HIKE AND EFFECT PAY COMMISSION RECOMMENDATIONS AREN’T INFLATIONARY

Pay commission recommendations aren’t inflationary. But the fiscal deficit targets may prove unrealistic

The Seventh Central Pay Commission has recommended an overall increase of Rs 1.02 lakh crore at a growth rate of 23.55 per cent in pay, allowances, and pension (PAP) for Central government employees.

More specifically, the increase is 16 per cent in pay, 63 per cent in allowances and 24 per cent in pensions. This, as per the commission’s calculations, will lead to an increase in the salary bill by about 0.65 per cent of GDP.

First, there should be two corrections. One, the increase in the salary bill should be 0.63 per cent of GDP. Two, the increase in the estimated share of the PAP in total revenue expenditure should be 3.81 per cent, as against 4.25 per cent suggested in the commission’s report.

These recommendations will benefit about 1.4 crore government employees with effect from January 2016 and are expected to have a significant impact on the overall macroeconomic parameters, such as the GDP, fiscal deficit, as well as inflation.

Let us look at such possible impacts in the coming year.

On the positive front, the commission’s recommendations are based on a strong macro-fiscal framework that focuses on the three core issues: Current macroeconomic conditions, the need for fiscal prudence and fiscal sustainability, and ensuring adequate resources for developmental and welfare projects. Following this, it clearly shows that compared to the Sixth Pay Commission, the latest recommendations would result in minimum macroeconomic shocks to most of the macroeconomic variables.

 For instance, as compared to a hike of 54 per cent in the minimum pay in the Sixth Pay Commission, the hike this time is just about 14.3 per cent. Apart from this, the report has also removed many of the ambiguities that the previous pay commission had introduced. This has further improved the predictability of the fiscal burden.

The commission assumes a nominal growth of 11.5 per cent with an inflation rate of 4 per cent in 2016-17. At the same time, it sticks to the Fiscal Responsibility and Budget Management (FRBM) target of 2.4 per cent (for revenue deficit) and 3.5 per cent (for fiscal deficit), which, in turn, intrinsically assumes there would be no change (especially no reduction) in the growth of capital expenditure in 2016-17 compared to 2015-16.

The share of capital expenditure is pegged at 1.1 per cent of GDP for both FY16 and FY17. But this leads to an inconsistency.

The commission’s recommendations will raise the revenue deficit by 0.63 per cent of GDP, with no change assumed in the capital expenditure and yet, it hopes to achieve the fiscal deficit target of 3.5 per cent in FY17.

This appears to be grossly inconsistent. The fiscal deficit was targeted to decline by 0.4 percentage points from 3.9 per cent (in FY16) to 3.5 per cent of GDP (in FY17). And considering that the consensus GDP growth forecast for the current financial year is just 7.2 per cent, the commission’s expectation of a 7.5 per cent GDP growth in the next financial year (FY17) looks unrealistic.