In a few short weeks, India's fiscal state has undergone a dramatic change.
When the government's first Budget was presented in July, there was great scepticism about its ability to meet the fiscal deficit target of 4.1 per cent of gross domestic product, or GDP.
Now, there is virtual unanimity that it will be more than met. In the meantime, global rating agency Standard & Poor's raised India's outlook from "negative" to "stable", implying a reduced likelihood of a rating downgrade over the next two years. The primary reason for this swing of the fiscal pendulum is the drastic fall in global crude oil prices.
From somewhere around the $108-a-barrel mark when the Budget was presented, the benchmark Brent crude oil has fallen to around $86 a barrel.
This has effectively terminated the subsidy on diesel, facilitating the much awaited and appreciated deregulation of this product, and significantly reduced the subsidies on liquefied petroleum gas, kerosene and, importantly, fertilisers.
Overall, assuming that it endures, this development will prove to be a huge windfall for public finances.
However, it is important that the government should not allow complacency to lower its guard against fiscal stress. There are a number of potential threats looming, which could erode much of the benefits of reduced subsidy bills.
The first of these is the recommendations of the Seventh Pay Commission, which will be implemented in 2016.
As in the past, this commission is virtually certain to suggest significant increases in compensation while asking for changes in performance evaluation and a leaner organisational structure.
In the past, governments have typically accepted the first bit and rejected the second. If this trend continues, there will be a large bump up in the salary bill without any commensurate increase in efficiency.
The government would do well to take an integrated view of the recommendations made by the Pay Commission and the Expenditure Management Commission, but if this does not happen, it should brace itself for a wages and salaries shock. Second, the report of the 14th Finance Commission will be submitted by January 2015.
Being mandatory, these recommendations will have to be immediately built into the Budget for 2015-16.
While this has not been a disruptive process in the past, larger commitments to states might have to be made.
Add to this the compensation provisions that the Centre will have to make to get the states to sign on to the goods and services tax (GST) and the fiscal dividend from oil prices could be substantially reduced.
Third, public-sector banks are reeling under an unusual asset-quality burden, due significantly to their large exposures to stalled or unviable infrastructure projects.
There is a larger need to address infrastructure problems here, but meanwhile, if banks have to keep lending to businesses and individuals, they will need regular infusions of capital, which, realistically, only the government can provide, given the asset-quality situation. Substantial funds will have to be provided for this, more so if the government shrinks from firm handling of the unhealthiest banks for political reasons.
In sum, while the fiscal consequences of the drop in oil prices are significant and positive, it would be wise not to give into the temptation to see it as a justification to go slow on other fiscal initiatives.
The road to fiscal hell is paved with complacency.
