7th Pay Commission report: Reactions from rating agencies and brokerages

Here are the reactions from various rating agencies and brokerages on 7th Pay Commission report.

New Delhi: Rating agencies and brokerages have said the proposed 23.55 percent hike in salaries and pensions of government employees could hurt India's finances even as the Centre expressed confidence that the fiscal deficit targets will not be breached.

Minister of State for Finance Jayant Sinha said he was confident that the government will stick to fiscal consolidation laid out in the Budget.

However, rating agencies such as Fitch and S&P as well as brokerages like Citi warned that implementation of 7th Pay Commission's recommendations will impact the deficit.

Fitch Ratings said the Rs 1.02 lakh crore additional burden on the Centre, if the recommendation are implemented in toto, could challenge the government's goal of achieving a fiscal deficit of 3.5 percent in 2016-17 unless expenditure is cut or revenues raised.

Standard & Poor's said the implementation of Pay panel recommendations will "put pressure on the fiscal position of the government and would act as a constraint to stick to the roadmap for fiscal consolidation".

Citigroup too sounded the warning that if the fiscal deficit target is achieved through a cut in public investments, it could offset the gains on economic activity somewhat.

Expressing confidence that the fiscal deficit target will be met, Economic Affairs Secretary Shaktikanta Das said the Commission's report was expected and the government knew it will take effect from January 1, 2016.

"So this was something which was expected. Now the content of the report obviously the government was not aware. But government always has broad estimation of what is going to be the impact of a new pay commission recommendation and accordingly internally a kind of risk matrix is prepared," he said.

Most of the expenditure because of implementation of the report would come in next financial year, 2016-17, he added.

"So, government will deal with the situation. We will work out our numbers," he told a television channel. "So far as fiscal consolidation roadmap, fiscal roadmap is concerned, that will be maintained."

The recommendations that will benefit 47 lakh central government employees and 52 lakh pensioners, will lead to an additional outgo of Rs 73,650 crore from the Union Budget and Rs 28,450 crore from Railway Budget.

Das said the government had in the current financial year undertaken a slight expansion in fiscal deficit mainly for infrastructure projects.

"Next year we will work on our numbers as part of the budget. I am quite confident that the government will be able to maintain the fiscal deficit target for the next year," he said.

The government, Das said, "will not like to have any fiscal slippages just because that has got several consequences which government is very much aware of".

India Ratings said the Pay Commission award will be a demand booster to the economy, but may pose serious challenge to the government's fiscal consolidation path.

S&P's Rating Services India Sovereign Analyst Kyran Curry told that "India has a long history of high fiscal deficit and borrowing. The recommendations make the Government job of achieving the 3.6 percent fiscal deficit target in 2016-17 more difficult."

Citigroup, on its part, said: "Considering the rise in wage expenditure by 0.5 percent of GDP next fiscal and a likely reduction in corporate tax rate, the central government's target to reduce fiscal deficit from 3.9 percent of GDP this fiscal year to 3.5 percent in 2016-17 becomes even more challenging."

India Ratings said the pay commission is likely to cost the central government Rs 1.276 lakh crore (0.81 percent of GDP) in 2016-17 after factoring in arrear payments to be made for January-March 2016.

"However, after factoring in the share of the central government in increased tax collection (direct and indirect), the net impact on the exchequer will be lower at 0.68 percent of GDP," it said.

Fitch said the planned wage increase is "sufficient to add substantive challenges to achieving the planned medium-term consolidation targets".

"Delaying an improvement in India's fiscal position would underscore a longstanding weakness for the sovereign credit profile," it said in a statement.

According to Bank of America Merrill Lynch (BofA-ML), the Pay panel is likely to support consumption recovery in the country.

"The boost to consumption would largely be spent on consumer discretionary items and housing. This stimulus would persist for 2-3 years as the 7th Pay Commission award is implemented by state governments, public sector undertakings and universities," BofA-ML said in a research note.

"In our view, the Finance Minister will need to retain the 2016-17 fiscal deficit at 3.9 percent of GDP -- higher than 3.5 percent targeted -- to accommodate the 7th Pay Commission and OROP payout."

According to global financial services major HSBC, If state and local governments follow suit, the pay commissions can increase wages for up to 18 million employees, including the Centre, states and local administration employees, and this can have a "sizeable impact" on consumption.

"If it can absorb wage hikes without compromising on its fiscal consolidation or capex targets, today's wage increase recommendation could indeed be a net positive for sustainable growth," HSBC said.

"However, if a compromise is made, then the consumption boost could eventually translate into higher inflation," it added.

"The proposed pay rise poses a risk to fiscal health ... If the recommendations are adopted, they are likely to have a significant negative fiscal impact," economists at the foreign brokerage Standard Chartered said.

They said the 23.6 percent hike in 47-lakh strong Government employees' wages and a massive rise in pension for another 52 lakh are negative for sovereign risk profile but ruled out an immediate negative rating action by agencies.

Singaporean brokerage DBS described the pay panel report as a "fiscal headwind" because of almost 0.5 percent impact on fiscal math which it poses. In absolute terms, the recommendations, if implemented, will lead to an extra  burden of over Rs 1 trillion on the already stretched exchequer.

British brokerage HSBC said the recommendations are higher-than-expected and come at a time when the Government has affirmed its commitment to gradually reduce fiscal deficit to 3 percent of GDP. It said fiscal impact of the wage hike can be absorbed by upping divestments, initiating food subsidy reforms and streamlining expenditure.

"The Government can still make possible the 'impossible trinity' of meeting three fiscal objectives simultaneously -- higher wage payout, fiscal consolidation and strong capex," HSBC said in a note.

The alternatives available to meet the trinity before the Government require hard work, it said, elaborating that reforms in food subsidy can potentially help save 0.2 percent of GDP, expenditure management can help with another 0.2 percent while higher divestments can help with 0.2 percent.

"If Government compromises on capex or leaves its fiscal stance too loose, the gains in growth could quickly translate into inflation," it said, stressing that the house rent allowance, which is set to be increased, has a weight of 10.1 percent in the retail inflation basket.