(The following statement was released by the rating agency)
HONG KONG, April 11 (Fitch) Fitch Ratings has affirmed India's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BBB-'. The issue ratings on India's senior unsecured foreign and local currency bonds are also affirmed at 'BBB-'. The Outlooks on the Long-Term IDRs are Stable. The Country Ceiling is affirmed at 'BBB-' and the Short-Term Foreign Currency IDR at 'F3'.
KEY RATING DRIVERS
The affirmation of India's sovereign ratings reflects the following factors:
- India's sovereign ratings benefit from relatively high real GDP growth: the five-year average is 6.7%, compared with the median of 3.2% for peers in the 'BBB' rating category (sovereigns rated 'BBB-', 'BBB' and 'BBB+'). However, the Indian economy has lost much of its dynamism in recent years and the average is coming down. Fitch forecasts real GDP growth to rise from 4.7% in FY14 (financial year ending on 31 March 2014) to 5.5% in FY15 and 6.0% in FY16.
- The course of the Indian economy is uncertain in light of the on-going parliamentary elections, with the results due to be announced on 16 May 2014. Once the next coalition starts implementing its economic policies, it will become clearer whether the economy can return to a higher sustainable growth path or whether it remains stuck at current levels. A policy push that includes structural and governance reforms, fiscal consolidation and efforts to rein in inflationary pressures would likely require a coherent coalition with a strong electoral mandate.
- Fiscal consolidation remains critical to the rating, as both the general government budget deficit of the Centre and the States combined (7.3% of GDP) and the gross general government debt (64.7%) are much higher than 'BBB' category medians (respectively -2.5% of GDP and 40.0% of GDP). The central government seems to have met its budget deficit target of 4.8% of GDP (including privatization receipts) for FY14, despite the looming elections. But this was only achieved through substantial one-off measures, such as special dividends by state companies, and deferral of bill payments and capital expenditure, which raise questions about the feasibility of a fiscal consolidation process over the long run. Credibility of the government's fiscal policy would be strengthened through the implementation of a clear strategy to reach the Fiscal Responsibility and Budget Management Act's consolidation path towards a general government deficit of 3% of GDP by FY17.
- India's standards of governance and business environment are relatively weak and constrain its investment potential. Fitch expects a gradual pick-up in investment in its baseline scenario once the election uncertainty dissipates. The clearance of close to 300 investment projects by the Cabinet Committee on Investment should facilitate investment activity. However, some of these projects may no longer be viable or may still face difficulties at the state level. More structural measures could cause investment to take off decisively, as illustrated by India's low score for World Bank indicators related to the ease of doing business (28.3 percentile compared with 70.7 for 'BBB' peers) and governance (48.3 percentile compared with 54.6).
- Inflation is high at a five-year average of 10.2% compared with the 'BBB' peer median of 4.2%. However, the Reserve Bank of India (RBI) seems more determined than in the past to bring down inflation, as evidenced by recent policy rate hikes. Clarity on potentially a new monetary policy framework would likely contribute to lower inflation expectations, subsequently feeding through to lower actual inflation levels. Nonetheless, some structural factors driving inflation, including inefficiencies in food distribution, are in the realm of the government rather than the RBI.
- The external position continues to be strong, given the high level of foreign exchange reserves of USD304 bn or 6.1 months of current account receipts cover (compared with the 'BBB' peer median of 4.8 months) and low net external debt of 4.4% of GDP (compared with a 9.2% 'BBB' peer median). This provides a thick cushion in case of renewed pressures on the rupee and other asset markets. The authorities reacted effectively to the market jitters in 2013 related to the expectations surrounding the US Federal Reserve tapering its stimulus, helping the current account balance to adjust from -4.8% of GDP in FY13 to an expected -1.9% of GDP in FY14.
- In a number of respects the Indian economy is less developed than investment grade peers. India's average per capita income remains low at USD1,543 in 2013 compared with the 'BBB' range median of USD10,778. The UN Human Development Index indicates relatively low basic human development.
- The profitability and capital position of the banking sector will likely remain under pressure, especially for public sector banks, as asset quality continues to deteriorate in the context of a weak macro environment. Non-performing loans increased to 4.2% of total assets in September 2013. Nonetheless, Fitch does not view banks' balance sheets as a material risk to the public finances at this stage.
RATING SENSITIVITIES
Since the Outlook is Stable, Fitch does not currently anticipate developments with a high likelihood of leading to a rating change. However, future developments that could individually or collectively, result in negative rating action include:
- Deviation from the fiscal consolidation path in such a way that it results in continuation of large general government budget deficits.
- A prolonged period of disappointing real GDP growth, for instance in the context of a further deteriorating investment climate.
- A loose macro policy setting that would cause inflationary pressures to persist and/or the current account to widen to such an extent that it would lead to external funding stress.
- Greater-than-expected deterioration in the banking sector's asset quality that would prompt large-scale financial support from the sovereign.
Future developments that could individually or collectively, result in positive rating action include:
- Sustained fiscal consolidation or fiscal reforms, which lead to a sharp decline in the ratio of gross general government debt to GDP.
- New reform momentum with the implementation of far-reaching reforms that raise the potential growth rate.
- Establishing a credible low inflation environment, for example through the use of a transparent and clear monetary policy framework and tackling structural impediments to lower food price inflation.
KEY ASSUMPTIONS
- The tapering of quantitative easing by the US Federal Reserve proceeds in an orderly manner such that there is no sudden stop of capital flows to emerging economies with current account deficits.
- No sustained rise in commodity prices, particularly in crude oil, in line with Fitch's Global Economic Outlook.
- Economic activity will not be seriously disrupted by materialising political risk, for instance related to social unrest caused by separatist movements or insurgent groups like the Naxalites.
