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If the shoe Fitch

22 May 2012 By Wayne Arnold

India no longer deserves a credit ratings upgrade. That hasn’t stopped New Delhi from lobbying Fitch for one, arguing that foreign inflows protect it from its persistent current account gap. But the tumbling rupee says otherwise. Rival rater Standard & Poor’s has even threatened to cut its rating on India’s debt. With slowing growth likely to keep government debt high, the risk is that those inflows go the other way.

A few months ago, calls for an upgrade seemed justified. Policy reforms and rapid growth were pulling India’s debt-to-GDP ratio downwards. Moreover, most of India’s debt is financed locally, and its finances on some measures look stronger than more highly rated governments like South Korea and New Zealand. It looked like the ratings agencies, which began to turn friendly after Moody’s granted India investment-grade status in 2004, were being too mean.

The problem is that stalled reforms and slowing growth have recently exposed India’s vulnerabilities. Chief among these is a government debt equivalent to 68 percent of GDP, one of Asia’s highest and higher than similarly rated governments like Brazil and Romania. India’s $291 billion in foreign reserves offer it thinner cover against short-term external debt than either Colombia or Indonesia. Its current account deficit, relative to GDP, is larger, too.

India’s biggest vulnerability is one it considers a strength. Short-term investment inflows, many from non-resident Indians, are among Asia’s highest. Such flows help India to fund its deficits when investors are bullish, but can just as easily go in reverse if attitudes sour. That helps explain why the rupee has fallen more than 10 percent in the past three months to a record low.

India clearly hopes an upgrade from Fitch will lower its borrowing costs and resurrect the rupee. But after failing to upgrade India for five years when growth was strong and finances improving, Fitch is unlikely to do so now. India can count itself lucky in one respect: had Fitch upgraded it before, it would likely face an embarrassing downgrade now. India should be happy with the rating it has.


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