Rajiv Bhuva
Forty days after
Finance Minister Pranab Mukherjee tabled the
Union Budget for financial year 2012-13,
India's sovereign rating has taken its first reality hit.
Standard & Poor's Ratings Services (S&P), one of the global rating agencies, has revised its outlook on India's long-term rating to negative from stable, while leaving the 'BBB-' long-term and 'A-3' short-term unsolicited sovereign credit ratings untouched.
"The outlook revision reflects our view of at least a one-in-three likelihood of a downgrade if the external position continues to deteriorate, growth prospects diminish, or progress on fiscal reforms remains slow in a weakened political setting," said Takahira Ogawa, S&P's Singapore-based credit analyst, in its release.
While S&P believes that India's favorable long-term growth prospects and high level of foreign exchange reserves support the ratings, it has to overcome problems such as large fiscal deficits and debt. For the current fiscal, ending March 2013, Ogawa expects India's real GDP per capita growth to remain moderately strong at 5.3 per cent, compared with about 6 per cent on average over the prior five years, but down from 8 per cent in the middle of the last decade. Additional challenges have arisen in the form of India's external position which has shown resilience despite deterioration over the past two years.
Foreign currency reserves, worth $293 billion, as on April 13, cover about six months of current account payments currently, down from eight months in 2008 and 2009. And, India's net external liability position has risen to about 50 per cent of current account receipts, but more than half is related to foreign direct investment and portfolio equity flows, which are less problematic than debt in most scenarios. At end-December 2011, India's external debt stock was $334.9 billion, an increase of $28.8 billion or 9.4 per cent over the level of $306.1 billion at end-March 2011. From 17.8 per cent in end-March 2011, India's external debt to GDP ratio has increased to 20 per cent at end-December 2011.
High fiscal deficits and a heavy debt burden remain the most significant constraints on the sovereign ratings on India, Ogawa points out as S&P expects only modest progress in fiscal and public sector reforms, given the political cycle - with the next elections to be held by May 2014 - and the current political gridlock. Such reforms include reducing fuel and fertilizer subsidies, introducing a nationwide goods and services tax, and easing of restrictions on foreign ownership of various sectors such as banking, insurance, and retail sectors, S&P highlights.
The negative outlook, from S&P, signals at least a one-in-three likelihood of the downgrade of India's 'BBB-'sovereign rating within the next 24 months. "A downgrade is likely if the country's economic growth prospects dim, its external position deteriorates, its political climate worsens, or fiscal reforms slow," Ogawa added.
"There is a low likelihood of a rating downgrade actually occurring as we expect the economy to see some cyclical rebound in the near term, the debt-to-GDP ratio is likely to remain stable, and the fiscal deficit should not worsen substantially," says Sonal Varma, Economist at Nomura India, in a report. "The only risk to this view is foreign exchange reserves declining materially."
The rating action has not taken markets and investors by much surprise, as the likelihood of such a rating action was already factored in. At one point the BSE Sensex, which opened at 17,226 points, lost 206 points or 1.2 per cent, before recovering. At the time of writing, the index was down by 0.44 per cent, or 75 points, at 17,132. The move would however weigh on the rupee which has been on its falling spree. At the time of writing, dollar traded for 52.61 rupees, and the exchange rate had touched 52.7487 a dollar after the rating outlook revision was published.
This rating outlook revision will marginally impact borrowing rates on international capital raising. And foreign institutional investment, or FII flows, would see some volatility owing to the same.
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