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Chapter 1. Introduction

Author(s):
Natalia Tamirisa, and Christoph Duenwald
Published Date:
January 2018
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Economic and social challenges have intensified across the Middle East and Central Asia. Despite a stronger global economy, the growth outlook for the region remains subdued (IMF 2017). Weak economic growth and high unemployment are putting pressure on the public sector to absorb labor market slack, while deteriorating fiscal positions necessitate adjustment. At the same time, countries need to work toward the SDGs, and public demands to improve the delivery of and access to public services are rising, in part because of young demographics and sizable inflows of refugees or migrants. Looking ahead, these pressures will continue to mount. More than 5 million new workers are expected to join the labor force annually in the Middle East and North Africa alone. Technological innovation will require rethinking the delivery of public services and the size of government. Flattening of the age pyramid could translate high public wage bills into significant pension liabilities in the future.

Policymakers in the region are looking for ways to finance policies that tackle these challenges. With fiscal headroom decreasing due to lower oil prices (oil exporters)1 and remittances (oil importers)—and, in some cases, in the context of internal conflict, large inflows of refugees, and/or heightened security risks—country authorities are stepping up efforts to collect more revenue in an equitable way and adjust expenditures in favor of pro-growth outlays such as infrastructure, while ensuring adequate social protection. Strategies to tackle these challenges have been addressed in recent publications, including on fair taxation (Jewell and others 2015); subsidy reforms (Clements and others 2013; Sdralevich and others 2014); adjusting to lower oil prices (IMF 2015a; Sommer and others 2016); dealing with the economic implications of conflicts (Rother and others 2016); and raising growth (Mitra and others 2016).

An additional option for many countries in the region is to reform their large public wage bills. Not only are public wage bills in most of the countries in the region higher than those in global peers, they have also not produced the desired economic and social outcomes. Public compensation exceeds private compensation in many countries compared with global peers, even at similar skills levels. This suggests that countries could benefit from redirecting budget resources from public wage bills to more productive uses.

Policymakers in many countries have recognized the need to evaluate their public wage bills in the context of broader fiscal reforms. Indeed, countries that face fiscal pressures need to decide on the composition of the adjustment, whether through spending cuts or measures to raise revenue to finance pro-poor investment. Where public wage bills are at the core of fiscal stress, a reduction in wage bill spending needs to be considered. Some countries have already begun the adjustment of wage bills, including Egypt, Georgia, Iraq, the Kyrgyz Republic, Morocco, and Tunisia. In many cases, immediate financing pressures require quick fixes, such as wage and hiring freezes. International experience suggests that, while effective in the short run, such measures may affect service delivery and are difficult to sustain. Lasting improvements need to address the underlying causes of oversized wage bills through structural reforms.

This paper sets out the stylized facts and identifies policy priorities for managing public wage bills in the region. It draws on policy recommendations of a recent global study (IMF 2016a) while examining the topic through the lens of the region. Using new data, case studies, and modeling, the paper lays out a general approach to improving management of public wage bills in the region and provides examples of reforms. The goal is to provide country authorities with a framework for managing their public wage bills. Country-specific policy advice is beyond the scope of the paper; rather, the objective is to enrich the analysis of IMF country teams by offering cross-country experiences and comparisons. The findings in the paper should be interpreted with caution because data weaknesses limit the comparative analysis and because most results refer to correlations rather than causal effects.2

The paper also analyzes the underlying factors behind high wage bills. Wage bill policies aimed at achieving too many socioeconomic goals, and inadequate institutions, have swelled public payrolls and distorted labor markets in several countries of the region, especially as they deal with young demographics and regional conflicts and their spillovers.

  • In many countries, particularly in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP), past socioeconomic models have resulted in the government acting as an “employer of first resort,” offering public sector jobs as a means of social support. Governments’ efforts to redistribute resource wealth in some oil-exporting countries have resulted in government compensation significantly exceeding that in the private sector. These policies—against a backdrop of weak institutions and governance, favoring discretion and often enabling inefficient hiring and compensation practices—have discouraged private employment, lowered productivity growth, hindered skill development, and unfairly benefited insiders who are able to obtain public sector jobs.
  • In the Caucasus and Central Asia (CCA), public employment is high compared with peers. In the early 1990s, hyperinflation eroded public wages, reducing them below those in the private sector on average. While the diminishing role of the state during the transition to market-based economies has led to a slowdown in public hiring, public employment remains much higher than the average for emerging market and developing economies.

High public wage bills have not produced the desired outcomes in service delivery. Indicators of the quality of public services, as well as outcomes such as educational attainment and health, are subpar. Countries that employ a larger share of the workforce in the public sector have not achieved lower overall unemployment. On the contrary, high public sector employment may have favored vested interests and discouraged risk taking, effectively penalizing private sector job creation and undermining competitiveness. At the same time, high and rising wage bills may have crowded out social and infrastructure spending and undermined fiscal stability in many countries.

This paper proposes options for improving public wage bill management in the region. Ensuring that public wage bills are fiscally sustainable would support fiscal stability, which is particularly important in countries where high wage bills are driving fiscal pressures. It would also make room for other critical spending to enhance the growth of private sector jobs and provision of effective and equitable public services to meet the needs of growing young populations. Strengthening institutions and data would help governments better manage employment and compensation, recruit and retain skilled staff, improve productivity, and reduce corruption. Wage bill reforms should be coordinated with steps to foster private sector job creation and mitigate any short-term impact on the vulnerable, especially the poor, women, and youth. Given the high degree of heterogeneity in the structure and drivers of public wage bills across the region, the specific design and sequencing of reforms—and indeed the objective of the reforms—depend on country economic and political economy characteristics.

The rest of the paper is organized as follows. Chapters 2 and 3 discuss wage bill dynamics in the region and the underlying factors. Chapter 4 reviews fiscal and socioeconomic outcomes. Chapter 5 outlines possible reforms of wage bill policies. Chapter 6 concludes. Boxes and annexes contain background material. In particular, Box 3 summarizes views of civil society organizations (CSOs) and labor unions. Annex 1 describes the regional data set on public wage bills and institutions. Annex 2 presents case studies from the region, while Annex 3 summarizes international experience with wage bill reforms (IMF 2016b). Annex 4 presents a specially developed model and policy simulations.

1“Oil” refers to exports of all hydrocarbon resources (crude oil, condensate, oil products, and natural gas).
2Wage bill data cover the general government, as reported in the World Economic Outlook (WEO) database. Employment data often cover the public sector (including state-owned enterprises (SOEs). For more details on data and measurement issues, see Box 1 and Annex 1.

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