The seventh Pay Commission's proposals are bound to be counter-productive to the Indian economy in multiple ways, besides upsetting the Modi government's efforts aimed at fiscal consolidation.
The government would find it difficult to stick to its fiscal deficit target of 3.5% of the GDP by 2016-17, if the proposals are implemented.
Another setback will be on the inflation front, as the proposals are likely to put the 5% inflation target by March 2017 at risk, says Radhika Rao, economist, group research, DBS Bank, in her note.
The government may also be forced to cut spending to offset the impact of the Rs 1.02-lakh crore additional outgo in the next financial year if the proposals are implemented from January 2016.
"The likely path for next year's fiscal math will boil down to restrain spending elsewhere, source additional tax revenues or renege on the deficit targets," she says.
"In fact a cutback in public spending will be insufficient on its own to accommodate the additional commitments, making it necessary to plug other expenditure components (after the expenditure commission's report) and further rationalise subsides," she adds.
A spur in consumption will push demand and thereby, inflation, making it difficult to achieve the inflation target of 5% and in the process, reducing the scope for a rate cut by the Reserve Bank of India (RBI).
"A combination of the pending wage adjustments, impact of base effects, delay in supply-side fixes and external event risks (US Fed rate hike risks) will put the 5% target of Mar17 at risk. We expect the policymakers to air these concerns in its early-Dec policy review, with the guidance likely to point towards a prolonged pause into the next fiscal year," she says.
The fifth bi-monthly policy meeting will be held by the RBI on 1 December, 2015.
Another worry is the impact on the rating front as a result of the likely inability to ensure sticking to fiscal deficit targets.
"A likely delay in fiscal consolidation will hurt the chances of a rating upgrade over the next few years," she says.