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2.38 These available data have important shortcomings related to a limited sample of the participating Russian private sector companies in Moscow. Also, while the employees in the public sector especially in the top grades have access to a considerable amount of in-kind benefits, the available information on such benefits is still limited and could be not statistically representative. Also, the survey did not allow for measuring the existing gap in remuneration for the top employment categories (Categories A and B) of the civil service.

For the purposes of our analysis, it was assumed that the pay of Category B employees should be at least 20 percent higher than that for Category Ctop, and for Category A20 percent higher than that for Category B, while estimated non-cash benefits are assumed to be the same for all top civil servants (Category Ctop and Categories A and B) and their private sector comparators.

2.39 To estimate the increase in net compensation of the core government administration employees that do not have the status of civil/municipal servants (i.e., core government administration employees that are regulated by the Labor Code), an assumption was used that the compensation increase for these employees is equal to a simple average increase for Category C Senior and Junior positions in the appropriate branch/level of the government administration. This assumption was used because most of these employees are technical and support staff.

2.40 The survey showed, inter alia, significant variance in both the pay and total compensation gap, especially for the top grades. Hence, to estimate the existing pay gap correctly, some in-kind benefits provided to civil servants are assumed significant and proposed to be retained (medical benefits, car, and driver), while others (sanatoria, apartments, dachas) are proposed to be discontinued (but their value is to be reflected indirectly through a proposed pay increase). Due to a limited number of recipients of the latter type of benefits, the direct fiscal savings from their discontinuation are negligible estimated savings for the HQ-based federal executive service in 2002 accounted for about million rubles or about 0.01 percent of 2002 GDP. However, in case the government chooses to commercialize all related infrastructure, potential one-off revenues from disposal of these assets at market prices would be much more significant. It should also be noted that the available data on benefits cover only federal HQ executive civil service, hence, the adoption of a similar policy for federal deconcentrated and subnational core government administration employees would probably yield additional fiscal savings.

The current consensus estimate for Russias growth in 2004-2005 is rather favorable and is close to about 5.percent a year.

2.41 Our results suggest that in 2002 the public-private gap in cash compensation varied between 2.4 and 8.6 times (Column 1, Table 2.6). However, the estimated gap in total (gross) compensation (Column 2) while still significant is much smaller - between 1.7 and 4.3 times.

This is because of considerable amount of in-kind benefits is available to the top public servants, which in these employment groups exceeds their cash compensation by 3-5 times.

The proposed reform strategy suggests elimination of most of these benefits, which would require a major increase in their cash salaries to compensate for lost benefits, make their overall compensation competitive and facilitate the establishment of the environment supportive of the government anti-corruption efforts. This increase would be partly accommodated by decreased financing of the in-kind benefits for civil servants.

2.42 Columns 3 and 4 in Table 2.6 present our estimates for the public-private net compensation gap, which is the gap in current cash compensation adjusted for in-kind benefits to be retained. The net compensation gap is a critical parameter in our model - it defines the benchmark for necessary pay adjustment in the public sector to make salaries there fully comparable with the pay in the private sector. At the moment, the net compensation gap varies between 2.3 and 7.8 times for HQ-based staff and 1.23.9 times for federal deconcentrated and subnational service. However, based on the data available, we cannot estimate variances in the compensation gap among individual positions and specialties.

Table 2.6: Estimated Public-Private Pay and Compensation Gaps, Measured as a Ratio of Pay (Compensation) in the Private Sector to Pay (Compensation) in Federal and Subnational Civil Service Federal Civil Service Subnational Civil Service Public-Private Public-Private Category/ Public-Private Gross Net Public-Private Group Pay Gap, Compensation Compensation Net Compensation Gap, timesa/ Gap, timesb/ Gap, timesc/ times 1 2 3 Category A 8.6 2.2 7.8 3.Category B 7.1 1.9 6.3 3.Category C Top 8.5 1.7 7.8 3.Chief 5.8 4.2 5.7 2.Lead 5.2 4.3 5.1 2.Senior 3.7 3.4 3.6 1.Junior 2.4 2.2 2.3 1.Notes: The estimated gaps are not adjusted for 30 percent compensation increase in core government administration and civilian public sector implemented in October 2003.

a/ reflects the estimated gap in cash compensation only.

b/ reflects estimated differences in cash compensation combined with value of all in-kind benefits currently received.

c/ reflects estimated differences in cash compensation combined with value of in-kind benefits to be retained.

Source: HSE (2003) and staff calculations.

2.43 Based on the understanding that some of the in-kind benefits will be discontinued, for the purpose of this Chapter it is assumed that the total amount of expenditures on in-kind benefits in core government administration would not exceed the current level. Hence, the expenditures associated with in-kind benefits are not included in net increases of fiscal expenditures on core government administration.

2.44 Given the large current compensation gap with the private sector it is highly unlikely that in the medium-term Russia could close most of it and reach the level of OECD countries where the common remuneration gap with the private sector is on average of about percent31, while it varies for particular positions/professions. Thus, even in the medium-term, the proposed scenarios aim only at a partial closure of the gap. In our simulations below even the radical scenario of the pay reform assumes a relatively high residual compensation gap of 50 percent.

2.45 The results of the survey of the public servants pay expectations (see Table 2.7) undertaken in 2002 (INDEM) also seem to confirm the feasibility of a relatively high residual compensation gap for federal civil service. The comparison of pay expectations and the existing compensation gap shows that the surveyed officials either underestimate their existing pay differences with the private sector or they are prepared to accept lower pay levels (at least at Department/Division Chief levels). While the estimated pay gap accounts for a 5.07.5 increase, public officials would consider a 2.54.0 pay increase to be adequate. This difference between the actual pay gap and pay expectations could be explained by a number of factors, including: (i) insufficient awareness of public servants of the comparative pay levels in the private sector; (ii) the extent to which the public servants surveyed have access to and value various non-cash benefits provided; and (iii) higher job security and lower intensity associated with a public sector employment as compared to the private sector positions. The results of the public officials surveys may also reveal the fact that some of the civil servants in Russia may not perceive their official pay as the only (and the primary) source of income.

This argument is confirmed by the recent research on ownership structure in Russia. In fact, there is little, if any, separation between the authorities and business community in the country32.

Table 2.7: Civil Servants Perceptions: Expected Pay and Compensation Levels for Benchmark Positions in the Federal Civil Service (based on Public Officials Survey) Expected Pay Pay Increase Expected Pay (in (with all in- (with case all in-kind Pay Increase Benchmark Category kind benefits retained in- benefits are (without inPosition retained), kind discontinued), kind benefits), Group US$ benefits), US$ times times Deputy Minister top 2,182 4.0 3,733 6.Department Head top 864 1.9 1,223 2.Division Head lead 672 2.2 887 2.Chief Specialist senior 448 2.6 634 3.Sources: INDEM (2002), HSE (2003), and staff calculations.

2.46 The analysis of both Tables 2.6 and 2.7 points out that both the existing net publicprivate compensation gap (Table 2.6) and the pay increases, which would meet the current expectations of the civil servants (Table 2.7), vary greatly between the different grades and positions and tend to be lower for more junior servants and higher for more senior public officials. This suggests that the compression ratio in the core government administration is Presidential Decree No. 519 On Improving the Compensation to Public Servants Holding Specific Positions of the Russian Federation and Specific Positions in the Federal Civil Service of the Russian Federation dated April 10, 2004.

Schiavo-Campo et al. (1997), p.10.

significantly lower than the one in the private sector. Indeed, in 2002 the compression ratio for federal executive HQ-based civil service accounted for only 2.5. A compression ratio for federal executive civil service was slightly higher (3.7), but still quite low by international standards. Internationally, the compression ratio varies widely from highs of 30:1 to lows of 2:1 with the mode of around 6 or 7 to one33. What follows from this analysis is that the decompression of the existing pay scale in Russia by at least 2.02.5 times would be quite desirable in the medium term.

2.47 Low compression ratios in Russia suggest that the pay increases in core government administration should be focused more on the managerial (higher level staff) than on junior staff. It should be noted, however, that the proposed reform strategy to close the same percentage of the existing pay gap for all employee categories would automatically generate considerable pay decompression (because the net compensation gap is so much higher today for the higher grades).

2.48 At the same time, it is worth noting that selective increases that do not cover all of the core government administration employees, at least to some extent, may create additional distortions in the staff grading process. Recent public officials surveys pointed out that there are quite a number of federal and subnational civil servants that though formally employed at senior positions, in fact perform the responsibilities of junior staff (see HSE, 2003, for more information). To improve the incentives for proper grading in the core government administration and sustain the employment structure under the conditions of significant pay adjustments for higher level staff, a minimum wage increase for all grades rule should be made a part of any pay adjustment strategy. In our simulations such minimum adjustment amounts to a 2030 percent increase in real wage relative to its 2003 level depending on the reform scenario.

2.49 Substantial cash compensation increases in core government administration, if not expanded to other categories of general government employment, would significantly affect the balance between remuneration of the core government administration and the rest of the public sector. It is assumed that this imbalance would be politically unsustainable and the Government would ultimately have to adjust pay in the entire public sector regardless of the fact whether there is or not at the moment a legally explicit link between compensation of these two categories. For the purpose of this Chapter, an average cash compensation increase in core government administration is used as a trigger for estimating a corresponding pay adjustment in the civilian government employment. Given the current number of civilian employees, it is unlikely that it would be possible to sustain the current cash compensation ratio between the core government administration and the civilian public sector. It is also expected that the ratio of non-budgetary sources of civilian public sector employees wage bill would be increasing owing to the growing share of commercial services provided by the entities in this sector for additional pay. Hence, in our scenarios we assumed that the pay adjustment in civilian public service would be equal to 70 percent of the average increase in cash compensation in the core government administration.

For more information on this issue, see the recent Russia Country Economic Memorandum (World Bank, 2004).

2.50 Payroll Taxes. All the estimates of cash compensation include payroll taxes personal income tax (PIT) and Unified Social Tax (UST)i.e., we estimated gross compensation aggregates. The existing regressive scale of UST has been explicitly taken into account with tax brackets adjusted for real wages growth. No possible future changes in the UST tax rates have been accounted for34. Increase in PIT collection because of higher cash compensation in core government administration and civilian public sector employment was accounted for as a fiscal gain to the sub-federal budget.

2.51 Verification. Although there is no best international practice related to the relative pay levels in the public sector, a ratio of average federal government administration wage to GDP per capita could be used as a monitoring indicator to verify the viability of the analyzed reform scenarios. In OECD countries, this indicator on average is 1.6, while in Russia in 2002 it was 1.2, which is quite low, especially when compared to either the global average (3.0) or an average for LAC countries (2.5) that could be used as a proxy for middle-income countries level35.

2.52 Relative Pay Adjustment: HQ-based Employees and Deconcentrated Staff. The estimated compensation gap is higher for federal HQ-based core government administration employees than for deconcentrated federal civil servants and for subnational civil servants.

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