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Wednesday, September 28, 2016

7th Pay Commission: Significant uplift in urban discretionary demand doubtful

In the current financial year 2016-17, aggregate consumption is expected to be a key growth driver. This is because of a good monsoon this year and raised incomes of civil servants from the 7th Pay Commission award. The former is anticipated to buoy rural spending that had weakened from two successive years of poor rainfall, while the latter, it is imagined, will uplift urban consumer demand. 

With private investment failing to revive and exports contracting for more than a year now, it is supposed that private consumption and public capex will support aggregate demand. Growth forecasts across the spectrum incorporate these two components as major drivers accelerating growth this year.

These assumptions are not unreasonable. Rural incomes and spending are typically uplifted when agriculture flourishes. Since marginal propensities to consume at lower per capita income levels tend to be high, there is also more bang for the buck where spending by a more prosperous rural consumer is concerned. 

How much of a kick however can urban consumer demand get from the 7th Pay Commission award? The 7th Pay Commission— to examine and revise wages of central government employees—was constituted in September 2013, just five years after the actual implementation of the previous revision (6th Pay Commission). The latter was accepted in August 2008, but payments were retrospective, with effect from 1 January 2006. This meant that arrears on account of higher past earnings accumulated for two years and seven months. Then again, these were spaced out over two years, with 40% paid by the government in 2008 and the remaining 60% credited in 2009. The consumption impact, chiefly discretionary consumer spending, at the time was considerable, both because of quantum of payouts as well as the duration. Additionally, discretionary spending was further enhanced by lower duties on vehicles (4 percentage points) as part of the fiscal stimulus package to mitigate the 2008 crisis blow. 

Therefore, a mega consumption boost like the previous one can be ruled out in 2016-17. But even ignoring the discretionary consumption effects of lower excise duties in 2008-09, the lump-sum arrear payments that spur such spending are far less this time round. In comparison to the two and a half years of overdue payments made in 2008-09, accumulated dues from revised wages are for just seven months in 2016 as the new pay scales take effect from January this year. 

Moreover, the hike in allowances is deferred as this component is to be examined by a committee, which will finally decide on the matter. These will be paid only after submission of this committee’s report and the government takes a final call. Thus, net of taxes and statutory deductions like pension contributions, etc. the final amounts in the hands of central government employees are unlikely to be very large. 

Discretionary consumption, urban as well as rural, typically rises in October-December quarter in any case as people buy new durable goods on auspicious occasions like festivals and weddings. So an additional kick from revised wages may spur discretionary demand a bit more than usual. But it’s difficult to imagine urban discretionary consumption being significantly reinforced on account of the 7th Pay Commission in 2016-17. 

The rural consumption story is probably a stronger bet. 
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