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Implications of high public sector wage bill on economy

COUNTIES
By James Anyanzwa | Mar 16th 2014 | 2 min read

By James Anyanzwa

KENYA: The bloated Government wage bill will have a negative impact on sustainability of the country’s growth trajectory.

 Economic growth will be consumption driven rather than investment driven and is therefore likely to be unsustainable.

The increased wage bill stimulates domestic demand due to increased disposable income. However, this demand is largely directed to non-productive sectors hence it is unsustainable. Overall, consumption as a percentage of GDP will increase even as investment levels decrease denoting that the new government wage bill may perpetuate hyper consumerism in the country.

The additional wage pressure is likely to have adverse effects on the investment pattern of Government thereby impacting negatively on Vision 2030 projects.

Government expenditure will increase significantly thereby necessitating increased borrowing and therefore increasing interest rates and crowding out the private sector from credit.

The current account balance is set worsen on account of a worsening trade balance occasioned by increasing imports even as exports remain the same.

The increased wages will impact negatively on poverty and rural development in the long run.

 Financing Options for the public sector wage adjustments:

• Increased borrowing from the domestic market but this will pose a major risk to public debt sustainability and is therefore not a feasible option. The government does not have an option of borrowing either internally or externally to fund the wage increment

• Raise general tax rates on Income tax, Pay-As-You-Earn and VAT.  But taking into account the current economic situation as well as the country’s development agenda, the government acknowledges that raising the general tax rates will not be feasible especially due to current economic hardships as well as the likely negative impact on tax compliance and the business climate

• Raising Income taxes, PAYE and VAT has the effect of reducing disposable income thereby stifling consumer spending. This is likely to have a negative impact on output and employment growth. An increase in general taxes will impact negatively on poor households due to the decreased income levels, causing poverty levels to increase

• Expenditure cuts, new tax measures and additional tax administrative measures to seal loopholes in revenue collection. The government views this as a viable option to meeting the country’s added expenditure obligations

• Improvement in customs administration, VAT reforms and enforcement of rental income tax are all expected to enhance revenue collection


 

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