Moody’s Investors Service has upgraded India’s sovereign rating for the first time since 2004, citing continued progress in the nation’s economic and institutional reforms.
Marie Diron, Associate Managing Director of the credit rating agency said that “the structural reforms will support India’s economic strength and shock absorption capacity” in an interview with BloombergQuint.
India’s debt to gross domestic product ratio stands around 69 percent, as opposed to most of its peers maintaining the ratio around 40 percent. Most analysts see the high ratio and its underlying implications on the fiscal deficit as a major hindrance to India’s economic growth, but Moody’s is fairly optimistic.
Diron said that while India is at a disadvantage compared to other Baa2 rated countries, Moody’s is confident that India’s government debt will remain stable, even in downside scenarios.
Moody’s also revised India’s current year growth forecast down to 6.7 percent in the light of short-term pains following structural reforms. However, the rating agency expects it to rebound to 7.5 percent next year.
Watch the full conversation here:
Can you please highlight the rationale behind this upgrade?
We have upgraded India’s rating to Baa2 and changed our outlook to ‘stable’ which reflects our vision that over time the reforms that have been implemented or are being implemented will support India’s economic strength and shock absorption capacity. With that and a large domestic financing base for the government’s debt, we see stability here in India’s credit metrics at Baa2 level.
Do you expect India’s potential growth rate moving higher over the next two-three years?
We think the impact of reforms on the economy’s potential will materialise all the time and it will take several years for that to come through. It is related to the breadth or the complexity of the reforms, whether it’s Goods and Services Tax which should and has enchanced productivity, or measures that are aimed at enhancing and in fostering greater formalisation of the economy, like direct benefit transfers or demonetisation. All of these will materialise overtime. What is important for India’s credit profile that with growth sustained at high levels, at 7.5-8 percent in the coming years, nominal gross domestic product growth will be strong and that will allow the government debt burden to remain stable and potentially even decline over time.
Are you putting aside the GST-induced fiscal implications as the short-term impact of large disruptive moves?
We have taken into account the short-term disruptions and have reflected that in our forecast. We have revised India’s current year growth forecast to 6.7 percent before and expect a pickup next year to 7.5 percent. We have also revised our deficit forecast, so for general government deficit, we expect it to be around 6.5 percent of GDP this year and government debt to rise likely to 69 percent of GDP. This is short-term and our rating assessment combines the short-term analysis with the medium term vision of where the credit metrics are headed.
The medium-term prospects are improving and have improved compared to the year-ago period and we are confident that even in downside scenarios, general government debt will remain stable. That consistency is being reflected in the Baa2 rating at this stage.
Does the impact of demonetisation and GST on the informal sector not concern you?
These are very valid and good points. Some reforms and measures come with negative consequences or pain in the economy, at least in the short term in certain sectors of the economy. But we try to look at the broad picture and how these range of measures being undertaken combine to support the economy, the shock absorption capacity, and the fiscal consolidation. We have concluded that the direction is moving towards a stronger credit profile for India. At this point in time, the Baa2 rating compared to other sovereigns is appropriate.
How do you see the debt to GDP number coming down?
In the range of factors that we consider to assess the rating of a given sovereign between economic strength, traditional strength, fiscal strength and eventually what will disrupt that rating and create a profile, the fiscal aspects are a challenge for India. The debt to GDP ratio at 68-69 percent is higher than other Baa-rated credits. We expect that ratio to be broadly stable in the next couple of years before it starts declining gradually. The decline will come from various measures like GST, improving tax compliance, direct benefit transfers improving the effectiveness and efficiency of spending.
Demonetisation could also contribute to the greater formalisation of the economy. So, there is a range of measures that point in the same direction, which is broadening of the tax base, better efficiency of government spending, that will halve the fiscal consolidation. An additional point is the Fiscal Responsibility and Budget Management recommendation proposed earlier this year saying that if this is implemented then it will enhance the effectiveness of fiscal policy providing a clear and more transparent framework and anchoring the fiscal consolidation over the next few years.
The material strengthening in fiscal metrics, combined with an uptick in India’s investment cycle is what Moody’s has attributed for a further rating upgrade. Is that a pricing that Moody’s has done and when could this eventually happen?
Attached to the Baa2 rating, we have a ‘stable’ outlook and have communicated that we see broadly balanced risks. We do not expect any rating change in the foreseeable future. We see upside and downside risks to India’s credit profile. The upside risk could come from faster fiscal consolidation than we currently expect. Measures like GST yielding revenue intake at a faster pace than we currently assume. Conversely, we could be surprised on the downside by the impact of fiscal consolidation measures or may be the progress of resolution of bad assets on the banking side. So, overall, we see upside and downside risk and conclude that the outlook on the rating is stable.
Will the rising crude oil prices be a big factor?
Our assumption on oil prices is that you will remain range-bound between $40-60 per barrel over the next few years. If oil prices were to increase higher, then that could have an impact on India’s current account and GDP growth. However, compared to a few years ago, India’s external vulnerability has diminished. We have seen a rapid increase in foreign direct investment that more than finances the current account deficit. We have seen a built up in foreign exchange reserves. So, overall, we see that external vulnerability risks are very low at this point and higher oil prices will not detract from now.
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