NEW DELHI: On a day which marks the third anniversary of demonetization, global-rating agency Moody’s has downgraded India’s sovereign rating outlook to 'negative' from 'stable' on the back of what the agency termed as weak economic indicators, policy ineffectiveness in addressing economic weakness and the risk of lower growth.
“Moody's decision to change the outlook to negative reflects increasing risks that economic growth will remain materially lower than in the past, partly reflecting lower government and policy effectiveness at addressing long-standing economic and institutional weaknesses than Moody's had previously estimated, leading to a gradual rise in the debt burden from already high levels,” the rating agency said.
Moody’s had upgraded its rating to Baa2 with a stable outlook on November 16, 2017, on the expectation of strong economic reforms, raising India’s GDP.
The rating agency has now not only changed its viewpoint but also flagged the risk of a longer slowdown.
“While government measures to support the economy should help reduce the depth and duration of India's growth slowdown, prolonged financial stress among rural households, weak job creation, and, more recently, a credit crunch among non-bank financial institutions have increased the probability of a more entrenched slowdown, “ Moody's said adding that it does not expect the credit crunch among non-bank financial institutions to be resolved quickly.
The economy grew only 5.0 per cent year-on-year between April and June, its weakest pace since 2013, and consumer demand remain subdued. This prompted a slew of rate cuts by the central bank, while the government rolled out several measures, including a sharp cut in corporate taxes.
If nominal GDP growth does not return to high rates, Moody's expects that the government will face very significant constraints in narrowing the general government budget deficit and in preventing a rise in the debt burden.
“A prolonged period of slower economic growth would dampen income growth and the pace of improvements in living standards, and potentially constrain the policy options to drive sustained high investment growth over the medium to long term,” William Foster, vice president of Moody’s Sovereign Risk Group, wrote in a statement.
After the corporate tax cuts and lower nominal GDP growth, Moody's now expects a government deficit of 3.7 per cent of GDP in the fiscal year ending in March 2020, compared to a target of 3.3 per cent.
Moody's also affirmed India's Baa2 local-currency senior unsecured rating and its P-2 another short-term local-currency rating, a statement said. However, India's long-term foreign-currency bond and bank deposit ceilings remain unchanged at Baa1 and Baa2, respectively.
Meanwhile, the government defended the rating saying that fundamental of the economy remains robust.
“The fundamentals of the economy remain quite robust with inflation under check and bond yields low. India continues to offer strong prospects of growth in the near and medium-term,” Finance Ministry said in a statement.
The ministry added Government of India has also proactively taken policy decisions in response to the global slowdown and these measures would lead to a positive outlook on India and would attract capital flows and stimulate investments.
However, analysts seemed to agree with Moody’s. “Moody’s decision to cut its outlook on India’s sovereign rating is based in part on the government’s struggle to rein in the fiscal deficit. This is justifiable if a little behind the curve,” said Shilen Shah, Senior India Economist of Capital Economics.
Post the downgrade, investors will closely watch the nation’s gross domestic product data for signs of further, long-lasting weakness, which could result in another negative shift, according to Moody’s. Stabilization in the non-bank financial sector, meantime, would be credit positive and could flag less risk of negative spillover into banks.