Moody’s downgrades India’s sovereign rating

Global ratings agency Moody’s Investors Service Monday downgraded India’s foreign-currency and local-currency long-term issuer ratings to “Baa3” from “Baa2” while retaining negative outlook.

The latest downgrade reduces India to the lowest investment grade of ratings and brings Moody’s — which is historically the most optimistic about India — ratings for the country in line with the other two main rating agencies in the world — Standard & Poor’s (S&P) and Fitch.

The main reason behind ratings downgrade are: weak implementation of economic reforms since 2017, relatively low economic growth over a sustained period, significant deterioration in the fiscal position of governments (central and state) and the rising stress in India’s financial sector.

Last November, Moody’s changed the outlook on India’s Baa2 rating to “negative” from “stable” precisely because these risks were increasing.

Since many of the apprehensions that it had in November 2019 have come through, Moody’s has downgraded the rating to “Baa3” from “Baa2”, while maintaining the negative outlook.

Moody’s believe that the country’s policymaking institutions will be challenged in enacting and implementing policies which effectively mitigate the risks of a sustained period of relatively low growth, significant further deterioration in the general government fiscal position and stress in the financial sector.

The negative outlook reflects dominant, mutually-reinforcing, downside risks from deeper stresses in the economy and financial system that could lead to a more severe and prolonged erosion in fiscal strength than Moody’s currently projects.

Moody’s has highlighted persistent structural challenges to fast economic growth such as “weak infrastructure, rigidities in labor, land and product markets, and rising financial sector risks”.

In other words, a “negative” implies India could be rated down further. Interestingly, the downgrade was not driven by the impact of the COVID-19 pandemic.

According to Moody’s “the pandemic amplifies vulnerabilities in India’s credit profile that were present and building prior to the shock, and which motivated the assignment of a negative outlook last year.

Meanwhile, Moody’s highlighted the inherent weakness of India’s financial conditions. Fiscal deficit (essentially the total borrowings from the market) continues to rise and as such there is steady increase in debts.

Total government debt (measured as a percentage of GDP) is nothing but the debt till the last year and the fiscal deficit of the current year.

According to Moody’s, even before “the coronavirus outbreak, at an estimated 72% of GDP in fiscal 2019, India’s general government (combined central and state governments) debt burden was 30 percentage points larger than the Baa median”

The government’s fundraising efforts will be hit as weaker economic growth and worsening fiscal health undermine a government’s ability to pay back.

Moody’s expects India’s real GDP to contract by 4.0% in the current financial year. Thereafter it expects a sharp recovery in 2021-22. It states that “a prolonged period of slower growth may dampen the pace of improvements in living standards.

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