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Employment Cost Index:

Compensation Consultants: 2Q Wages Flatten amid Freezes, Furloughs, Pay Cuts

Companies Now Pay What They Can Afford, Not What the Competition Dictates
Workers Rushing to Doctors Before Insurance Runs Out, Straining System
With No Predictable Timeline to a Recovery, Everyone on Hold

By Gary Rosenberger

NEW YORK (EconoPlay) July 17 – Wages flattened in dramatic fashion in the second quarter as job losses sucked away negotiating power for all but the most specialized of workers – and bosses imposed wage freezes, pay cuts or worse to get by, compensation consultants say.

Companies no longer look to the competition to set the bar on wages. Instead they now pay what they think they can afford to pay – with little regard for worker retention in an economy glutted with job seekers.

Even though visions of pure doom have ebbed, nobody seems to agree on the timing of a recovery – which appears to be neither V-shaped nor U-shaped but something more squiggly.

The healthcare benefits side of the compensation equation is in shambles.

Workers are rushing to treat every ailment before their insurance runs out (a huge strain on insurance companies, hospitals, and employers) – with further pressure now coming from laid-off workers, whose newly revamped COBRA plans are generous to a fault.

While the Obama Administration and Congress are blazing a path to healthcare reform, no one seems inclined to probe too deeply into this latest legislative sausage factory until the results are in.

The underlying philosophical debate is who is better at mismanaging healthcare – the private sector, which has handed Americans an unaffordable and broken system, or government, whose stewardship of Medicare seems to speak for itself.

Cut Workers or Cut Pay

“Companies have switched their focus from what is my competition doing on compensation to what can I afford,” said Steve Gross, employee compensation leader for Mercer Human Resources Consulting, in Philadelphia.

“The No. 1 question I get from my clients is do I lay off workers or do I cut pay?” he said. “What I advise them is, if you think you will need the workers in six months then share the pain. If you won’t need workers until 2011 then sever workers and help out the survivors.”

The problem is that companies can’t time the recovery, so they’re doing a bit of both. “They’re laying off. But they’re also freezing salaries and making other tough decisions to get through this malaise – furloughs, sabbaticals, reducing work hours,” Gross noted.

His latest salary budget survey shows employers projecting a 2.5% increase for 2010 – a significant retreat from the 3.5% to 4.0% increases that were typical prior to the meltdown.

But projections tend to be optimistic this early in the salary budget cycle. “Just because you have a budget doesn’t mean you have to spend it. Right now, the market says we don’t have to,” he said.

One client, a large utility, plans to impose a company-wide wage freeze with an exception for nuclear engineers, who have been in short supply since the Three Mile Island accident in 1979. Another consumer products company told him it would impose a wage freeze on assembly workers but not on sales staff. “Every organization has its Save the Children fund,” he said.

Yet for all this retrenching, he senses an optimistic turn. “In the first quarter it was all about hunkering down and paralysis. Now people can at least think about next year,” Gross said.

Wages Holding Flat

Paul Gavejian, managing director of Total Compensation Solutions in Armonk, New York, believes no real recovery is likely until executives stop looking to government to take the lead on decision-making. And without a recovery, he sees inertia on wages.

“Companies will probably hold wages flat until the end of the year because, frankly, there’s no place else for worker to go right now,” he said.

“Some companies are doing a trickling of hiring, but only when absolutely necessary,” he added. “They’re more likely to push the surviving workforce until they begin to drop out.”

How companies react to the downturn depends on how badly they were hit. “If you’re a company that suffered severely, you’re cutting staff – if you haven’t done so already,” he said. “If you were moderately affected, you freeze wages or make furloughs mandatory. If you’re relatively unscathed, you put in a marginal increase of maybe two percent.”

Gavejian’s clients tend to believe there’ll be a turnaround by year-end. “But it all hinges on the banking sector freeing up capital,” he said. “When they do free up the TARP money, small-and medium-sized businesses will begin to invest in people again and knock down the unemployment we’re experiencing now.”

David Leach of Strategic Apex Group, an executive compensation consulting group in Santa Monica, California, also senses top executives feeling more optimistic about business conditions.

But they’re also fending off demands from politicians, the SEC and shareholders for greater transparency on executive pay, which came to symbolize the self-dealing that preceded the collapse. “The whole environment is pushing for more and more disclosure on compensation,” Leach said.

For TARP recipients, the latest gauntlet is “say-on-pay” – a non-binding vote on executive pay conducted at shareholder meetings, he added.

Yet Leach doesn’t hear about any declines in executive pay. “It’s more like everyone is being cautious on increases. Nobody wants to step forward and take the lead on compensation because nobody wants to be a target,” he said.

“Since we last spoke, wages have been in flux,” said Jason Kovac, compensation practice leader at WorldatWork, the association of compensation professionals.

The 2009-2010 WorldatWork Salary Budget Survey had some 50% of employers imposing some form of pay reduction in the past 12 months. Other measures to cut labor costs included wage and hiring freezes, furloughs, and layoffs or eliminating 401(k) contributions, he said.

He sees wage freezes happening at a particularly alarming rate. Only 2% of respondents planned to freeze merit budgets in the 2008 survey with the number spiking to 30% to 40% in the latest survey.

“The light at the end of the tunnel is that about two-thirds of U.S. employers are planning to give base pay increases to about 80 percent of their employees next year,” Kovac added.

Healthcare Under Strain

“I don’t see the stabilization that economists see,” said Jim Watt, president of Employee Benefit Solutions in Houston.

“The conditions I see are looking worse than they did a quarter ago. We haven’t seen an economic recovery down here. Employers are still laying off people, foisting pay cuts and reducing health benefits,” Watt said. “I see, firsthand, employers going through second and third rounds of cuts. The situation here is getting dire.”

The healthcare situation strikes him as deplorable, but he worries that a government takeover will only make matters worse. “You only need look at Medicare to see what happens when the Federal government manages healthcare,” he said, citing published reports of $37 trillion dollars in unfunded future obligations. “With all our screwing around in Iraq these last seven years that only cost us a trillion.”

He thinks government programs are not likely to lower the cost of healthcare as much as they would merely push those costs into the future.

And healthcare costs are beginning to rise again. “It’s a function of the presidential election cycle. The cost of healthcare always goes down before a presidential election and rises again after the election. It’s a historical cycle that is indisputable,” Watt said.

Layoffs and the fear of layoffs also have workers scurrying to doctors to treat every ailment before their insurance runs out, creating a spike in utilization. On top of that COBRA plans have been revamped to make it an irresistible option for laid-off workers, further straining the system.

“We do see unit costs growing and utilization increasing. We see it in the absolute volume of claims and in the claims per thousand,” Watt added. “I also see companies going bankrupt and taking their healthcare plans with them.”

His latest survey of 143 employers, covering 284 medical plans and 540,000 employees, shows that average medical plan costs in Houston increased 7.1% this year, up from a 4.6% increase in 2008, which represented a 10-year low.

Aaron Berg, president of Health Plan Manager Corp. in Mount Arlington, New Jersey, said the announcements on premium increases are still another two months away, and he has heard no rumors on the direction of pricing.

“At least we’re no longer in the 15 percent world. Now we’re in the 6 to 8 percent world,” he said. “But that’s not good enough for most companies. Most companies are still hurting and are looking for benefit plan changes to reduce those increases even more.”

Berg continues to see companies driving toward “consumer-driven” plans on a wholesale basis. “Consumer-driven is a misnomer,” he said. “They’re really high-deductible plans that make consumers pay the first dollar out of pocket, so they won’t be inclined to spend money on healthcare.”

He, too, has seen a spike in health insurance claims both from workers who are fearful about layoffs and from the unemployed who bought into heavily subsidized COBRA plans.

“We’re COBRA administrators and the number of people we see on COBRA has skyrocketed,” Berg said. “With Obama’s 65 percent subsidy, we regard anyone who doesn’t take it as a fool. It’s so inexpensive it’s intoxicating.”

In the past, he would see no more than 5% to 15% of the jobless picking up the plan. Now it’s 60% or more. “It’s almost automatic,” he said. “The claims we see are high and for larger amounts. It costs so little that it pays to go to the doctor.”

The terms are generous to a fault. “If you have a job, your health benefits cost you more than if you’re unemployed. I hate to say it, because I’m a big Obama supporter, but Obama blew that one,” Berg said.

He has gotten queries from smaller clients asking if it might be wise to simply shut down their current benefit plans and help their employees pay their COBRA costs. “I tell them it’s not a bad idea. But so far nobody’s actually done it.”

He doesn’t have much faith in the Administration’s ability to enact healthcare reform given the entrenched powers. “These should be really exciting times for people like me,” Berg said. “But I sort of blocked it all out. It’s too much of a merry-go-round.”

For one, he argues that spreading the cost of medical care is not the same as reducing the cost of care. He also wonders whether President Obama has spread himself to thin to fully dedicate himself to healthcare reform.

“In my memory I have never seen any president having to take care of more business in a shorter amount of time,” Berg said. “Thank God he’s a young man. As a young man, he not only has a long-term vested interested in fixing the system, he has the energy to get something done.”

“There are many moving parts to comprehensive health care reform – and the administration is boldly attempting to address access, quality, and costs at the same time,” said Lenny Sanicola, benefits practice leader at WorldatWork. “The Obama administration believes that true economic security can only be realized with true healthcare reform.”

But the Administration has a long slog ahead as it also seeks to make the cost of reform “deficit-neutral” by expanding use of electronic records, reducing Medicare and Medicaid payments, creating a public plan option that private insurers would have to compete with, require businesses to provide coverage to workers or face fines, and other mandates.

“All of these items, as well as taxing employer benefits, are being addressed by both the House and Senate – each finding it difficult to reconcile the desires of various proposals and constituents,” Sanicola said. “Only time will tell what the ultimate influence of the White House will be in shaping health care policy and what actually arrives on the President’s desk.”

Meanwhile, an operating-room nurse who works at a private outpatient clinic in Los Angeles has seen an increase in the number of patients coming in for procedures, but also hears complaints from hospital administrators that revenues are down.

“We’re seeing more gastrointestinal procedures and cataract operations. We are seeing a lot less plastic surgeries,” she said.

“Plastic surgeries used to account for 40 percent of revenues at the clinic and now they account for maybe 10 percent,” she said. “Plastic surgeries are all cash and people are running out of cash in Los Angeles.”

That leaves a higher proportion of older patients doing non-elective procedures. “Many of them are on Medicare and Medicare pays less and less each year. So we’re seeing more patients and getting less money,” the nurse said.

In Hollywood, there seems to be a move by entertainment companies to refashion full-time workers into part-time workers, fueling the charge toward government care.

“I have a ton of friends who used to work full-time at MTV,” said Tara, a production assistant for numerous music videos and reality-TV shows. “They were all fired and then hired back as permalancers with absolutely no benefits. They’re all struggling.”

The U.S. Labor Department is scheduled to release the Employment Cost Index for the second quarter on Friday, July 31 at 8:30 a.m. ET.

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