Economic Survey bats for labour reform, rethink on pay deductions

Survey seeks review of mandatory deductions such as PF in organized sector to raise take-home pay of employees


Less than 10% of India’s over-470 million workforce is in the formal sector, leaving the bulk of human capital in the informal sector with few benefits such as social security. Photo: Reuters
Less than 10% of India’s over-470 million workforce is in the formal sector, leaving the bulk of human capital in the informal sector with few benefits such as social security. Photo: Reuters

New Delhi: Calling for structural changes in the labour market, the Economic Survey 2015-16 on Friday underlined the need to reduce regulatory hurdles and rethink mandatory deductions on heads such as provident fund from the salaries of organized sector employees in order to raise their take-home pay.

The survey said that low-salaried organized sector employees are losing a little more than 44% of their salary in mandatory deductions under several heads, including Employees Provident Fund (EPF) and employees’ state insurance.

In contrast, employees on higher salaries are losing only 7% through such deductions as they can choose whether or not they want to contribute to their pension.

“Policymakers should consider whether lower earners should be offered the same choice—of whether to contribute part of their salaries to the EPF—which the rich have,” the survey said.

EPF is mandatory for all employees earning up to Rs.15,000 a month but optional for those earning more. Once you start paying EPF, you cannot discontinue it. Every month an employee pays 12% of his or her salary as EPF deduction and the employer contributes a matching amount.

The survey said giving an option to low-paid workers will “both introduce competition in the market for savings, which may improve EPFO’s (Employees Provident Fund Organisation) service standards, and allow the poor—some of whom may be liquidity constrained—to optimize as per their own personal requirements”.

It suggested that while employees can be given the freedom to not contribute their share of 12%, the employer’s EPF share can continue.

“The only difference would be that employees can choose whether or not to save 12% of their salary in EPF or take it home. Such a change would effectively reduce the tax on formal sector labour while leaving informal sector labour costs unchanged,” said the Survey.

The suggestion comes as the labour ministry looks to amend the EPF Act and club several allowances, along with basic pay, for provident fund deductions.

Industries and staffing companies are against the move.

In a poll conducted by an unnamed staffing company for the finance ministry “via phone with associates of one of India’s largest contract labour companies”, it was found that 70% of workers polled wanted to receive cash in hand rather than their EPF deductions, the survey said.

“This approval rating could signify that a large portion of workers are liquidity constrained—or it could suggest that the functioning of the EPF can be further improved,” the survey stated.

In a chapter called Structural Changes in India’s Labour Market, the survey also spells out the “constraints on formalization” of the labour force.

Less than 10% of India’s over-470 million workforce is in the formal sector, leaving the bulk of human capital in the informal sector with few benefits such as social security.

“To exploit its demographic dividend, India must create millions of ‘good’—safe, productive and well-paying—jobs. These tend to be in the formal sector,” said the survey.

It said that over-regulation has led to contractualization of the labour force, and this is higher in states where labour regulations are more rigid.

“In a recent survey, medium-sized formal sector manufacturing firms reported labour regulations to be a significant barrier to growth, and specifically ‘dismissal norms under the Industrial Disputes Act and the cumbersome nature of compliance with labour regulations in general’,” the Survey said.

It said that the slow pace of labour reforms has encouraged companies to resort to other strategies to negotiate “regulatory cholesterol”.

Recent research has found that districts which saw an increase in staffing agency employment also experienced an increase in the proportion of large plants and a reduction in marginal labour costs and adjustment costs among large firms, the survey said, without giving details of the districts.

However, it hailed the labour reforms launched by states such as Rajasthan and reiterated the need for easing labour compliance through cooperative federalism.

“Indeed, there is evidence that hiring contract workers today hurts a firm’s productivity tomorrow, precisely because contract workers do not accumulate ‘firm-specific human capital’,” it said.

“If they allow low-paid employees to not contribute for statutory deductions, it will make formal sector jobs attractive because of better take-home pay and allow more liquidity for consumption, “said K.R. Shyam Sundar, professor of human resource management at XLRI Jamshedpur.

But it may not work best as the wage hike will be “illusionary and not real” and social security savings will reduce.