How and What You Pay Matters: The Relative Effectiveness of Merit Pay, Bonus, and Long-Term Incentives on Future Job Performance

Abstract

Companies regularly use multiple types of pay-for-performance plans to motivate and sustain high performance levels. Although research generally confirms that pay-for-performance plans can influence these outcomes, it is unclear how effective different pay plans are relative to each other. The current study examines how three different forms of pay-for-performance plans—merit pay, individual-based annual bonuses and long-term incentive plans—influence employee future performance when they operate simultaneously. The results of this study suggest that the effects of pay-for-performance plans on employee future performance can be explained by the strength of the link between pay and performance for each plan and the financial nature of the awards from each plan.