chapter 16

EXPATRIATE PAY

Multinationals operate, by definition, in many nations. Employees temporarily working and living in a foreign country are called expatriates (or "expats"). One key decision for companies is the degree of reliance on expatriates relative to local employees.95 - Expatriates who are citizens of the employer's parent or home country and living and working in another country (e.g., a Japanese citizen working for Toshiba in Toronto) are called parent-country nationals (PCNs). - Expatriates who are citizens of neither the employer's parent country nor the foreign country where they are living and working (e.g., a German citizen working for Toshiba in Toronto) are called third-country nationals (TCNs). - Local country nationals (LCNs) are citizens of a foreign country where the parent employer operates (e.g., a Canadian citizen working for Toshiba in Toronto). Hiring LCNs has advantages. LCNs know local conditions and have relationships with local customers, suppliers, and government regulators. The company saves relocation expenses and the other often substantial expenses associated with the use of expatriates. It also avoids concerns about employees adapting to the local culture. Employment of LCNs satisfies nationalistic demands for hiring locals. Only rarely do organizations decide that hiring LCNs is inappropriate. However, expats or TCNs may be brought in for a number of reasons.96 The foreign assignment may represent an opportunity for selected employees to develop an international perspective; the position may be sufficiently confidential that information is entrusted only to a proven domestic veteran; or the particular skills required for a position may not be readily available in the local labor pool. Exhibit 16.18 catalogs a number of reasons for asking employees to take work assignments in another country. Designing expatriate pay is a challenge. A company that sends a U.S. employee (base salary of $80,000) with a spouse and two children to London for three years can expect to spend $800,000 to $1,000,000. Obviously, the high cost of expatriate assignments must be offset by the value of the employee's contributions. Elements of Expatriate Compensation - "(W)e are becalmed. There has been little real innovation in the expatriate compensation field in years," according to a leading consultant.97 We would add, "So much money, going to so many people, with so little evidence of added value." Exhibit 16.19 is a shopping list of items that can make up expatriate compensation. The list includes everything from household furnishing allowances to language and culture training, spousal employment assistance, and rest and relaxation leaves for longer-term assignments. Usually such lists are organized into four major components: salary, taxes, housing, and allowances and premiums.98 - Salary= The base salary plus incentives (merit, eligibility for profit sharing, bonus plans, etc.) for expatriate jobs is usually determined via job evaluation or some system of "job leveling."99 3M applies a global job evaluation plan for its international assignments. Common factors describe different 3M jobs around the world. With this system, the work of a general manager in Brussels can be compared to the work of a manager in Austin, Texas, or in Singapore. General Mills has recently implemented a similar system.100 Beyond salaries and incentives, the intent of the other components is to help keep expatriate employees financially whole and minimize the disruptions of the move. This means maintaining a standard of living about equal to their peers in their home or base country. This is a broad standard that often results in very costly packages. - Taxes= Income earned in foreign countries has two potential sources of income tax liability.101 With few exceptions (Saudi Arabia is one), foreign tax liabilities are incurred on income earned in foreign countries. For example, money earned in Japan is subject to Japanese income tax, whether earned by a Japanese or a Korean citizen. The other potential liability is the tax owed in the employee's home country. The United States has the dubious distinction of being the only developed country that taxes its citizens for income earned in another country, even though that income is taxed by the country in which it was earned. Most employers pay whatever income taxes are due to the host country and/or the home country via tax equalization.102 Taxes are deducted from employees' earnings up to the same amount of taxes they would pay had they remained in their home country. This allowance can be substantial. For example, the marginal tax rates in Belgium, the Netherlands, and Sweden can run between 70 and 90 percent. So if a Swedish expatriate is sent to a lower-tax country, say, Great Britain, the company keeps the difference. If a British expatriate goes to Sweden, the company makes up the difference in taxes. The logic here is that if the employee kept the windfall from being assigned to a low-tax country, then getting this person to accept assignments elsewhere would become difficult. - Housing= Appropriate housing has a major impact on an expatriate's success. Most international companies pay housing allowances or provide company-owned housing. Expatriate colonies often grow up in sections of major cities where many different international companies group their expatriates. - Allowances and Premiums= A friend in Moscow cautions that when we take the famed Moscow subway, we should pay the fare at the beginning of the ride. Inflation is so high there that if we wait to pay until the end of the ride, we won't be able to afford to get off! Cost-of-living allowances, club memberships, transportation assistance, child care and education, spousal employment, local culture training, and personal security are some of the many service allowances and premiums expatriates receive. The logic supporting these allowances is that foreign assignments require that the expatriate (1) work with less direct supervision than a domestic counterpart, (2) often live and work in strange and sometimes uncongenial surroundings, and (3) represent the employer in the host country. The size of the premium is a function of both the expected hardship and hazards in the host country and the type of job. An assignment in London will probably yield fewer allowances than one in Tehran, where the "National Day of Campaign against Global Arrogance" is observed every year on the anniversary of the takeover of the American Embassy in 1979. The Balance Sheet Approach - Most North American, European, and Japanese global firms combine these elements of pay in a balance sheet approach.103 The name stems from accounting, where credits and debits must balance. It is based on the premise that employees on overseas assignments should have the same spending power as they would in their home country. Therefore, the home country is the standard for all payments. The objective is to: 1. Ensure mobility of people to global assignments as cost-effectively as feasible. 2. Ensure that expatriates neither gain nor lose financially. 3. Minimize adjustments required of expatriates and their dependents. Notice that none of these objectives link (explicitly) to performance. Exhibit 16.20 depicts the traditional balance sheet approach. Home-country salary is the first column. A person's salary (based on job evaluation, market surveys, merit, and incentives) must cover taxes, housing, and goods and services, plus other financial obligations (a "reserve"). The proportions set for each of the components in the exhibit are norms (i.e., assumed to be "normal" for the typical expatriate) set to reflect consumption patterns in the home country for a person at that salary level with that particular family pattern. They are not actual expenditures. These norms are based on surveys conducted by consulting firms. Using the norms is supposed to avoid negotiating with each individual, although substantial negotiation still occurs. Let us assume that the norms suggest that a typical manager with a spouse and one child, earning $84,000 ($7,000 per month) in the United States, will spend $2,000 per month on housing, $2,000 on taxes, and $2,000 on goods and services and put away a reserve of $1,000 per month. The next building block is the equivalent costs in the host country where the assignment is located. For example, if similar housing costs $3,000 in the host country, the expatriate is expected to pay the same $2,000 paid in the United States and the company pays the employee the difference; in our example, an extra $1,000 per month. In the illustration, the taxes, housing, and goods and services components are all greater in the host country than in the home country. The expatriate bears the same level of costs (white area of right-hand column) as at home. The employer is responsible for the additional costs (shaded area). (Changing exchange rates among currencies complicates these allowance calculations.) However, equalizing pay may not motivate an employee to move to another country, particularly if the new location has less personal appeal. Therefore, many employers also offer some form of financial incentive or bonus to encourage the move. The right-hand column in Exhibit 16.20 includes a relocation bonus. Most U.S. multinational corporations pay relocation bonuses to induce people to take expatriate assignments. If gaining international experience is really one of the future competencies required by organizations, then the need for such bonuses ought to be reduced, since the expatriate experience should increase the likelihood of future promotions. Either the experience expatriates obtain is unique to each situation and therefore not transferable or companies simply do not know how to value it. Whatever the reason, research reveals that U.S. expatriates feel their U.S. organizations still do not value their international expertise.104 So the rhetoric of the value of global competencies has yet to match the reality—hence the need for relocation incentives. Another way to look at it is that the employee takes a risk going overseas. Near-term promotion opportunities may be lost. While international experience could have a handsome payoff in later promotions for some, this payoff is not certain and not true for all. Moreover, a nontrivial share of expatriate assignments are cut short, due either to performance problems or family-related problems (e.g., spouse and/or children having difficulties adapting).105 Thus, consistent with our earlier discussion of agency theory, a compensating differential for risk may be required. Alternatives to Balance Sheet Approach - Employers continue to explore alternatives to the balance sheet, due primarily to the cost. Although in Exhibit 16.20 the expatriate premium was 46 percent ($10,200/$7,000 - 1), that premium can be much higher. For example, Exhibit 16.21 shows survey data on the cost of a manager (married plus one child/dependent) with a U.S. salary of $116,000 posted to Singapore. The balance sheet approach cost ranged from a "budget package" cost of $260,000 to a "premium package" cost of $393,000, or a 239 percent premium. The "standard package" was $312,000, a 169 percent premium and had the following components: Negotiation simply means the employer and employee find a mutually agreeable package. The arrangements tend to be relatively costly (or generous, depending on your point of view), create comparability problems when other employees are asked to locate overseas ("but Mike and Sarah got . . ."), and need to be renegotiated with each transfer. Another alternative, localization, or local plus, ties salary to the host country's salary scales and provides some cost-of-living allowances for taxes, housing, and dependents. The allowances tend to be similar to those under the balance sheet, but the salary can vary with the location. As Exhibit 16.21 shows, in the case of Singapore, the localization approach would, on average, result in a cost of $247,000, a 113 percent premium, in contrast to the premium of as much as 239 percent for the balance sheet approach. While the balance sheet approach ties salary to the home country, the modified balance sheet ties salary to a region (Asia-Pacific, Europe, North America, Central America, or South America). The logic is that if an employee of a global business who relocates from San Diego, California, to Portland, Maine, receives only a moving allowance, why should all the extras be paid for international moves of far less distance (e.g., from Germany to Spain)? In Europe, many companies no longer view European managers who work outside their home country as expats. Instead, they are Europeans running their European businesses. And the use of a common currency, the euro, makes this easier. In this vein, a study compared the over-base pay allowance provided by 17 multinational companies to an employee earning 100,000 euros being transferred from Frankfurt, Germany, to Paris, France.106 The median premium was 23,000 euros, or 13 percent and the range was from as little as 5,000 euros, a 5 percent premium, to 45,000 euros, a 45 percent premium. Thus, in all 17 companies, the premium was modest relative to what we have seen. Another common modification is to decrease allowances over time. The logic is that the longer the employee is in the host country, the closer the standard of living should come to that of a local employee. For example, if Americans eat a $10 pizza twice a week in the United States, should they eat a $30 pizza twice a week in Tokyo, at the employer's expense? More typically, after a couple of months, the expatriate will probably learn where the nationals find cheaper pizza or will switch to sushi. We had a friend posted to London by a U.S. company. The expatriate and spouse ate dinner out each night, leased a nice apartment in an upscale centrally located neighborhood, had a car, and the spouse went back to school. All this was paid for by the company, so the couple's entire paycheck went into the bank and investments. They were living in London with all expenses paid! When they had to eventually return to the United States, at the behest of the company, it was with great reluctance and after running out of extensions to the assignment. The lump-sum/cafeteria approach offers expats more choices. This approach sets salaries according to the home-country system and simply offers employees lump sums of money to offset differences in standards of living. For example, a company will still calculate differences in cost of living, but instead of allocating them housing, transportation, goods and services, and so on, it simply gives the employee a total allowance. Perhaps one employee will trade less spacious housing for private schooling and tutors for the children; another employee will make different choices. We know of one expatriate who purchased a winery in Italy with his lump-sum allowance. He has been reassigned to Chicago but still owns and operates his winery. Finally, a company can consider using fewer expatriates and more local country nationals. As we stated at the beginning of our discussion of expatriate pay, such a strategy has many advantages, including lower cost, and greater familiarity with the aspects of the business environment unique to that country. Another advantage is that such a strategy can be combined with a strategy of greater integration of talent into the career planning and development system. An increasing number of companies have foreign-born managers and executives in key posts. Some of these key people would not be where they are now making important contributions if they had not had the opportunity at some point to gain experience in key jobs in their home countries and then build on that to progress through the company's ranks.107 Along these same lines, greater use of third-country nationals (TCNs) can also fit this strategy. In addition, TCNs can be less expensive if they come from countries having lower compensation levels. For example, whereas we saw in our earlier example that a U.S. expatriate earning $116,000 at home and posted to Singapore would cost $312,000, a comparable TCN from India posted to Singapore would cost $209,000.108 In addition, given that the Indian TCN would earn $49,000 in India, the premium he or she would realize would be quite substantial and thus perhaps the assignment would have higher value than it would to a comparable expatriate from the United States. Expatriate Systems ⟶ Objectives? Quel dommage! - Talk to experts in international compensation, and you soon get into complexities of taxes, exchange rates, housing differences, and the like. What you do not hear is how the expatriate pay system affects competitive advantage, customer satisfaction, quality, or other performance concerns. It does emphasize maintaining employee purchasing power and minimizing disruptions and inequities. But the lack of attention to aligning expatriate pay with organization objectives is glaring. Sadly, the major innovation in expat pay over the past decade seems to have been to relabel expats and TCNs as "international assignees." - Expatriate compensation systems are forever trying to be like Goldilocks' porridge: not too high, not too low, but just right. The expatriate pay must be sufficient to encourage the employee to take the assignment yet not be so attractive that local nationals will feel unfairly treated or that the expatriate will refuse any future reassignments. These systems also presume that expats will be repatriated to their home country. However, the relevant standard for judging fairness may not be home-country treatment. It may be the pay of other expats, that is, the expat community, or it may be local nationals. And how do local nationals feel about the allowances and pay levels of their expat co-workers? Very little research tells us how expats and those around them judge the fairness of expat pay. Employee Preferences - Beyond work objectives, costs, and fairness, an additional consideration is employees' preferences for international assignments. For many Europeans, working in another country is just part of a career. Yet for many U.S. employees, leaving the United States means leaving the action. They may worry that expatriate experience sidetracks rather than enhances a career. Employees undoubtedly differ in their preferences for overseas jobs, and preferences can vary over time. Having children in high school or elderly parents to care for, divorce, working spouses, and other life factors exert a strong influence on whether an offer to work overseas is a positive or negative opportunity. Research does inform us of the following: 68 percent of expatriates do not know what their jobs will be when they return home. 54 percent return to lower-level jobs. Only 11 percent are promoted. Only 5 percent believe their company values overseas experience. 77 percent have less disposable income when they return home. Only 13 percent of U.S. expatriates are women. (Yet 49 percent of all U.S. managers and professionals are women.) More than half of returning expatriates leave their company within one year.109 Unfortunately, while research does highlight the problem, it does not offer much guidance for designers of expat pay systems. Consequently, we are at the mercy of conjecture and beliefs.110 We should emphasize that, of course, some companies do a much better job of managing expatriates. Also, there is disagreement over what the evidence actually says on rates of success and failure of expatriates, especially those from the United States.111

THE SOCIAL CONTRACT

Viewed as part of the social contract, the employment relationship is more than an exchange between an individual and an employer. It includes the government, all enterprise owners (sometimes acting individually and sometimes collectively through owner associations), and all employees (sometimes acting individually and sometimes in trade unions). The relationships and expectations of these parties form the social contract. As you think about how people get paid around the world, it will be clear that different people in different countries hold differing beliefs about the role of government, employees, unions, and employers. Understanding how to manage employee compensation in any country requires an understanding of the social contract in that country. Changing employee compensation systems—for example, to make them more responsive to customers, encourage innovative and quality service, or control costs—require changing the expectations of parties to the social contract. The social contract evolves over time, sometimes very quickly. One need look no further than the United States for recent examples. Compared to many countries (such as those in the European Union), government has traditionally played a relatively modest role in the employment relationship. However, that role has recently greatly expanded, at least in two key sectors of the U.S. economy: automobiles and financial services. Consider that Chrysler and General Motors (GM) have recently gone through bankruptcy and upon their exit, major shareholders were the United Automobile Workers (UAW) union and the U.S. government (in return for the many billions in funds it has provided to stave off liquidation). In the financial services industry, the U.S. government also played a major role recently in saving firms, either by providing funds (e.g., Citibank, Goldman Sachs, Capital One, and many others) under the Troubled Assets Relief Program (TARP) or by actively facilitating mergers and acquisitions (e.g., Bank of America's acquisition of Merrill Lynch). The TARP program in the United States provided $700 billion (in return for warrants enabling the U.S. government to buy stock in the companies), an amount roughly the same as the total economic output (gross domestic product) of Turkey, the seventeenth largest economy in the world. As one of the "strings attached" to the TARP funds, the U.S. Treasury Department issued special executive compensation regulations for firms while they have TARP funding (see Chapter 17). In summary, the social contract in the United States, known for the small role of government and the lack of a tripartite relationship between government, employees (and their representatives), and employers, has done a rapid "about-face," at least in two of its major industries. While this government involvement and tripartism is seen as temporary, the question is whether this model will become the norm in the United States for handling future crises of this sort. Centralized or Decentralized Pay-Setting - Perhaps the most striking example of the social contract's effects on pay systems is in Exhibit 16.2, which contrasts the degree of centralization of pay setting among countries.32 Companies in the United States, United Kingdom, and some central European countries use highly decentralized approaches with little government involvement. In contrast, in western and northern European countries, wage bargaining is more likely to be centralized, taking place primarily at the industry or national level, with government involvement being typical in national-level bargaining countries. Although understanding differences in wage bargaining levels is important, it should also be understood that things continue to evolve.33 For example, not so long ago, countries like the Czech Republic and Sweden would have been placed in the national level bargaining group in Exhibit 16.2. Japan, not included in Exhibit 16.2, has become more decentralized in its wage bargaining.34 Also, even where bargaining is primarily centralized, there is also typically bargaining at other levels.35 Likewise, there may be exceptions, under particular circumstances, that permit companies to deviate from the centralized agreement. Thus, differences across countries in the degree of pay-setting centralization translate, but not perfectly, into differences in wage flexibility. Such flexibility is generally desirable to employers who do not want to be "locked in" to a particular wage level when product market conditions (i.e., level and growth of sales and profits) are in flux. Exhibit 16.3 shows judgments of wage flexibility gathered from an international sample of executives. We can see that countries with more centralized bargaining levels (e.g., Germany, Sweden) generally have less wage flexibility, while countries with more decentralized bargaining (e.g., the United Kingdom, Czech Republic, United States) generally have higher wage flexibility, as do the Asian countries included. Regulation - The social compact also relates to the legal/regulatory environment for human resource decisions in each country. The country differences in wage flexibility relate not only to degree of bargaining centralization, but also to regulatory restrictions such as maximum hours of work. The European Union Working Time Directive limits the workweek to no more than 48 hours. Countries such as France have experimented with a 35-hour workweek, which was in effect from 1998 until 2008.36 In contrast, in countries like Japan and the United States, there is no maximum workweek and, as we saw, wage flexibility is high. Another indicator of employment regulation (i.e., restriction on flexibility) is the degree of legal restriction in hiring and firing workers. As shown in Exhibit 16.4, employers in the United States have more flexibility than employers in the European Union, South America, and Japan. Interestingly, Korea and China are not so different from the United States. As a final example of how the legal framework comes into play and affects employer flexibility, consider the role of works councils and co-determination in a European country like Germany.37 A works council may be formed by employees in any business unit having five or more permanent employees. It operates separately from the trade union and collective bargaining process (although works council members are often union members) and may not, for example, call a strike. In general, the German works council deals with issues of a collective nature (i.e., that affect two or more employees). It has rights to information and consultation in these matters. In the area of compensation, consider that: "the employer must obtain the consent of the Works Council on collective rules regarding criteria to be applied for determining wages and salaries of all employees, the implementation of systems that classify wages according to performance or time spent (e.g., bonus schemes), the mode of payment, and the method of determining criteria for pension rights.38" An employer must consult the Works Council and give it an opportunity to respond prior to taking actions in the area of compensation as well as in a wide range of other human resource and operational areas. The Works Council has "veto-rights and rights of consent," including "the right to block management decisions until an agreement is reached or a decision by the labour court is taken overruling the veto."39 In addition, the co-determination law in Germany requires that in companies with 500 to 2,000 employees, one-third of the supervisory board (akin to the board of directors in a United States company) must be employee representatives. In companies with over 2,000 employees, one-half of the board must be composed of employee representatives. However, there is not true parity here because shareholders elect the chairperson, who has the power to cast a tie-breaking vote.40 By way of contrast, neither works councils or co-determination are legally required in the United States and are quite rare. Clearly, an employer from the United States that becomes an employer in Germany will find that things work very differently. In Europe, like in the United States, laws can also vary within countries. Further, there are also, as we have seen, directives that apply across countries such as that dealing with working time in the European Union (EU). Another EU directive gives employees the right to information and consultation on company decisions in companies having 1,000 or more employees, including 150 or more in at least two member countries through the establishment of a European works council. Thus, a company operating in multiple EU countries might have consultation obligations with a works council in each country as well as a European works council. The EU has a goal of providing common labor standards in all its member countries. The purpose of standards is to avoid "social dumping," or the relocation of a business in a country with lower standards and labor costs. At present, average hourly labor costs vary substantially among the EU countries, sometimes in countries right next door, such as Germany, which, as we saw in Chapter 1, has much higher labor costs than Poland. Finally, the social compact in Europe, with its regulatory and institutional limits on employer flexibility and protection of workers, comes at a cost. A long-standing literature seeks to determine whether more generous worker protection (e.g., unemployment benefits) undermines incentives for workers to put forth effort on the job (as efficiency wage theory would suggest) or look for work (thus resulting in higher unemployment rates and higher public expenditures). Here, we will simply look at how expenditures vary across countries, as well as how taxes, which of course are needed to fund such expenditure, also vary. Exhibit 16.5 shows that the tax burden in countries like Germany and France is more than 60 percent higher than in the United States, Canada, Australia, and Japan. One purpose of these higher taxes is to help insulate workers from income losses due to unemployment. As Exhibit 16.6 indicates, European countries tend to spend more here than the United States (and the Asian countries shown). To illustrate, consider that the annual gross domestic product (GDP) of the United States is roughly $20 trillion. As such, spending 0.4 percent of that on unemployment benefits as is done in the United States costs $80 billion. However, if spending in the United States on unemployment benefits was 1.6 percent of GDP as in France, that would cost $320 billion (i.e., $240 billion more).

CULTURE

Culture is defined as shared mental programming which is rooted in the values, beliefs, and assumptions held in common by a group of people and which influences how information is processed.41 The assumption that pay systems must be designed to fit different national cultures is based on the belief that most of a country's inhabitants share a national character. The job of the global manager, according to this assumption, is to define the national characteristics that influence pay systems. Typical of this thinking is the widely used list of national cultural attributes proposed by Hofstede (power distance, individualism-collectivism, uncertainty avoidance, and masculinity-femininity).42 (See Exhibit 16.7.) Advocates of this view believe that "it is crucial that companies adjust their compensation practices to the cultural specifics of a particular host country."43 Accordingly, in Malaysia and Mexico, where the culture is alleged to emphasize respect for status and hierarchy (high power distance), hierarchical pay structures are appropriate. In low-power-distance nations such as Australia and the Netherlands, egalitarianism is a better approach.44 Advice can get even more specific. Companies operating in nations with supposedly "collectivistic" cultures, such as Singapore, Japan, Israel, and Korea, should use egalitarian pay structures, equal pay increases, and group-based rather than individual-based performance incentives. Employers in the more "individualistic" national cultures, such as the United States, United Kingdom, and Hong Kong, should use individual-based pay and performance-based increases.45 But such thinking risks stereotyping.46 The question is not, What are the cultural differences among nations? Rather, the question is, Which culture matters?47 Any group of people may exhibit a shared set of beliefs. Look around your college or workplace; engineers, lawyers, accountants, and technicians may each share some beliefs and values. Employees of organizations may, too. Your school's culture probably differs from Microsoft's, Toshiba's, or the London Symphony Orchestra's. You may even have chosen your school because of its culture. However, you are likely part of many cultures. You are not only part of your university but also part of your family, your social/political/interest groups, your region of the state or country, and so on. Cultures may be similar or different among all these categories. Is National Culture a Major Constraint on Compensation? - In our view, theory and evidence increasingly say no. At the very least, the importance of national culture in terms of how well employees accept pay for performance and in terms of how national culture influences the effectiveness of compensation and other human resource practices in different countries has been overstated. For example, research shows that respondents from what are seen as very different national cultures (e.g., China and the United States) have nearly identical beliefs in the importance of basing pay on performance (versus paying people equally or based on need).48 Additionally, a meta-analysis of the effectiveness of "high-performance work systems," (HPWSs) which typically include pay for performance, as well as worker involvement in decisions, use of teams, and ability/performance-based hiring and advancement, found that such systems worked well in virtually every country and, in fact, some evidence suggested they worked better (not worse) in countries where they did not (according to conventional wisdom) fit the national culture as well. One explanation is that being out in front of within-country competitors in successfully implementing more effective management systems can be a source of competitive advantage. Deviating from what everyone else does carries a risk, but so does deviating from a global management practice standard that may be different from the domestic standard, but is more effective. That is especially true if a company competes not just domestically, but also in the global economy. It is also possible that organizations adapted/executed HPWS principles in different ways in different national contexts to reduce the possibility of misfit.49 Culture classifiers consider the United States a country of risk takers who rank high on the individualistic (rather than collectivistic) scale. In contrast, the country of Slovenia has been classified as more collectivistic and security-conscious (as opposed to risk taking).50 Slovenia was the first country to break off from the former Yugoslavia. (How is that for taking a risk?) It has a population of less than 3 million and by most standards would be considered very homogeneous. So you might expect Slovenian managers to be very different from U.S. managers. However, a study found that Slovenian managers tended, on average, to be more risk taking and individualistic than U.S. managers. The most striking finding, as shown in Exhibit 16.8, was that the degree of variation among managers on cultural dimensions was virtually the same in both the Slovenian and the U.S. data. Thus, one can find employees with different values or personality traits (e.g., risk-averse collectivists and risk-taking individualists) in both nations.51 Indeed, re-analysis of data from Hofstede's seminal work on national differences in culture finds that the variance between individuals within countries is far larger than the variance between countries.52 In other words, knowing what country someone is from tells us much less than the national culture literature seems to suggest. So how useful is the notion of a national culture when managing international pay? In the absence of better data on variations such as those in Exhibit 16.8, it may offer a starting point. However, it is only a starting point.53 National culture can be thought of as the "average" in Exhibit 16.8. It provides some information about what kinds of pay attitudes and beliefs you are likely to find in an area. But overreliance on the "average" can seriously mislead. This point is critical for managing international pay. To claim that all organizations and people within Germany or within China share a certain mind-set ignores variations and differences within each nation, and reviews of empirical work bear out the fact that differences in worker preferences across countries (including China and the United States) for the use of performance-based pay, for example, tend to be small in practical terms.54 Again, country is just too rough of a proxy to use in making compensation decisions. Considerable diversity among companies and people within any country exists. The Chinese computer company Lenovo, which purchased IBM's PC division, illustrates the point. Throughout its short history, Lenovo has relied heavily upon government support. Yet Lenovo's approach to compensating employees does not reflect widely held beliefs about Chinese national culture.55 For example, the CEO uses 20 percent of the company's profits to award high-performing employees with "special merit" bonuses. Pay differentials among jobs, which in 1990 were 2 to 1, are now up to 30 to 1. Most amazing is a benefits plan in which individual employees select the specific benefits that best meet their personal preferences. All this diversity in a company in which the Chinese government still owns controlling interest! So keep in mind our basic premise in this chapter: The interplay among economic, institutional, organizational, and individual conditions within each nation or region, taken as a whole, forms distinct contexts for determining compensation. Understanding these factors in the global guide is useful for managing employee compensation. However, do not assume uniformity (the average) within a country. Understanding the full range of individuals within nations is even more important.56 So how may understanding cultural diversity within a nation matter to global pay? Perhaps with an eye to attracting and motivating those risk-taking, entrepreneurial Slovenians, a multinational firm may use performance bonuses, stock awards, and hierarchical pay structures rather than simply matching the "average" Slovenian culture.

NATIONAL SYSTEMS: COMPARATIVE MIND-SET

A national system mind-set assumes that most employers in a country adopt similar pay practices. Understanding and managing international compensation then consists mainly of comparing the Japanese to the German to the United States or other national systems. This method may be useful in nations with centralized approaches (see Exhibit 16.8). Some even apply it to regional systems, as in the "European Way," the "Asian Way," or the "North American Way."76 We describe the Japanese and German national systems below. But we cannot say this often enough: The national or regional mind-set overlooks variations among organizations within each nation. Thus, we refer to the national systems below as the "traditional" systems, to emphasize that this is one country model in each but not the only one. Japanese Traditional National System - Traditionally, Japan's employment relationships were supported by "three pillars": 1. Lifetime security within the company. 2. Seniority-based pay and promotion systems. 3. Enterprise unions (decentralized unions that represent workers within a single company). Japanese pay systems tend to emphasize the person rather than the job; seniority and skills possessed rather than job or work performed; promotions based on a combination of supervisory evaluation of trainability, skill/ability levels, and performance rather than on performance alone; internal alignment over competitors' market rates; and employment security based on the performance of the organization and the individual (formerly lifetime security). Japanese pay systems can be described in terms of three basic components: base pay, bonuses, and allowances/benefits.77 - Base Pay= Base pay is not based on job evaluation or market pricing (as predominates in North America), nor is it attached to specific job titles. Rather, it is based on a combination of employee characteristics: career category, years of service, and skill/performance level. *Career= Five career categories prevail in Japan: (1) general administration, (2) engineer/scientific, (3) secretary/office, (4) technician/blue-collar job, and (5) contingent. *Years of Service= Seniority remains a major factor in determining base pay. Management creates a matrix of pay and years of service for each career category. Exhibit 16.13 shows a matrix for general administration work. If starting annual salary (without bonus) at age 22 is US$25,000, then at age 50, the salary in this company would be 380 percent of 25,000, or US$95,000. Companies meet periodically to compare their matrixes, a practice that accounts for the similarity among companies. In general, salary increases with age until workers are 50 years old, when it is reduced. Employees can expect annual increases no matter what their performance level until age 50, although the amount of increase varies according to individual skills and performance. * Skills and Performance= Each skill is defined by its class (usually 7 to 13) and rank (1 to 9) within the class. Exhibit 16.14 illustrates a skill salary chart for the general administration career category. In this example, again assuming an annual starting (without bonus) salary of US$25,000 for an Associate at the lowest rank/skill level, the salary for a General Director, Class 7, would be US$250,000. Classes 1 and 2 typically include associate (entry) and senior associate work; 2, 3, and 4, supervisor and managerial; 5, 6, and 7, managerial, general director, and so on. Employees advance in rank as a result of their supervisor's evaluation of their: 1. Effort (e.g., enthusiasm, participation, responsiveness). 2. Skills required for the work (e.g., analytical, decision making, leadership, planning, process improvement, teamwork). 3. Performance (typical MBO-style ratings). To illustrate how the system works, say you are a graduate fresh from college who enters at class 1, rank 1. After one year, you and all those hired at the same time are evaluated by your supervisors on their effort, abilities, and performance. Early in your career (the first three years) effort is more important; in later years abilities and performance receive more emphasis. The number of ranks you move each year (and therefore your increase in base pay) depends on this supervisory rating (e.g., receiving an A on an appraisal form lets you move up three ranks within the class, a B moves you two ranks, and so on). Theoretically, a person with an A rating could move up three ranks in class each year and shift to the next class in three years. However, most companies require both minimum and maximum years of service within each class. So even if you receive four A ratings, you would still remain in class 1 for the minimum of six years. Conversely, if you receive four straight D grades, you would still get promoted to the next skill class after spending the maximum number of years in class 1. Setting a minimum time in each class helps ensure that the employee knows the work and returns value to the company. However, the system slows the progress of high-potential performers. Additionally, even the weakest performers eventually get to the top of the pay structure, though they do not get the accompanying job titles or responsibility. The system reflects the traditional Japanese saying, "A nail that is standing too high will be pounded down." An individual employee will not want to stand out. Employees work to advance the performance of the group or team rather than themselves. Since the Japanese system is so seniority-based, labor costs increase as the average age of the workforce increases. In fact, a continuing problem facing Japanese employers is the increasing labor costs caused by the cumulative effects of annual increases and lifetime employment security. Early retirement incentives and "new jobs" with lower salaries are being used to contain these costs.78 Bonuses= Bonuses provide additional pay equivalent to 1 to 5 months of annual salary, depending on the level in the organization and often the financial results of the organization.79 Generally, the higher up you are, the larger the percent of annual salary received as bonus. Typical Japanese companies pay bonuses twice a year (July and December). The bonuses are an expectable additional payment to be made twice a year, even in bad financial times. They are not necessarily related to performance. The amount of bonuses is calculated by multiplying employees' monthly base pay by a multiplier. The size of the multiplier is determined by collective bargaining between employers and unions in each company. Sometimes the multiplier may also vary according to an employee's performance evaluation. In a recent year, the average multiplier was 4.8 (2.3 in summer and 2.5 in winter) for white-collar workers. So an individual whose monthly base pay is $4,500 would receive a bonus of $10,350 in July and $11,250 in December. According to the Japan Institute of Labor, for most employees (other than managers) bonuses are variable pay that help control the employer's cash flow and labor costs. They do not necessarily act as a motivator. Japanese labor laws encourage the use of bonuses to achieve cost savings by omitting bonuses from calculations of many other benefit costs (i.e., pension plan, overtime pay, severance pay, and early retirement allowances). The timing of the bonuses is very important. In Japan both the summer festival and the new year are traditional gift-giving times; in addition, consumers tend to make major purchases during these periods. Employees use their bonuses to cover these expenses. Thus, the tradition of the bonus system is deeply rooted in Japanese life and is today considered an indispensable form of pay. - Benefits and Allowances= The third characteristic of Japanese pay systems, the allowance, comes in a variety of forms: family allowances, commuting allowances, housing and geographic differential allowances, and so on. Company housing in the form of dormitories for single employees or rent or mortgage subsidies is a substantial amount. Life-passage payments are made when an employee marries or experiences a death in the immediate family. Commuting allowances are also important. Family allowances vary with number of dependents. Some employers even provide matchmaking allowances for those who tire of life in company dorms. * Legally Mandated Benefits= Legally mandated benefits in Japan include social security, unemployment, and workers' compensation. Although these three are similar to the benefits in the United States, Japanese employers also pay premiums for mandated health insurance, preschool child support, and employment of the handicapped. German Traditional National System - Traditional German pay systems are embedded in a social partnership between business, labor, and government that creates a generous vater staat, or "nanny state."80 Vergutung is the most common German word for "compensation." Pay decisions are highly regulated; over 90 different laws apply. Different tariff agreements (pay rates and structures) are negotiated for each industrial sector (e.g., banking, chemicals, metals, manufacturing) by the major employers and unions. Thus, the pay rates at Adam Opel AG, a major car company, are quite similar to those at Daimler, Volkswagen, and any other German car company. Methods for job evaluation and career progression are included in the tariff agreements. However, these agreements do not apply to managerial jobs. Even small organizations that are not legally bound by tariffs tend to use them as guidelines. Base Pay - Base pay accounts for 70 to 80 percent of German employees' total compensation depending on their job level. Base pay is based on job descriptions, job evaluations, and employee age. The tariff agreement applicable to Adam Opel AG, for example, sets the following tariff groups (akin to job families and grades): Generally, a rate will be negotiated for one of the levels, for example, K2 and the other levels in that group will be calculated as a percentage of the negotiated rate. Bonuses - While there is a trend toward performance-based bonuses, they have not been part of a traditional German pay system for unionized workers. However, Adam Opel AG's tariff agreement stipulates that an average of 13 percent of the total base wages must be paid as "efficiency allowances." Systems for measuring this efficiency are negotiated with the works councils for each location. In reality, the efficiency allowances become expected annual bonuses. Performance bonuses for managerial positions not included in tariffs are based on company earnings and other company objectives. Currently only about one-third of top executives receive stock options. Allowances and Benefits - As discussed, Germany's social contract includes generous social benefits.81 These nationally mandated benefits, paid by taxes levied on employers and employees, include liberal social security, unemployment protection, health care, nursing care, and other programs. Employer and employee contributions to the social security system can add up to more than one-third of wages. Additionally, companies commonly provide other benefits and services such as pension plans, savings plans, building loans, and life insurance. Company cars are always popular. The make and model of the car and whether or not the company provides a cell phone are viewed as signs of status in an organization. German workers also receive 30 days of vacation plus about 13 national holidays annually (compared to an average of 11 holidays in the United States). Strategic Comparisons: Traditional Systems in Japan, Germany, United States - As we have emphasized, speaking of the German, Japanese, or U.S. system is too simplistic, as there are important variations between firms within each country. Nevertheless, in looking at the average firm in each country, Japanese and German traditional systems reflect different approaches compared to U.S. pay systems. Exhibit 16.15 uses the basic choices outlined in the total pay model—objectives, internal alignment, competitiveness, and contributions—as a basis for comparisons. Both the Japanese and the German sociopolitical and culture systems constrain organizations' use of pay as a strategic tool. German companies face pay rates, job evaluation methods, and bonuses identical to those of their competitors, set by negotiated tariff agreements. The basic strategic premise, that competitive advantage is sustained by aligning with business strategy, is limited by laws and unions. Japanese companies do not face pay rates fixed industry-wide; rather, they voluntarily meet to exchange detailed pay information. However, the end result appears to be the same: similar pay structures across companies competing within an industry. In contrast, managers in U.S. companies possess considerable flexibility to align pay systems with business strategies. As a result, greater variability exists among companies within and across industries. The pay objectives in traditional German systems include mutual long-term commitment, security, egalitarian pay structures, and cost control through tariff agreements, which apply to competitors' labor costs too. Japanese organizations set pay objectives that focus on the long term (age and security), support high commitment (seniority-based/ability-based), are also more egalitarian, signal the importance of company and individual performance, and encourage flexible workers (person-based pay). U.S. companies, in contrast, focus on the shorter term (less job security); are market-sensitive (competitive total pay); emphasize cost control (variable pay based on performance); reward performance improvement, meritocracy, and innovation (individual bonuses and stock, etc.); and encourage flexibility. In Japan, person-based factors (seniority, ability, and performance) carry important weight in setting base pay. Market comparisons are monitored in Japan, but internal alignment based on seniority remains far more important. Job-based factors (job evaluation) and seniority are also used in Germany. Labor markets in Germany remain highly regulated, and tariff agreements set pay for union workers. So, like the Japanese system, the German system places much greater emphasis on internal alignment than on external markets. Each approach has advantages and disadvantages. Clearly, the Japanese approach is consistent with low turnover/high commitment and high security, greater acceptance of change, and the need to be flexible. U.S. firms face higher turnover and greater skepticism about change. U.S. firms encourage innovation; they also recognize the contributions to be tapped from workforce diversity. German traditional systems tend to be more bureaucratic and rule-bound. Hence, they are more inflexible. However, they also offer more stability. Both the Japanese and the German national systems face challenges from the high costs associated with an aging workforce. Japan has taken very limited advantage of women's capabilities. The U.S. challenges include the impact of increased uncertainty that employees face, the system's short-term focus, and employees' skepticism about continuous change. Evolution and Change in the Traditional Japanese and German Models - The slow economic growth that Japan has experienced combined with the emphasis in its traditional model on seniority-based pay creates a challenge in controlling labor costs. At the same time, cheaper labor in emerging Asian countries (e.g., China) puts further pressure on controlling labor costs and/or increasing productivity. Faced with these pressures, many companies are trying to maintain long-time employment (rather than lifetime employment) and are looking for other ways to reward less senior employees. These younger employees, who have been paid relatively poorly under the seniority-based pay system, are increasingly finding alternative job opportunities in non-Japanese firms operating in Japan, which have in the past rewarded individual ability and performance more strongly.82 To compete, companies such as Toyota, Toshiba, and Mitsubishi are increasingly using performance-based pay. As a result, more variation in pay systems has emerged among traditional Japanese companies.83 As Exhibit 16.16 shows, 41 percent of Japanese companies now report that they place a high emphasis on performance in compensation decisions.84 Only 12 percent report that performance receives a low emphasis. Other evidence reports that 57 percent of Japanese firms now use merit pay and 21 percent have "eliminated" seniority-based pay and many more report that they "plan" to reduce its importance.85 Likewise, Exhibit 16.17 shows that Japan is similar to other countries such as the United States in its degree of performance-based differentiation in the merit increase process. Also, national data indicate a decline in the role of seniority in pay in Japan, as well as less lifetime employment (as noted above).86 Thus, the Japanese model has moved closer to the U.S. model in some key ways.87 China too moved toward pay for (individual) performance many years ago.88 Apparently, the fact that China, Korea, and Japan are medium high or high on collectivism and uncertainty avoidance, national culture characteristics thought to be inconsistent with individual pay for performance and lack of job security, did not prevent these countries from making major changes in these areas when faced with sufficiently strong competitive forces that called into question the sustainability of their traditional employment practices. We also know that there have been similar, perhaps even bigger changes in Korea, which had previously modeled its employment system on Japan.89 Turning to Germany, it is no longer all traditional manufacturing, machine tools, and BMW. It has over half of the top Internet companies in Europe. And nearly one in five German adults own stock—double the rate in the late 1990s. Many of the changes are the result of global competitive pressures and technological changes. Like many advanced economies, Germany, along with a number of other Western European countries, faces serious challenges. An aging population, low birth rates, earlier retirement ages, and high pension and unemployment benefits are pushing up the costs of the social support system. A relatively inflexible labor market means that employers are finding it easier to move to (or expand in) other EU countries (e.g., just across the border to countries like Poland where labor costs are much lower) as well as to China and India. All these factors are causing a rethinking of the traditional German social contract and the resulting total compensation systems. Companies are asking for greater autonomy in negotiating tariff agreements to better reflect each company's economic conditions, the use of performance-based pay, and ways to link job security to company performance. A number of studies report substantial changes in the traditional German model, including greater use of pay for performance, similar to the shifts seen in Japan. Again, foreign multinationals have played some part.90 As Exhibit 16.16 indicates, 47 percent of German companies now report that performance is highly emphasized in compensation decisions and only 9 percent report that it receives little emphasis. Exhibit 16.16 shows that performance is one of the most important factors in promotion decisions as well. Exhibit 16.17 demonstrates further that the magnitude of merit pay increases for top versus average performers is similar in Germany, China, the United States, and the United Kingdom, with Japan being somewhat different. Finally, the use of stock options in Germany has gone from near zero in 1990 (prior to the lifting of legal restrictions in 1998) to being commonplace in large firms.91

STRATEGIC MARKET MIND-SET

A global study of pay systems used by companies with worldwide operations identifies three general compensation strategies: (1) localizer, (2) exporter, and (3) globalizer.92 These approaches reflect the company's business strategy.93 - Localizer: "Think Global, Act Local"= If a localizer operates in 150 countries, it may have 150 different systems. The company's business strategy is to seek competitive advantage by providing products and services tailored to local customers. Localizers operate independently of the corporate headquarters. One manager compared his company's pay system this way: "It's as if McDonald's used a different recipe for hamburgers in every country. So, too, for our pay system." Another says, "We seek to be a good citizen in each nation in which we operate. So should our pay system." The pay system is consistent with local conditions. - Exporter: "Headquarters Knows Best"= Exporters are virtual opposites of localizers. Exporters design a total pay system at headquarters and "export" it worldwide for implementation at all locations. Exporting a basic system (with some adjustments for national laws and regulations) makes it easier to move managers and professionals among locations or countries without having to change how they are paid. It also communicates consistent corporatewide objectives. Managers say that "one plan from headquarters gives all managers around the world a common vocabulary and a clear message about what the leadership values." Common software used to support compensation decisions and deployed around the world makes uniform policies and practices feasible. However, not everyone likes the idea of simply implementing what others have designed. One manager complained that headquarters rarely consulted managers in the field: "There is no notion that ideas can go both ways. It's a one-way bridge." Globalizer: "Think and Act Globally and Locally" - Similar to exporters, globalizers seek a common system that can be used as part of the "glue" to support consistency across all global locations. But headquarters and the operating units are heavily networked to share ideas and knowledge. Managers in these companies said: "No one has a corner on good ideas about how to pay people. We need to get them from all our locations." ""Home country' begins to lose its meaning; performance is measured where it makes sense for the business, and pay structures are designed to support the business." "Compensation policy depends more on tax policies and the dynamics of our business than it does on 'national' culture. The culture argument is something politicians hide behind." Some believe the globalizer is the business model for the 21st century. IBM, for example, calls itself a "globally integrated enterprise." The aim is for all its operations, from production to marketing to R&D to be integrated around the world.94 They continue to compete as multinationals. The point is that rather than emphasizing national pay systems as the key to international compensation, the three strategic global approaches focus first on the global business strategy and then adapt to local conditions. The upcoming "Your Turn" contrasts different perspectives on global corporations.

All around the world, competitive forces have changed the way people work and how they get paid.1 Toyota and other Japanese companies have dismantled their seniority-based pay systems for managers and replaced them with merit-based systems.2 Toshiba offers stock awards, which until a few years ago were not even legal in Japan.3 Deutsche Bank, Nokia, Seimens, and other European companies are shifting to variable pay and performance-based (rather than personality-based) appraisal in their search for ways to improve productivity and control labor costs.4 China's employment system has experienced a "fundamental transformation from stable and permanent employment with good benefits (often called the iron rice bowl) to a system characterized by highly precarious employment with no benefits for about 40 percent of the population."5 In 1990, multinational companies employed 21.5 million people in their foreign affiliates. By 2010, it was 61.2 million, and by 2013 it was 70.7 million.6 Among the largest U.S. companies, about three-fourths of new jobs in recent years were added not in the United States, but instead overseas.7 In 2000, General Motors produced 4.2 million vehicles in the United States and 3.9 million vehicles in other countries (including 30,000 vehicles in China). In 2016, by contrast, GM produced 2.4 million vehicles in the United States and 5.4 million vehicles in other countries (including 1.9 million in China).8

Global acquisitions of former competitors change pay systems. As part of its takeover and restructuring of Tungsram Electric in Poland, General Electric changed from a rigid seniority-based pay system to broad bands, market-based wage rates, and performance bonuses. India's leading software companies, such as Tata Consulting Services, Wipro, and Infosystems, all use performance-based bonus plans for their software engineers. Prior to Daimler's acquisition of Chrysler in 1998, the pay for Chrysler's CEO was equal to the combined total pay of the top 10 Daimler executives. As little as 25 percent of Chrysler managers' total compensation was in the form of base pay, whereas Daimler managers' base pay accounted for up to 60 percent of their total compensation. The merged DaimlerChrysler adopted a Chrysler-like approach to executive compensation. Some have even claimed that the attractive pay was the reason Daimler executives were eager to acquire Chrysler!9 This merger, described by some as a "marriage made in hell," ended unhappily after 10 years (but presumably Daimler executives got to keep the "engagement ring" of higher pay).10 One might also say that Daimler in particular had "hell to pay" to get out of the marriage. Daimler paid $36 billion for Chrysler in 1998, but received only $7.4 billion in 2006 when it sold 80.1 percent of Chrysler to Cerberus Capital Management.11 As part of Chrysler's bankruptcy, Daimler appears to have received nothing for its remaining stake. Rather, it had to write off $1.5 billion in loans it made to Chrysler in 2008 and also had to make a payment of $600 million to Chrysler's pension plan.12 Daimler will not be having bouts of nostalgia looking back at its marriage with Chrysler. Perhaps Daimler and Chrysler underestimated the challenges posed by the differences in contextual factors of the sort we highlight in this chapter. Any merger or acquisition, even between companies in the same country, has challenges. Adding an international component adds another layer of challenges.13 Nevertheless, another suitor burst onto the scene. The Italian car maker, Fiat, initially acquired 20 to 35 percent ownership in Chrysler and later increased it to 58.5 percent and then to 100 percent. Although Fiat is more similar (its product portfolio includes basic vehicles) than Daimler (high-end vehicles) to Chrysler in some ways, it is more similar to Daimler in its experience on a number of the other factors we will discuss in this chapter (ownership structure, regulation, trade union experience, social contract).14 Thus, it was not clear whether things would work out better the second time around for a Chrysler merger with a European company that is used to operating in a different context.15 Nevertheless, opinion seems to be that the Fiat-Chrysler merger is working.16 Sometimes changes in pay are directly tied to cataclysmic sociopolitical change, as in China, Russia, and Eastern Europe, where government authorities had long dictated pay rates.17 Now companies in these countries face the challenge of devising pay systems responsive to business and market pressures while maintaining a sense of social justice among the people. In China, the only hope for profitability in many state-owned enterprises is to reduce the massively bloated head count. Yet an army of unemployed people without social support is a threat to government survival.18 Some state-owned enterprises, such as Baogang, the country's largest steelmaker, have moved to more "market- and performance-based" systems, even though labor markets are just emerging in many regions in China. Shanghai Shenyingwanguo Security Company and Shanghai Bank have implemented job-based structures to help them retain key employees and increase pay satisfaction. Most surprising of all is that some town-owned enterprises are using stock ownership as part of their employee compensation.19 China may still be striving to become a worker's paradise, but the experimentation with compensation approaches might already qualify it as a pay pundit's paradise. However, too much change and experimentation can have a dark side that threatens to create social unrest. Following the breakup of the USSR, workers in some of the formerly socialist countries reported going unpaid for months. At one point more than half the Russian workers said they were owed back wages; their average wait to be paid was 4.8 months.20 A friend in Russia maintains that "the most effective pay delivery system is a brown bag under the table." So it is a time of unprecedented global change. Or is it? Let's step back to gain some historical perspective: "There [is] hardly a village or town anywhere on the globe whose wages are not influenced by distant foreign markets, whose infrastructure is not financed by foreign capital, whose engineering, manufacturing, and even business skills are not imported from abroad, or whose labor markets are not influenced by the absence of those who had emigrated or by the presence of strangers who had immigrated.21" This is not a description of the 21st century—it is from 100 years ago. In the late 1800s, trade barriers were being reduced, free trade was being promoted, and mass migrations of people were under way. Thanks to transoceanic telegraphic cables, the speed of communication had increased dramatically, and investment capital flowed among nations. Yet by 1917 these global links had been replaced with a global war. Citizens desired security rather than face the greater risks and uncertainty of globalization. Nations began to raise tariffs to protect domestic companies hurt by foreign competitors. Immigrants were accused of "robbing jobs." Historians conclude that "globalization is neither unique nor irreversible; it has and can again sow seeds of its own destruction."22

COMPARING COSTS (AND PRODUCTIVITY)

In Chapter 8 we discussed the importance of obtaining accurate information on what competitors pay in domestic markets. Similar comparisons of total compensation among nations can be very misleading. Even if wage rates appear the same, expenses for health care, living costs, and other employer-provided allowances complicate the picture. Outside the United States, many nations offer some form of national health care. An organization may pay for it indirectly through payroll taxes, but since all people in a nation share similar coverage, its value as part of total compensation is diminished. Comparisons between a specific U.S. firm and a specific foreign competitor may be even more misleading. Accurate data are usually difficult to obtain. While consulting firms are improving their global data collection, much of their data is still from U.S. companies' operations in global locations. Other foreign and local-national companies' data are often not available. Thus, international data may be biased toward U.S. companies' practices.71 Labor Costs and Productivity - Nevertheless, substantial differences in (average) labor costs (wages/salaries plus benefits and social insurance expenditures and/or labor-related taxes) do exist (see Exhibit 16.9). Companies may find that it makes sense to move or grow employment in lower-cost countries if productivity can be maintained at a workable level. (Of course, there are reasons other than labor cost to grow employment in a country, such as proximity to customers/markets.) We see that in 2016 the hourly compensation costs for Mexican manufacturing work ($3.91) were about 10 percent of the costs in the United States ($39.03). Given that the costs for each country are expressed in U.S. dollars, changes in the currency exchange rate can have an effect. That is the case here. The Mexico peso weakened relative to the U.S. dollar between 2013 and 2016. Thus, in 2013, Mexio's hourly cost of $6.82 was instead 19 percent of what was then a U.S. hourly cost of $36.34. We must also consider productivity, which we define here as gross domestic product (GDP) per employed person.72 According to the World Bank, in 2018 the United States GDP was $111,056 and Mexico's GDP was $38,390, or about 35 percent of that in the United States. Based on those numbers, the average lower productivity in Mexico is more than offset by the labor cost savings. Thus, it is not surprising that, as we saw in earlier chapters, automobile manufacturers from around the world (including the United States) have recently located most of their North American production in Mexico. Exhibit 16.10 shows further information on wage rates in Asia, reporting annual labor costs by country for two occupations in manufacturing: worker and manager. Note that China is a low-wage country compared to some Asian countries, but its pay is much higher than in some others (e.g., India, Vietnam, Sri Lanka).73 Note also that market pay rates change quickly in a number of these countries. For example, based on data not shown in Exhibit 16.10 (from the same source, but three years earlier), we know that annual labor costs for a manufacturing worker grew around 20 percent over the last three years in places like Laos and Vietnam, much faster than in more developed economies like the United States. In Exhibit 16.9 we saw rapid pay rate growth in China also. (Clearly, our Chapter 8 discussion of the importance of aging/updating salary survey data to be up to date and account for market movement is highly relevant in such countries!) Of course, most companies are not average and so each has to do its own analysis of the pros and cons of where to locate employment, as we discussed in Chapter 7. Also, while differences in labor costs are often the impetus to do the analysis, many other factors must be considered. Consider the case of a small custom software company in the Midwest that provides high-end web applications to meet clients' core business needs (e.g., online registration or customer service). It sets up long-standing web development teams to provide client support on an ongoing basis. Here we have a case involving knowledge work where responsiveness to customers is key. The engineering work (software coding, architecture, testing, graphics production, database) is all done in a former Soviet Bloc country in Eastern Europe. Some employees work in teams that write HTML code (which tells web browsers how to present a page). Not many years ago, new college graduates were hired at a rate of about $6,000 per year, with more senior team leads earning up to $15,000 per year. (We suspect that many readers of this book expect to make considerably more than that upon graduating from college.) Other employees, software engineers, with 2 to 4 years of experience, and writing applications in more complex languages, earned $10,000 per year, with the more senior and most highly skilled engineers earning $22,000 to $30,000 per year. You may wish to compare these salaries to those we saw in Chapter 8 for engineers (and programmers). There, we saw that an engineer fresh out of college could expect about $60,000 per year, and more senior engineers could advance to earning well over $100,000 per year. Thus, the labor cost savings for this Midwest customer software company were too large to ignore. Of course, it is not quite that simple. In a global market, some of the very best engineering talents from Eastern Europe migrate to where they can command higher pay and be at the epicenter of the most exciting work being done (e.g., Silicon Valley in California). Thus, the productivity of the company's engineers in Eastern Europe is not as high. That is not necessarily a problem if the work to be done is relatively routine and not oriented toward innovation. What about setting up a team that is several time zones and a 16- to 20-hour round trip away? This company's experience has been that it can take six months to a year to get off the ground and fine-tune. Other differences are harder to quantify. Former Soviet Bloc countries do not have the same consumer- and marketing-oriented culture as in the United States—until recently, ordinary consumers in those countries did not have multiple options when it came to toothpaste, apartments, cars, and so forth. So most workers in those countries will not have the underlying shared experiences and knowledge that most U.S. engineers will have. Think of someone who has never had a credit card. How would a software engineer go about designing an online shopping experience without an inherent understanding of credit cards and comparison shopping? Nevertheless, in some cases, especially in manufacturing, the focus can sometimes be entirely on labor cost. As we saw in Chapter 7, by outsourcing assembly of the iPhone and iPad to Foxconn's plants in China, Apple, by some estimates, saves $8 billion to $15 billion per year in labor costs, or 24 to 44 percent of its operating income. Thus, even though wages are growing rapidly in China (including at Foxconn), eroding its labor cost advantage and leading some companies to look for lower labor cost countries,74 labor costs remain much lower in China than in more advanced economies, such as the United States, and that appears to mean that other companies (e.g., Foxconn) will continue to manufacture in China (and also build manufacturing capacity elsewhere, as Foxconn, as we have recently learned, has contracted to do in Wisconsin). Exhibit 16.11, based on a survey of global manufacturing executives, provides the average importance of factors that go into location decisions. We see that labor cost, but also the quality of the labor available, are the most important factors. Taxes and the legal/regulatory environment, other factors addressed in the current chapter, are also important. Cost of Living and Purchasing Power - If comparing total compensation is difficult, comparing living costs and standards across borders is even more complex. (Recall our discussion of the limitations of the CPI for wage setting in Chapter 8.) However, companies need such data to adjust pay for employees who transfer among countries. The objective is to maintain the same level of purchasing power.75 Exhibit 16.12 provides several types of relevant data for this purpose. In the first two columns are Gross and Net (after taxes and deductions) Hourly Pay. The third column is Price Level (i.e., cost of goods and services). The fourth column is Purchasing Power (how much in goods and services can be bought, given Net Hourly Pay and Price Level). These four columns are all expressed as a percentage of the value for New York City. For example, a worker in Copenhagen, although having gross hourly pay slightly higher than a worker in New York City, has much lower purchasing power. Thus, to maintain the purchasing power of an expatriate from New York moving to Copenhagen, additional compensation beyond that paid in New York would be necessary. In contrast, a move to Kuala Lumpur at New York City pay levels would provide an economic windfall. On the other hand, paying a New York-based expatriate in Jakarta at the local level would result in a serious decline in living standard. The last column, working hours required to buy an iPhone X, provides another index of purchasing power. It takes 54 hours in New York City, versus 243 hours in Kuala Lumpur, 299 hours in Moscow, and 306 hours in Shanghai.

MANAGERIAL AUTONOMY

Managerial autonomy, an organizational factor in the global guide in Exhibit 16.1, refers to the degree of discretion managers have to make total compensation a strategic tool. It is inversely related to the degree of centralization and regulatory intensity discussed earlier. Thus, most U.S.- and U.K.-based organizations have relatively greater freedom to change employee pay practices or to hire and downsize than do most European companies. As already noted, the centralized pay setting found in European Union countries limits organizations' autonomy to align pay to business strategies and changing market conditions.66 Volkswagen AG, which is trying to reduce labor costs to better compete with Toyota and others, must negotiate changes with both IG Metall, a powerful trade union, and also with a federal labor agency.67 Works councils also have information and consultation rights. In contrast, in Singapore the National Wage Council issues guidelines that are voluntary (e.g., "Wage freezes for most companies," "Emphasize variable and performance-based pay"). Most government organizations adhere to these guides, but private organizations do so to varying degrees.68 Yet, even in countries with centralized bargaining, employers sometimes find ways to exercise autonomy. For example, subcontracting work seems to be one avenue for reducing the degree of constraint.69 Also, even though Volkswagen must negotiate with IG Metall in Germany, it does not have to do so at its new (nonunion) plant in Chattanooga, TN. Governments and trade unions are not the only institutions to limit managerial autonomy. Corporate policies often do so as well. Compensation decisions made in the home-country corporate offices and exported to subunits around the world may align with the corporate strategy but discount local economic and social conditions. While IBM corporate in Armonk, New York, expects all its worldwide operations to "differentiate people on performance" with total compensation, some IBM units in Tokyo remain convinced that Japanese IBMers in Japan prefer more egalitarian practices.70 Nevertheless, managers are expected to comply with Armonk. In sum, as the global guide depicts, international compensation is influenced by economic, institutional, organizational, and individual conditions. Globalization really means that these conditions are changing—hence, international pay systems are changing as well.

TRADE UNIONS AND EMPLOYEE INVOLVEMENT

Europe remains highly unionized: In Sweden, 67 percent of the workforce belongs to unions; in the United Kingdom, 24 percent; and in Italy, 34 percent. Asia is less heavily unionized. Japan's unionization rate is 17 percent, and Korea's is 10 percent. In some countries, workers' pay is set by collective agreements even though the workers may not be union members. In France, for example, more than 90 percent of workers are covered by collective agreements, even though fewer than 10 percent are union members.57 In addition to having higher rates of unionization, as we have seen, workers in countries like Germany have the right to establish works councils, which must be involved in any changes to a pay plan.58 In China, labor unions, although still closely linked to the Communist Party and thus not independent in the Western sense, are increasingly asserting themselves more strongly (especially at foreign companies with operations in China).59

OWNERSHIP AND FINANCIAL MARKETS

Ownership and financing of companies differ widely around the world. These differences are important to international pay. In the United States, corporate ownership and access to capital is far less concentrated than in most other countries. Fifty percent of American households own stock in companies either directly or indirectly through mutual funds and pension funds.60 Direct stock ownership is only a few mouse clicks away. In Korea, six conglomerates control a significant portion of the Korean economy, and the six are closely linked with specific families. In Germany, the national Bundesbank and a small number of other influential banks have ownership interests in most major companies. These patterns of ownership make certain types of pay systems almost nonsensical because ownership in the companies is not readily available for individual investors. For example, linking performance bonuses to increased shareholder value or offering stock options to employees makes little sense in the large conglomerates in Germany, Korea, and Japan. However, ownership in small start-ups in the nations is outside the traditional channels, so these firms do offer stock options to attract new employees.61 Recent tax law changes in many countries have made stock options more attractive, but limited ownership of many companies remains the rule. The most vivid illustrations of the importance of ownership occur in China and in eastern Europe (Poland, Hungary, Slovenia, Czech Republic, and Slovakia), where a variety of forms are emerging. State-owned enterprises still play a major role in China, but now township enterprises, wholly privately owned enterprises, joint ventures with foreign companies, and wholly owned foreign enterprises (WOFEs) play a much larger role in China than in the past.62 Indeed, according to the China Statistical Yearbook, National Bureau of Statistics China, the total wage bill of employed persons in urban units in state-owned units went from 77 percent of the national total in 1995 to 36 percent in 2015.63 Chinese employees switching from government-owned enterprises to these newer organizations find that both the pay and the employer expectations (i.e., the social contract) are substantially different.64 Individuals attracted to work in these various enterprises have different values and expectations. One study found that those working for local or town-owned enterprises prefer more performance-based pay than those working in federal-owned enterprises.65 Many families find it makes sense to have one wage earner working at a safe but low-paying government enterprise and another wage earner working at a private enterprise where expectations and pay are high. So it is clear that ownership differences may influence what forms of pay make sense. It is very misleading to assume that every place is like home.

BORDERLESS WORLD ⟶ BORDERLESS PAY? GLOBALISTS

Some corporations, particularly those attempting to become "globally integrated enterprises," are creating cadres of globalists: managers who operate anywhere in the world in a borderless manner. They expect that during their career, they will be located in and travel from country to country. According to a former CEO of General Electric, "The aim in a global business is to get the best ideas from everyone, everywhere." To support this global flow of ideas and people some companies are also designing borderless, or at least regionalized, pay systems. One testing ground for this approach is the European Union. As our global guide points out, one difficulty with borderless pay is that base pay levels and the other components depend too much on differences in each nation's laws and customs. Focusing on expatriate compensation may blind companies to the issue of appropriate pay for employees who seek global career opportunities. Ignoring these employees causes them to focus only on the local operations, their home country pay, and devote less attention to integrating operations in global firms. It is naive to expect commitment to a long-term global strategy in which local managers have little input and receive limited benefits. Paradoxically, attempts to localize top management in subsidiaries may reinforce the differences in focus between local and global management.

THE GLOBAL CONTEXT

Understanding international compensation begins with recognizing differences and similarities and figuring out how best to manage them. How people get paid around the world depends on variations shown in Exhibit 16.1—economic, institutional, organizational, and employee characteristics. These factors have been discussed throughout the book; now they can be applied globally. But once we shift from a domestic to an international perspective, the discussion must necessarily broaden. Organizations must first determine the degree to which each of these contextual factors constrain their compensation decisions and practices. Some constraints are regulatory (i.e., laws), while others may be more normative (national culture, the social contract).23 In some cases (e.g., laws/regulations), there may be little room to exercise strategy.24 On the other hand, in the case of other contextual factors (e.g., national culture), the constraint may be less than often believed.25 So, to be sure, there are differences, on average, between organizations, depending on the country.26 However, there is also evidence that different management approaches are used within the same country.27 To the degree that strategy can be exercised, an organization must decide the degree to which it will choose compensation practices similar to those used by other organizations and the degree to which it will be different. Being the same is perhaps less risky, but, by necessity, following the pack means there is little chance to stand out from the pack and thus little chance to achieve anything better than average performance.28 Also, in the international context, it is not always simple to follow the pack. A multinational corporation (MNC) having the United States as its home country may see a typical way of doing things there, but may see a different typical way of doing things in another country where it operates. If they want to play follow the pack or follow the leader, which do they follow? (There seem to be a lot of metaphors available here! Bonus points for you if you can name the group that sang "Leader of the Pack." Double bonus points if you can name the best-known sound effect in the song's performance and in which country the song was banned from the airwaves.) Evidence indicates that MNCs are influenced by the institutional pressures both in their home country and in the local context.29 To follow the (leader, pack, herd, lemmings, you choose), companies must balance pressures toward localization ("when in Rome . . .")—where compensation practice is tailored to each country—and standardization (where the objective is consistency, not with the local context, but instead with the organization's business strategy).30 Finally, organizations may weight the home and local country context differently for different jobs. For example, in higher-level jobs, the local country context influence may be weaker.31 In the following discussion, we highlight five specific contextual factors we feel are especially relevant in international compensation. These are variations in (1) social contracts, including the legal framework and regulation; (2) cultures; (3) trade unions; (4) ownership and financial markets; and (5) managers' autonomy. Although we separate the factors to clarify our discussion, they do not separate so easily in reality. Instead, they overlap and interact.

COMPARING SYSTEMS

We have made the points that pay systems differ around the globe and that the differences relate to variations in economic pressures, sociopolitical institutions, and the diversity of organizations and employees. In this section we compare several compensation systems. The caution about stereotyping raised earlier applies here as well. Even in nations described by some as homogeneous, pay systems differ from business to business. For example, two well-known Japanese companies, Toyota and Toshiba, have designed different pay systems. Toyota places greater emphasis on external market rates, uses far fewer levels in its structure, and places greater emphasis on individual-based merit and performance pay than does Toshiba. So as we discuss "typical" national systems, remember that differences exist and that change in these systems is occurring everywhere. The Total Pay Model: Strategic Choices - The total pay model used throughout the book guides our discussion of pay systems in different countries. You will recognize the basic choices, which seem universal: *Objectives of pay systems *External competitiveness *Internal alignment *Employee contributions *Management While the choices may be universal, the results are not.