Fitch: India Wage Bill Will Challenge Fiscal Consolidation Plans

A recommended 23.55% increase in remuneration for India's central government employees, if fully implemented, would have a significant impact on the government's wage bill, and add to challenges the government faces in achieving fiscal consolidation targets, says Fitch Ratings.

The suggested wage increase by the 7th Pay Commission would come into effect at the beginning of the 2016 calendar year. The recommended increase is less than the 40% that was implemented after the last commission in 2008. On its own, the pay rises would increase the central government's wage bill by around 0.5% of GDP. It is important to note though that this would also likely affect state government finances as they would be inclined to follow suit.

The central government has earlier indicated a target fiscal consolidation of 0.4% of GDP for a deficit of 3.5% in the fiscal year ending 31 March 2017 (FY17), down from 3.9% in FY16. As such, the planned wage increase is sufficient to add substantive challenges to achieving the planned medium-term consolidation targets.

The government could seek to cut expenditures in other areas. There may be some room to rein in the subsidy bill, for example. But the government may find cuts in capital expenditures undesirable, especially as investments are planned to play a key role in its efforts to stimulate the economy.

Whether the medium-term consolidation targets can be realised therefore, may depend on whether the government can mobilise higher revenues. An expected pick-up in real GDP growth will help, and increasing government employee wages should stimulate consumption. The government is also rolling out a number of reforms to improve the business environment, but there has yet to be any reform or policy initiatives that Fitch expects would lead to a structural increase in government revenues.

Despite the challenges, there is no indication that the government will not achieve its short-term FY16 fiscal deficit target. However, the government could yet amend its medium-term targets and further delay achieving a deficit of 3.0% of GDP, currently targeted for FY18. The fiscal consolidation plan was postponed by one year in the last budget. Delaying an improvement in India's fiscal position would underscore a longstanding weakness for the sovereign credit profile. The general government deficit that includes the budgets of the central and state governments, is above 6% of GDP while the general government debt burden of close to 65% of GDP is the highest of all 'BBB-' rated countries. The 'BBB' category median is 43% of GDP.