Rising inflation can prompt workforce demands for higher salaries to offset rising living expenses. In the past two years, inflation has drastically increased in many countries, although moderating to 9.4% in Organisation for Economic Co-operation and Development countries in December.
In this inflationary environment, pay raises are following. In the US, where inflation is paired with a strong labour market, for the second consecutive year more than half of organisations expect to increase base salaries by more than 3% in 2023, a large compensation survey suggests.
A similar survey in the UK suggests that more than half of organisations expect to raise salaries by at least 5% in 2023, but a workforce survey found that UK employees say a 9% raise would be fair considering soaring living costs. Higher-level wage increases are also projected in countries including Brazil, China, India, Malaysia, Saudi Arabia, and Vietnam, according to a global salary trends report.
These rising salaries are adding to cost management and inflation mitigation pressures finance must handle.
AICPA & CIMA this year released a report on the Cost of Business — Inflation’s Impacts and the Role of Finance, which garnered the views of finance professionals in the UK, US, Europe, and Africa on their approaches to employee compensation in an inflationary environment.
Participants in AICPA & CIMA’s focus groups on the topic talked about, for example, energy bills increasing by as much as four times, spending 30% to 40% of their time on inflation mitigation and scenario planning, and watching wages for skilled roles rise faster than inflation.
Finance professionals are the custodians of their business’s financial performance. Their job is to ensure that the business’s strategic goals are met and that the business can take advantage of opportunities, is resilient to weather shocks, and remains financially viable.
Human resources may take the lead in the approach to employee pay and in communicating with the workforce. However, it is finance that advises HR and leadership what is possible when it comes to pay increases, rewards, and overall salary and people headcount costs.
Management services company ADP describes the relationship between HR and finance: “Finance helps allocate resources to support an organisation’s goals, maintaining a balance between costs and revenue. HR hires, recruits, and motivates people to advance those same goals. This part of HR is often an organisation’s biggest expense. While they are two different operations, it’s important to have collaboration between HR and finance within an organisation. Without that, it will be difficult for those respective entities to fully support organisational objectives.”
Approaches to manage inflation-based pay increases
In the UK, the Consumer Prices Index — one measure of inflation — rose by more than 10% in 2022. Inflation in the UK peaked at 11.1% in October. By January 2023, it had inched down to 10.1%, around twice as high as the salary increases the majority of UK businesses were projecting to give this year.
When the level of inflation outpaces salary increases, the finance function needs to ensure that any pay increases awarded are affordable for the business, not only in the current year but year on year, too.
Finance should use tools such as forecasting and scenario planning to anticipate the impact that different levels of pay increases will have on the business — to find the appropriate range of wage increases that is financially viable and retains talent for business growth.
To manage inflation-based pay increases, companies can follow different models. Finance professionals should have some knowledge of these approaches and how they apply.
Offer one-off payments
One approach discussed by the focus groups is offering one-off payments. These payments are not meant to be substantial, but they help absorb some of the rising costs of inflation. They are a one-time, costly hit, as one CFO said, but unlike base salary increases, one-off payments don’t have to be accounted for each subsequent year.
A one-off cost-of-living payment can increase the income of low-wage employees enough to make them ineligible for government benefits, as the Chartered Institute of Personnel and Development in the UK pointed out. To avoid this, some companies, such as PwC, have reported spreading these payments out over several months.
One in about 20 large businesses in the UK offered their employees cost-of-living payments last year, including the Rolls-Royce engineering group and financial services companies Lloyds and HSBC. Outside of the UK, French automaker Renault and Italian private bank Intesa Sanpaolo also did so, according to Reuters.
Before embarking on this approach, business leadership, finance, and HR should think about what this means for a company’s finances now and in the future and whether the approach can help reduce costs over the medium-to-longer term.
Consider differentiated pay awards
Differentiating pay awards is an approach that treats lower- and higher-paid employees differently.
A finance leader in one of the focus groups said his organisation awarded lower-paid staff a bigger pay increase than those on higher pay. Other focus group participants said they kept pay increases for higher- and lower-paid staff the same but gave lower-paid staff higher one-off payments.
Businesses including Rolls-Royce, public services provider Serco, financial services providers TSB and Virgin Money, and telecommunications company Virgin Media O2 have offered one-time differentiated pay awards, it has been reported.
Others followed this approach with salary increases. Lloyds Bank, for example, offered its lowest-paid staff an 8% to 13% pay increase last year compared with around 5% that other employees received. Telecommunications giant BT offered pay increases between 6% and 16%, depending on different worker grades.
Determine flexibility of benefits
Some finance professionals in our focus groups discussed looking at their organisations’ benefits packages to see how flexible they were to ease the pressure of rising living costs. As a result, some organisations began to allow employees to make benefit selections more than once a year.
Also, focus group members reported they were looking to offer more benefits. This is the approach taken by, for example, insurance and investment company Aviva, which offered employees free parking, and supermarket chain Sainsbury’s, which offered in-store workers free food during lunch breaks.
About a fifth of companies in the UK are giving staff extra benefits to help with cost-of-living increases, according to a poll the Chartered Management Institute conducted for the Financial Times in autumn 2022.
In the US, where several industries experienced labour shortages in 2022, large employers expanded benefits to keep workers from leaving for higher-paid jobs elsewhere. For example, Amazon broadened its mentoring programme, hotel chains Hilton and Marriott offered their employees on-demand access to earned wages, and retailer JCPenney expanded childcare benefits.
One focus group participant introduced an innovative approach where employees earn more pay the more they undertake skills retraining and upskilling. This helps the company avoid labour shortages because upskilled employees can fill diverse roles, and it helps multiskilled employees earn higher salaries.
Be innovative and deliberate
Other approaches businesses and their finance teams can consider include:
Performance and pay. Ensure you have a pay structure that rewards top performance.
Loans. Offer loans to employees who are in need, to manage increased living costs.
Financial advice. Start or enhance financial advice sessions or services for employees.
Hiring in different geographies. Consider hiring remote workers in different geographies to help reduce costs.
These are just some of the approaches to manage inflation-based pay increases that finance professionals said their businesses are taking. Many are using a mix of these strategies. Finance will not be the sole decision-maker on these approaches, but having an awareness and understanding of the tactics, in addition to assessing their financial and business implications, can help steer businesses through the demands for higher pay linked to high inflation.