Fitch mulls India uncertainty before sealing rating action

Fitch is assessing the prevailing uncertainty over India’s medium-term fiscal and growth prospects before finalizing a rating action, the global ratings agency said.

In an email interview, the sovereign ratings team at Fitch pointed out that rising financing costs due to the current global uncertainty would be a risk to India’s sovereign ratings. It expects near-term fiscal consolidation to become more challenging with higher commodity prices and a likely reduction in excise duty on petrol and diesel, besides the impact of broader headwinds. Fitch also expects the Indian government’s borrowing needs to remain high. Edited excerpts:

Fitch had noted in its post-budget note that India’s fiscal consolidation may be slower than expected. What impact do you see of the Russia-Ukraine tension on India’s overall fiscal deficit? With the LIC IPO likely only next year and oil and commodity prices touching record highs, will it be tougher to contain the deficit to 6.4% of GDP next year?

Near-term fiscal consolidation will become more challenging with higher commodity prices, due to potential efforts to shield consumers from higher prices such as reductions in excise duties, and the impact of broader economic headwinds. However, the government’s budget built in some buffer for higher spending due to its conservative revenue assumptions, which could help the government stay close to its FY23 deficit target.

Do you expect government borrowing and the borrowing cost to increase next year? What impact do you estimate on the sovereign debt?

Government borrowing needs are set to remain high on the back of sustained large fiscal deficits. The cost of financing these deficits has risen over the past several months and is likely to see continued pressure amid our expectations for gradual policy tightening by the RBI and heightened global financial market volatility, although compared to peers India is somewhat more insulated from global markets. Rising financing costs would present risks to the rating as India already has a high-interest burden compared to peers and adds to challenges for the government debt trajectory.

How elevated are the risks now owing to the Russia-Ukraine crisis?

Risks to the debt ratio have risen in the context of higher commodity prices, but the degree of risk for the medium term, which is our key focus, will depend on the duration of higher prices. A slower pace of fiscal consolidation means sustained high rates of nominal GDP growth will be required to sustainably bring down the debt ratio. We expect India’s economy to remain one of the fastest-growing globally, but real GDP growth will see headwinds from higher commodity prices. Higher inflation, however, could keep nominal growth elevated.

With India’s debt levels already higher than its peers in the group, do you feel that India may be at risk of a sovereign ratings downgrade? When could we expect action on that?

We have India’s ‘BBB-’ rating on the Negative outlook. The outlook reflects India’s high debt ratio relative to peers and uncertainty around the government’s ability to bring down this ratio over the medium term. We will continue to assess the degree of uncertainty around the prospects for medium-term fiscal consolidation and growth prospects before resolving the outlook in either direction.

What is your assessment on the rupee front? At what levels do you see it against the US dollar?

The rupee has come under only modest pressure in recent weeks. We expect that further slight depreciation is in the cards, based on the prospects for capital outflows. The RBI has considerable firepower through its large foreign exchange reserves holdings to manage potential bouts of significant exchange rate volatility.