term trends for key economic data over the past 20 years, the world appears to be in a period of relative serenity. The global economy is growing more slowly than it did 20 years ago (but growing all the same), with the heady 3.2% GDP growth rate of 1996 of replaced by a more restrained but respectable 2.2% in 2016.

Meanwhile, the annual global growth rate in consumer prices (CPI) has cooled from nearly 9.0% in 1996 (already far lower than the nearly 29.0% global rate of just two years prior) to 3.90% in 2016. Likewise, population growth has decelerated from a rate of 1.4% per annum to 1.0% over the same period. Everything appears calm and controlled.

Of course, calling today’s world “serene” and “controlled” would be laughable. One only needs to watch the news or follow social media for a few minutes to know the world is hardly standing still and of late, it seems more unpredictable and fraught with perils than it has been in a generation. Markets and societies are scattered across a field of seemingly endless crossroads which global corporations will have to navigate in search of growth, innovation and profitability through spotting opportunities and leveraging talent pools to deliver where, when and how they need them to. If there was ever a time when human capital can make all the difference, this is surely it.

Nearly a quarter of the 60 countries covered in the report were in or near negative CPI territory in 2016

Of course, talent is only as good as it is motivated and engaged (or at the very least, retained). While top talent will always have a complex matrix of reward and career expectations, which employers need to be mindful of, unpredictable times shake the pail and make basic, short-term concerns rise to the top, even if the traditional numbers look at tell them otherwise.

CPI movements — a traditional guide used by companies to determine their salary increase budgets — are a good example. Based on recent findings from our Global 50 Remuneration Planning Report, nearly a quarter of the 60 countries covered in the report were in or near negative CPI territory in 2016, with Romania showing the highest deflation rates. This isn’t new for certain markets, most notably in places like Japan, where aggregate inflation for the past two decades has been virtually flat, but it is in the Eurozone, where inflation has been well below the European Central Bank’s target of 2.0% for several years.

Protracted low inflation can impact reward and employees in various ways. As a traditional measure for setting salary increase budgets, it applies downward pressure on wage growth, which may conflict with other influences such as performance, market alignment and — to be sure — employee expectations.

It’s also part of a wider growth issue and the ability of states to afford social security systems where the gap between cost and income have continued to grow, which has resulted in numerous — and sometimes unpopular — reforms. Such changes can result in new mandatory obligations for employers to fill the gaps or employee expectations that companies will do so voluntarily.

Contrast this with other countries expecting double digit inflation in 2017, especially Venezuela, where the Economist Intelligence Unit projects 2017 inflation to exceed 600%, while other estimates suggest the annual rate could be far north of that. Such exceptions show that the overall trend doesn’t always tell the full story and the expectations-to-the-rule (any rule) are increasingly prevalent. This is especially true when the geopolitical landscape has opened a whole new world of uncertainty.

So, what does this mean for salaries?

Some markets have demonstrated a clear decoupling of inflation and typical salary increase budgets

Our research shows global median salary increases budgeted at 4.8% in 2016, but the median real salary increase (the percentage salary increase above inflation) was 2.3%. However, on a country-by-country basis, results varied wildly. In various markets in Asia Pacific and Western Europe, for example, salary increase budgets only lost a fraction of their value to cost-of-living pressures due to low CPI, while other markets battling high inflation  found typical increase levels to be under water, even though in gross terms they look very high globally-speaking. In a world of fast and unpredictable change, CPI movements are swifter than typical company reactions. In addition – over time – some markets have demonstrated a clear decoupling of inflation and typical salary increase budgets.

Inflation’s effects on cash reward

Cash remains high on employees and employers minds, and research from our Global Workforce Study shows it’s a top factor when it comes to employees selecting roles and moving. Employers should definitely keep this in mind when considering multifaceted approaches to retaining key staff and the manner in which they differentiate reward among their workforce.

However, given that gross budgets don’t typically react so directly or quickly to year-on-year inflationary pressures (except in acute situations), employers are likely going to more selective in how they use their budgets, and may opt to grant more to top performers and leave a minority of the budget to reward the rest of their staff. However, there’s also the flip-side to consider: if the minority of headcount gets the lion’s share of the increase budget, discontent and retention issues may arise within the broader workforce.

What else to expect?

Rewards professionals won’t be able to control what’s affecting budgets or the raises given to employees, and will need to plan locally rather than mandate globally, particularly in markets weathering strong economic challenges or being impacted by other significant phenomenon. In an increasingly diverse world, how does one compare? The answer is that the best comparison may or may not be a market’s neighbours. One needs to scratch the surface, identify the moving parts and issues and look wider.

Factors outside of corporate control should be monitored, and potentially reacted to, when something can be done. When factors can be controlled, differentiation of cash will continue to be a way to retain and attract the best staff, especially when it comes to beating inflation.

For a more detailed analysis, including data associated with these conclusions, see this article.


 

Darryl Davis is a senior consultant with Willis Towers Watson’s Global Research Unit.

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