7th pay commission: Hike in HRA leads to CPI inflation, claims RBI's research

A research paper by the Reserve Bank of India has found that the revised House Rent Allownce (HRA) under the seventh pay commission has impacted the CPI inflation by nearly 35 basis points at its peak. The research was conducted by the monetary policy department of the central bank. The latest study might shattered all hopes of hike in minimum basic salary under 7CPC of around 50 lakh central government employees. 

"Ex-post analysis of CPI shows that the 7th CPC's HRA increase pushed up headline inflation prints gradually from July 2017, with a peak impact of about 35 bps," the research paper titled 'Impact of Increase in House Rent Allowance on CPI Inflation' said.

The increase in HRA under the 7th pay commission was put into effect from July 2017. As per the recommendations of the pay panel, the basic pay of central government employees was increased by a factor of 2.57. This led to HRA being revised by 105.6 per cent that is more than double the pre-CPC level.

The paper studied the impact of increase in house rent allowance (HRA), following recommendations of the Seventh Central Pay Commission (CPC), on headline inflation. 

"It is seen, that the HRA increase pushed up measured housing inflation significantly, with a peak impact of about 35 basis points. The impact is seen across most States and Union Territories. The paper shows that, so far, the actual impact of the HRA increase on headline consumer price index has turned out to be similar to the ex-ante assessment provided by the Reserve Bank in the Fifth Bi-monthly Monetary Policy Statement, December 2017", RBI's research paper said. 

"Since July 2017, housing index in CPI is inclusive of the impact of the 7th CPC’s HRA increase. To segregate this impact, CPI is reconstructed by replacing the housing index with an estimated index using the previous year’s trend. The gap between observed inflation and inflation from reconstructed index shows that over six months, the HRA increase gradually pushed up headline inflation by 35 bps and the impact remained till the latest data print of March 2018.7 The corresponding impact was more than double in CPI excluding food and fuel as house rent has a weight of 20.1 per cent in 
it," the paper further mentioned. 

The paper suggested that since proper assessment and understanding of HRA impact is important for policy analysis, the producers of CPI may consider - for the future base revisions, while preparing fixed sample of dwellings for each state for collecting house rent data, representative share of government houses that reflect the actual share of central and state government houses in the states may be kept.