Standard & Poor Global Ratings retained its BBB- rating for India’s sovereign with a ‘stable’ outlook on Friday, belying expectations that it may take a cue from rival Moody’s Investor Services which upgraded the country’s credit rating last week for the first time in 13 years.
Despite one-off factors like demonetisation and the introduction of the Goods and Services Tax denting growth for two quarters, S&P expects India’s economy to grow robustly from 2018-20 with robust foreign exchange reserves rising further.
However, the rating agency cited India’s low per capita income, the sizable fiscal deficit and high general government debt as factors that weigh down the country’s credit profile and re-iterated its BBB- rating on India with a stable outlook indicating that the rating is unlikely to see a change in the near future. A BBB- rating denotes the lowest investment grade rating for bonds
“Ratings are constrained by India's low wealth levels, measured by GDP per capita, which we estimate at close to US$2,000 in 2017, the lowest of all investment-grade sovereigns that we rate. That said, India's GDP growth rate is among the fastest of all investment-grade sovereigns, and we expect real GDP to average 7.6% over 2017-2020,” S&P Global Ratings said in its rating rationale.
By contrast, Moody’s Investors Services had raised India’s sovereign rating last Friday, citing the country’s high growth potential compared to its similarly rated peers and economic and institutional reforms that have been undertaken or are works in progress.
“This is clearly a conservative call wherein S&P would like to see the results of the reforms initiated before a ratings revision while Moody has taken the Call based on the reforms initiated,” said Ranen Banerjee, partner (public finance and economics) at PwC India.
“The ruling party continues to consolidate its power at the state level and, despite obstacles to the implementation of reform, strong growth is likely to continue,” S&P noted, adding that it expects Prime Minister Narendra Modi's BJP-led coalition to make further electoral gains. These gains could help the government overcome resistance to legislative reforms in the Rajya Sabha, where the NDA still is in a minority, the rating agency said.
Taking note of the reforms that have been pushed through in recent years to address ‘long-standing impediments to the country's growth’ such as GST, the Bankruptcy Code and a framework for resolving bad loans while recapitalising state-owned banks, S&P has also referred to the government’s focus on improving the ease of doing business as a positive for the investment climate.
“However, confidence and GDP growth in 2017 appear to have been hit by the sudden demonetization exercise in late 2016… The July 1, 2017 introduction of the GST, which combines the central, state, and local-level indirect taxes into one, has also led to some one-off teething problems that have dampened growth,” the agency pointed out, before adding that the medium-term growth outlook remains favourable.
“Nevertheless, in the medium term, we anticipate that growth will be supported by the planned recapitalization of state-owned banks, which is likely to spur on new lending within the economy. Public-sector-led infrastructure investment, notably in the road sector, will also stimulate economic activity, while private consumption will remain robust. The removal of barriers to domestic trade tied to the imposition of GST should also support GDP growth,” S&P underlined.
Soumya Kanti Ghosh, group chief economic adviser at the State Bank of India, said S&P’s rating action was not unexpected going by history but questioned its comments on India’s per capita income.
“”The argument given by S&P that India has low per capita income which is acting as detractor from the sovereign rating upgrade, is fallacious as Indonesia which was upgraded seven times between 2002 and 2011 had a low per-capita GDP of $1,066 in 2003 when its credit rating was upgraded and India’s GDP per-capita is now $1,709.4,” Dr Ghosh said.
While the stable outlook suggests the agency doesn’t expect any change in the rating soon, there could be downward pressures if GDP growth disappoints, if net general government deficits rose significantly or if the political will to maintain India's reform agenda significantly lost momentum, S&P has said.
The rating agency has estimated public sector banks will need a capital infusion of about $30 billion to make large haircuts on loans to viable stressed projects and meet the rising capital requirements under the Basel III norms.
The bank capitalisation program and the planned ramp-up in public-sector-led infrastructure investments as well as persistent fiscal deficits at the State level will have a bearing on India’s large general government debt and overall weak public finances, S&P said, stressing these continue to constrain India’s ratings.
“India has a long history of high net general government fiscal deficits (net of liquid assets, deficits averaged over 8% of GDP over the past 20 years and 7% in the past five years). The planned large infrastructure investment program is likely to limit expenditure flexibility, even though the government is likely to be able to tap private sector funds for the construction of many of these infrastructure projects,” the agency said.
While the Centre is expected to broadly ‘succeed in controlling deficits’ and government revenues will rise due to efforts to expand the tax base such as demonetisation and GST, S&P foresees problems at the State level to ‘add 3% on average to the consolidated general government deficits over the forecast horizon.’
