Pay panel doles out mixed bag
Geetima Das Krishna, November 29, 2015
Money matters: Fiscal consolidation may take a hit; tax incentives could boost spending
The Seventh Pay Commission’s recommendations for revision of salaries of Central government staff and pensions have been made public recently. The Cabinet is yet to take a decision on this but it unlikely that the government will go against the report. Since it entails outgo of Rs 1.02 lakh crore annually, the government, when it accepts the report, needs to explain how it will balance finances.
The Seventh Pay Commission (SPC) has recommended a hike of 23.55 per cent in salary and allowances for 47 lakh employees and 52 lakh pensioners of the Central government that will have an impact on various macroeconomic parameters. However, the more than expected hike in salary expenditure increases the possibility of the Central government slashing productive capital spending to stay on fiscal consolidation path. Under the circumstances, will it be prudent to keep the fiscal deficit target at 3.5 per cent of the GDP next fiscal?
The SPC has recommended a 16 per cent hike in salary, 63 per cent increase in allowance and 24 per cent increase in pension – resulting in an overall hike of 23.55 per cent effective from January 1, 2016. As the Centre had not budgeted for the hike this year, it will be implemented from the next fiscal resulting in arrears of only few months. So, there will be no massive arrear burden for the government like the one experienced during the Sixth Pay Commission which was implemented in August 2008 after a delay of more than two years with significant salary hike of 35 per cent.
The good
In addition to salary hikes, the government has already implemented one rank one pension (OROP) scheme for the armed forces that will be another fiscal stimulus of about Rs 10,000 crore. Therefore, discretionary consumption will get a boost but the impact may not be as significant as the Sixth Pay Commission. In 2008-09, in addition to the salary hike (including arrears), there were other fiscal stimuli like farm loan waiver and MNREGA spending as it was the election year.
Later, these measures were supplemented by direct and indirect tax cuts to cushion growth against the global financial crisis. The situation is very different now. The government is reducing revenue expenditure to meet the fiscal deficit target. Rural consumption, accounting for about half of total consumption, will not get a boost as only 5 per cent of rural households depend on government sector jobs. So, a full-scale consumption boom is unlikely. There can still be a positive impact of 0.2 per cent to 0.3 per cent of the GDP.
Increased disposable income will lead to higher savings. Unfortunately, household savings had moved largely to unproductive physical assets like gold. Therefore, in order to attract this higher income in the hands of the government employees after SPC, the government should announce tax incentives in the upcoming budget for long-term financial savings, including infrastructure bonds, especially those which are available to the government for boosting capital spending. This will be good for the economy as higher investments is permitted by increased domestic financial savings without increasing external vulnerability.
The not so good
The SPC will push up inflation but may not result in an inflationary upsurge for two reasons. First, most endogenous systemic drivers of inflation remain weak like minimum support price for agro products, rural wages and employment prospects, as well as global commodity prices. Second, available excess capacity in the industry will allow an expansion in supplies in response to higher demand without affecting prices.
An important micro question is whether these hikes are in line with productivity increases? Taking into account the non-monetary benefits and allowances, the salary of the government jobs compare well with that in the private sector. The recommended minimum pay of Rs 18,000 is way above the market. One may agree with pay panel chariman Justice A K Mathur that instead of pay commissions, we should move to a system of continuing review and change to keep government salaries in line with the private sector. There should be special increases that are firmly linked to productivity. It is time the government employees at all levels make an effort for raising productivity and efficiency. This will yield better returns on the huge outlay on salaries and wages.
The bad
On an average, one-fourth of the total state and Central budget is spent on wages, salary and pension for government employees. So, it is quite obvious that the SPC will have a real fiscal impact. It is estimated that Rs 73,650 crore will be borne by the Union government– with increase in pay by Rs 39,100 crore, allowances by Rs 29,300 crore and pension by Rs 33,700 crore. Based on the recommendations, the Central government’s salary expenditure will increase by 23.5 per cent next fiscal over and above the “business as usual increase”. The average increase in last five years had been 11 per cent and so the overall increase will be around 34.5 per cent year-on-year. This will result in an increase in salary expenditure by nearly 0.6 per cent of the GDP next year.
The state governments have much larger work force and the wage bill is almost twice than that of the Central government. Most of the state governments set up their own pay commissions and replicate the recommendations. Assuming a similar 34.5 per cent hike in salary bill on an average, will have an extra impact of 1.2 per cent of the GDP on state budgets.
It is obvious that the government will deviate from the fiscal consolidation path unless revenue receipts move up by similar amounts, which is unlikely. Tax collection cannot be expected to increase substantially as growth is in early stages. Implementation of GST will be delayed. Tax revenues might increase from higher excise duties on petro products and increase in service taxes. On the expenditure side, there will be some savings from lower subsidy bill, prudent expenditure management and targeted cash subsidy transfer.
Even then, next year, the huge wage bill might force the government to prune expenditure from other productive avenues like social spending or capital expenditure to meet its deficit target. A cut in capital expenditure will result in deterioration in the quality of budget expenditure that would be inflationary. It will be wise to keep capital expenditure high to ease the supply bottlenecks and compensate for the significant weakness in private investment that is likely to persist for the next few quarters.
The government should not be dogmatic about fiscal deficit targets as that may prove to be a major growth dampener. This year, the fiscal deficit is tracking better than government’s target of 3.9 per cent of the GDP. It will be prudent to keep the fiscal target at around 3.8 per cent of the GDP in the 2016-17 fiscal to keep up higher allocation to capital spending. This will remove supply constraint, keep inflation in check against the backdrop of increased demand, improve the quality of growth and help the RBI to stay in neutral gear.
(The writer is senior researcher in Centre for Policy Research, New Delhi. Views are personal)
The Seventh Pay Commission (SPC) has recommended a hike of 23.55 per cent in salary and allowances for 47 lakh employees and 52 lakh pensioners of the Central government that will have an impact on various macroeconomic parameters. However, the more than expected hike in salary expenditure increases the possibility of the Central government slashing productive capital spending to stay on fiscal consolidation path. Under the circumstances, will it be prudent to keep the fiscal deficit target at 3.5 per cent of the GDP next fiscal?
The SPC has recommended a 16 per cent hike in salary, 63 per cent increase in allowance and 24 per cent increase in pension – resulting in an overall hike of 23.55 per cent effective from January 1, 2016. As the Centre had not budgeted for the hike this year, it will be implemented from the next fiscal resulting in arrears of only few months. So, there will be no massive arrear burden for the government like the one experienced during the Sixth Pay Commission which was implemented in August 2008 after a delay of more than two years with significant salary hike of 35 per cent.
The good
In addition to salary hikes, the government has already implemented one rank one pension (OROP) scheme for the armed forces that will be another fiscal stimulus of about Rs 10,000 crore. Therefore, discretionary consumption will get a boost but the impact may not be as significant as the Sixth Pay Commission. In 2008-09, in addition to the salary hike (including arrears), there were other fiscal stimuli like farm loan waiver and MNREGA spending as it was the election year.
Later, these measures were supplemented by direct and indirect tax cuts to cushion growth against the global financial crisis. The situation is very different now. The government is reducing revenue expenditure to meet the fiscal deficit target. Rural consumption, accounting for about half of total consumption, will not get a boost as only 5 per cent of rural households depend on government sector jobs. So, a full-scale consumption boom is unlikely. There can still be a positive impact of 0.2 per cent to 0.3 per cent of the GDP.
Increased disposable income will lead to higher savings. Unfortunately, household savings had moved largely to unproductive physical assets like gold. Therefore, in order to attract this higher income in the hands of the government employees after SPC, the government should announce tax incentives in the upcoming budget for long-term financial savings, including infrastructure bonds, especially those which are available to the government for boosting capital spending. This will be good for the economy as higher investments is permitted by increased domestic financial savings without increasing external vulnerability.
The not so good
The SPC will push up inflation but may not result in an inflationary upsurge for two reasons. First, most endogenous systemic drivers of inflation remain weak like minimum support price for agro products, rural wages and employment prospects, as well as global commodity prices. Second, available excess capacity in the industry will allow an expansion in supplies in response to higher demand without affecting prices.
An important micro question is whether these hikes are in line with productivity increases? Taking into account the non-monetary benefits and allowances, the salary of the government jobs compare well with that in the private sector. The recommended minimum pay of Rs 18,000 is way above the market. One may agree with pay panel chariman Justice A K Mathur that instead of pay commissions, we should move to a system of continuing review and change to keep government salaries in line with the private sector. There should be special increases that are firmly linked to productivity. It is time the government employees at all levels make an effort for raising productivity and efficiency. This will yield better returns on the huge outlay on salaries and wages.
The bad
On an average, one-fourth of the total state and Central budget is spent on wages, salary and pension for government employees. So, it is quite obvious that the SPC will have a real fiscal impact. It is estimated that Rs 73,650 crore will be borne by the Union government– with increase in pay by Rs 39,100 crore, allowances by Rs 29,300 crore and pension by Rs 33,700 crore. Based on the recommendations, the Central government’s salary expenditure will increase by 23.5 per cent next fiscal over and above the “business as usual increase”. The average increase in last five years had been 11 per cent and so the overall increase will be around 34.5 per cent year-on-year. This will result in an increase in salary expenditure by nearly 0.6 per cent of the GDP next year.
The state governments have much larger work force and the wage bill is almost twice than that of the Central government. Most of the state governments set up their own pay commissions and replicate the recommendations. Assuming a similar 34.5 per cent hike in salary bill on an average, will have an extra impact of 1.2 per cent of the GDP on state budgets.
It is obvious that the government will deviate from the fiscal consolidation path unless revenue receipts move up by similar amounts, which is unlikely. Tax collection cannot be expected to increase substantially as growth is in early stages. Implementation of GST will be delayed. Tax revenues might increase from higher excise duties on petro products and increase in service taxes. On the expenditure side, there will be some savings from lower subsidy bill, prudent expenditure management and targeted cash subsidy transfer.
Even then, next year, the huge wage bill might force the government to prune expenditure from other productive avenues like social spending or capital expenditure to meet its deficit target. A cut in capital expenditure will result in deterioration in the quality of budget expenditure that would be inflationary. It will be wise to keep capital expenditure high to ease the supply bottlenecks and compensate for the significant weakness in private investment that is likely to persist for the next few quarters.
The government should not be dogmatic about fiscal deficit targets as that may prove to be a major growth dampener. This year, the fiscal deficit is tracking better than government’s target of 3.9 per cent of the GDP. It will be prudent to keep the fiscal target at around 3.8 per cent of the GDP in the 2016-17 fiscal to keep up higher allocation to capital spending. This will remove supply constraint, keep inflation in check against the backdrop of increased demand, improve the quality of growth and help the RBI to stay in neutral gear.
(The writer is senior researcher in Centre for Policy Research, New Delhi. Views are personal)
0 comments:
Post a Comment