Mumbai: Pressure to lower India’s ratings outlook will grow if oil prices and inflation rise further and its fiscal policy response to strong price pressures remained inadequate, Moody’s Investors Service said on 4 August.
In a report on its outlook for India’s sovereign ratings, Moody’s said risks confronting the economy have grown, but not to the extent that they yet threaten the country’s ratings.
“Higher oil prices and the lack of adequate fiscal policy reactions amidst high pent-up price pressures are putting the burden of macro-economic adjustment on the monetary authorities,” said Aninda Mitra, a senior analyst with Moody’s Sovereign Risk Unit. “As a result, policy as well as market interest rates could rise, and a sharp deceleration in growth may follow.”
“If the fiscal policy response remains inadequate amidst heightened external shocks or resulted in an intensification of domestic inflation, then ratings pressure for a change in India’s sovereign ratings outlook, from stable to negative, would increase,” Moody’s said.
India has an investment-grade “Baa3” foreign currency rating from Moody’s. The domestic currency rating is “Ba2”, which is two notches below the foreign currency rating.
The domestic currency rating is speculative grade, due to heavy public debt constraints. The ratings outlook is stable.
The Reserve Bank of India, last week raised its key short-term lending rate by 50 basis points to 9%, and lifted banks’ reserve requirements by a quarter percentage point, also to 9%, in a bid to quash double-digit inflation.
The central bank expects the economy to grow 8% in the fiscal year 2008-09, below growth rates of 9% or more in the past three years.
“While Moody’s overall assessment is that the current constellation of risks is captured in the prevailing stable outlook, downside pressures could emerge,” Moody’s said.
The sources for these risks would be two-fold.
“Firstly, they could involve deterioration in the government’s general debt metrics and its access to external liquidity, given intensified commodity price shocks and an inadequate fiscal response,” Moody’s said.
“Secondly, such pressures could be due to the rising risk of fiscal spillovers to India’s external accounts,” it added.
“Such spillover, if large enough, could weaken the case for the two-notch gap between its foreign currency and local currency ratings,” Moody’s said. The outlook for economic reforms remains uncertain, the rating agency said, adding that with national elections due in less than a year, it’s not clear whether the government’s new coalition partners would support further reform measures.
Large subsidies and the government’s reluctance to raise fuel prices add to the fiscal burden.
“The government’s fiscal difficulties relate partly to its inability to raise retail fuel prices and reduce the growing, off-budget fiscal cost of reimbursing downstream oil companies as part of its subsidies program.”
India, which last raised state-set fuel prices in June by 10 percent, compensates refiners for selling oil to consumers at discounted prices by issuing them oil bonds.
“Greater government borrowing needs, while not leading to a material deterioration of its key credit metrics, would likely prevent an improvement in the remainder of financial year 2008-09, contrary to our earlier expectations,” Moody’s said.