Fitch Ratings to India: Close, but no cigar

Despite strong growth, Fitch maintains India’s stable outlook at BBB-, citing high deficits, debt, and cautious reform progress.

Unlike S&P Global, which revised its India sovereign rating outlook from stable to positive in May this year, Fitch Ratings has maintained its outlook at stable, while keeping the rating unchanged at BBB-, the lowest investment grade. 

India has one of the world’s highest growth rates, stable macros, a strong external position with high forex reserves and a very comfortable current account deficit. Indeed, the Fitch ratings commentary says as much. It says, “India’s ratings are underpinned by its strong medium-term growth outlook, which will continue to drive improvement in structural aspects of its credit profile, including India’s share of GDP in the global economy, as well as its solid external finance position. Strengthening fiscal credibility from recent achievement of deficit targets, enhanced transparency and buoyant revenues, have increased the likelihood that government debt can follow a modest downward trend in the medium term.” 

Why didn’t they raise the outlook then? The problem, says the rating agency, is that India’s deficits, debt and debt service burden are all high compared to its ‘BBB’ rated peers. It points out that while the central government’s fiscal deficit target for FY25 is likely to be met, that will imply a general government deficit (including the deficits of the states and excluding disinvestment revenues) of 8 percent of GDP, much higher than the BBB rate peers’ median of 3.2 percent. It adds that while the government manages to finance its high debt domestically, the interest/revenue ratio at around 25% remains elevated, well above the 9% ‘BBB’ median. 

Fitch is forecasting GDP growth of 7.2 percent this fiscal and 6.5 percent for FY26. It also says that India’s potential GDP growth is 6.2 percent, which is not saying much, given the hopes of 8 percent plus growth that we are looking forward to, and especially because we need higher growth rates to provide decent jobs for the masses joining the workforce. 

Incidentally, ratings agency Moody’s too raised its GDP forecast for India to 7.2 percent in FY25 on Thursday. 

The key risk, says Fitch, “is if this private investment cycle does not materialise as a result of subdued consumption, which would weigh on job creation and dampen potential benefits from India’s demographic dividend.” The Q1, FY25 GDP data due on Friday will tell us whether consumption growth has picked up.

But Moody’s believes that household consumption is poised to grow and cites falling inflation, signs of a revival in rural demand and the above-normal monsoon as reasons. 

While acknowledging that the results of the general elections have led to policy continuity, Fitch Ratings has doubts about the government’s reform push. Its rating commentary says that “coalition politics and a weakened mandate will likely constrain the government’s ability to enact major economic reforms, limiting upside to potential growth. Still, state governments are likely to steadily advance reforms around land and labour.” In fact, some state governments have lost no time in going in for populist policies. As for the central government, a disappointing budget speech had no mention of privatisation, closure of sick public sector units, asset monetization or structural reform. The government’s backtracking on lateral recruitment in the civil services and the compromise formula on pensions shows the impact of a stronger opposition and coalition politics. 

Moody’s puts India’s medium-term growth at 6-7 percent per annum and says that growth prospects depend on how well the country can productively tap its substantial pool of labour. 

As for monetary policy, Fitch doesn’t think that the RBI will go in for deep rate cuts —it expects rate cuts of just 25 basis points each in FY25 and FY26, and what’s more, it asserts that ‘’Risks are tilted towards fewer cuts, given the RBI’s hawkish focus on persistent food inflation.’’ 

The finance minister, in her budget speech, had said that after bringing down the fiscal deficit to 4.5 percent of GDP by FY26, ‘’From 2026-27 onwards, our endeavour will be to keep the fiscal deficit each year such that the Central Government debt will be on a declining path as percentage of GDP.’’ Fitch forecasts government debt to fall to 81.6 percent of GDP in FY25—the BBB median is 58.3 percent and to just under 78 percent of GDP by FY29.

What could improve India’s rating? Fitch Ratings says that sustained improvement in the fiscal position would help and also ‘’ greater evidence of a durable improvement in the private investment cycle’’, which would lead to increased confidence in the sustainability of high medium-term growth. 

The arguments for a higher credit rating for India are well known. The advanced economies, on average, have higher gross government debt-to-GDP ratios than India. 

In fact, India’s being at the lowest rung of the investment grade hasn’t prevented foreign portfolio investors from pouring funds into Indian markets and now Indian sovereign debt even figures in the international indices, which too has led to funds flowing into debt markets, bringing down yields. 

Nevertheless, the Fitch rating commentary points to the importance of Friday’s GDP data, which will tell us whether consumption and private investment growth is improving. 

Authored by Manas Chakravarty for Moneycontrol. 

This article was originally published in Moneycontrol. Views published do not represent the stand of this publication.