A rapidly growing body of literature and research indicates that flexibility and equity have now come to occupy a vital place in remuneration schemes and the inability of strike a balance might results in breach of psychological contract. This brings us to some relevant concepts in the discussion of fair pay system today. First we need to understand that when an employee starts working for an organization, it establishes a relationship between the employer and the employee. We call these exchange relationships since employee promises to offer something for the payment he hopes to receive. His services include loyalty, dedication, commitment and good performance. In return he hopes to be paid in a way that would match his talents and his input.
One very important concept in this regard is that of equity theory that helps us to see why we need flexibility and fairness while creating a remuneration strategy. Equity theory studies the psychological acknowledgment of being treated equally. This is a very relevant concept and one that is being used increasing in developing fair pay system. Equity theory states that employees must feel that they are being treated fairly when they compare their pay with those of their counterparts at the same position. This is where inputs and rewards are closely studied. Employees would want to make sure that their input, if it is equal, must follow equal rewards. Adams (1965) explained that equity theory studies the ingrained mental process that allows a person to see how are efforts being rewarded and whether or not same efforts are being rewarded with similar returns. Equity theory further states that if people experience inequity, they will change their behavior in order to attain the feeling of equity or remove the tension that arises from the feeling of inequity. If they feel that their ratios are lower when compared to those of their colleagues in the same position, they will start behaving in a negative fashion to bring their ratios at par with their efforts. Some will start coming late to work, or decrease their inputs or not meet deadlines etc.
Psychological contract is another important concept which has been helpful in developing fair pay systems. Argyris (1960) who coined this term describes it as a 'set of practical and emotional expectations of benefits that employees and employers can reasonably have of each other.' Since that time, the term has been defined and redefined a number of times with Rousseau's definition becoming most influential:
'An individual's belief regarding the terms and conditions of a reciprocal exchange agreement between the focal person and another party A psychological contract emerges when one party believes that a promise of future returns has been made, a contribution has been given and thus, an obligation has been created to provide future benefits'. (Rousseau 1989)
Pay is generally the most important part of the contents of a psychological contract. In a UK study conducted by Herriot et al. (1996), it was found that employees used fairness and pay most frequently when work environment was discussed. It was the two things that topped the list of things that employees paid attention to when discussion of work environment came up.
Pay for performance is the third most commonly discussed concept in development of fair pay system. Recent developments in the field of management and performance-based evaluation systems provide conclusive evidence of the fact that the understanding of