Salary budget 2025: Understanding the fallout of inflation

by Victoria Kelleher, Lead Survey Specialist at Brightmine

On September 18th, 2024, the Federal Reserve announced a long anticipated interest rate cut — a clear indicator that inflation has dropped to target levels. However, inflation rates surged beyond the pace of wage growth in 2021 and 2022, with many companies holding wages stagnant or even cutting them due to the uncertain economic landscape.

Employers often benchmark against other companies when making decisions about how to adjust the salary budget for an upcoming year. However, after such an unusual disruption in the pattern of inflation, employers may need to consider the implications of decisions they have made in recent years to decide whether it is appropriate follow the majority.

2025 salary budget projections

A recent pulse survey from Brightmine, formerly XpertHR, found that the average projected change for total salary budgets from 2024 to 2025 is an increase of 3.8%. This is well over the current level of inflation, which recent readings place at 2.4%. However, retrospective data shows a period in which inflation exceeded the average salary budget increase significantly (see Chart 1).

Chart 1: Actual salary budget growth versus inflation, 2021 to 2024

Even though inflation rose to unprecedented levels in 2021 and 2022, our data shows that few companies increased salary budget proportionally for these years. Most companies either kept the magnitude of raises the same as previous years (38%) or even cut raises altogether (17%). Among those that issued a steeper increase for raises, a slim minority met or exceeded the rate of inflation, while about a third distributed raises that were slightly higher than normal but still below the inflation rate.

Most companies took a cautious approach in these years to avoid making rash decisions that might backfire in an uncertain economic climate. Though this may have been the right call at the time, employers should not lose sight of the way employees may have experienced misalignment in these factors if there has not yet been a correction. In a high inflationary environment, even a standard raise of 3% may be experienced by an employee as a pay cut when that money does not seem to go as far as it would have in the past.

Companies that were highly conservative about budget changes in recent years may be experiencing cascading effects on business outcomes today if they have not been able to bring wages back in alignment with the cost of living. Our recent data shows those that gave employees higher-than-usual raises during years with high inflation are more likely to report recent improvement in key performance indicators like turnover and engagement when compared with those that cut raises in these years (see Chart 2).

Chart 2: The effect of alignment of raises with inflation

Takeaway

When salary budget decisions are made, employers often factor in projections for next year to ensure they are aligned with competitors. However, our data shows that today’s trends in turnover and engagement may be rooted in decisions made around salary budget in recent years, which can differ from company to company.

Employers that took a highly conservative stance in response to inflation may need to recalibrate between wages and the cost of living to come closer into alignment. An audit of compensation compared to current market rates may help them to identify and correct lagging salaries, avoiding the relatively higher cost of recovering from an uptrend in turnover or disengagement.

However, not every company is in the position to boost salaries across the board. Those with budget constraints should prioritize employees who are at the highest risk of leaving, which tend to be those who live paycheck-to-paycheck. These employees can be identified by cross evaluating salaries with the cost of living by state.

Alternatively, employers may be able to get a sense of financial well-being across the workplace by surveying employees about factors like financial stress and salary satisfaction. If money is tight, prioritizing these employees to bring their compensation more in line with the cost of living will be the most stabilizing approach, even if it requires making sacrifices for compensation increases at higher levels of the organization.