Performance pay and employee turnover

The purpose of this paper is to explore how various performance related pay (PRP) schemes influence employee turnover. It also tests whether profit sharing has a differential impact on turnover in comparison to other forms of PRP.

Utilizing a nationally representative longitudinal dataset of individuals, analysis begins with a parsimonious specification of the determinants of turnover and then progressively adds various sets of controls known to influence turnover decisions to observe how their inclusion influences PRP coefficients. Estimations employ both standard probits and panel data models.

Empirical evidence reveals a negative relationship between an aggregate measure of PRP and turnover. Disaggregating performance pay measures by type reveals a robust negative relationship between profit sharing and turnover. Although one would expect the influence of other PRP schemes to mimic that of profit sharing, evidence suggests otherwise.

Data lack information on how much earnings are based on PRP. Consequently, estimates may be biased when combining those who receive little earnings from PRP with those who receive substantial amounts of PRP into a single PRP measure.

Although PRP schemes are often introduced to improve incentives and productivity, profit sharing based on firm profitability may allow labor costs to vary with firm profits hence enhancing retention and reducing the incidence of unemployment during recession.

This paper adds to the literature and fulfils an identified need to study how other types of PRP besides profit sharing influence turnover.