Fitch upgrades India to 'investment grade'

Rating agency Fitch on Tuesday upgraded India's long-term foreign and local currency issuer default ratings to BBB- from BB+. The short-term foreign currency IDR is also raised to 'F3' from 'B' and the country ceiling is upgraded to 'BBB-' from 'BB+'.

"This upgrade reflects Fitch's view that fiscal consolidation is at last taking hold in India, reinforced by the impressive growth story. India's external strengths have looked comfortably low investment grade for a while; public finances are still weak, but they are no longer an insuperable constraint on this rating," said Paul Rawkins, senior director in Fitch's Sovereign team in London.

Fitch says that for the first time since it started rating India in March 2001, there appears to be near universal commitment among the Centre and the states to fiscal consolidation.

This sea change in policy intent, coupled with a more discernable path of fiscal consolidation, has reduced the risk that India's weak public finances could impair its strong external financial position.

Although still high, revised data show the general government deficit declined to 7.7 per cent in 2005-06 from 10.1 per cent of GDP in fiscal year 2001-02.

Higher growth and lower interest rates have played a part in this outcome but so, too, have much improved tax administration and some widening of the tax net.

Modest tightening at the Centre has been matched by parallel progress among India's 25 states and Union Territories, many of which have introduced value-added tax and enacted fiscal responsibility legislation over the past year.

Fitch acknowledges that, at 84 per cent of GDP, the public debt ratio remains far above the 'BBB' median (34 per cent) and has been slow to respond to higher growth.

However, the agency argues that India has long demonstrated an ability to sustain much higher debt levels than many of its rating peers. An established track record of macroeconomic stability, low inflation and a high domestic savings rate have been key, coupled with a deep domestic capital market and external capital controls, says Fitch.

An important by-product of the government's heavy reliance on the domestic debt market to fund its borrowing requirement has been the build up of a net public external creditor position well ahead of the 'BBB' median (12 per cent of current external receipts).

The agency says this, plus an unblemished debt service record, in contrast to many of its rating peers, represent important sovereign rating attributes weighing strongly in the balance against India's weak public finance ratios.

Fitch says India's structural reforms, gradual though they may appear, are starting to reap dividends: the economy has been growing at close to 8.5 per cent per annum since 2003-04, notwithstanding the oil price shock, an earlier precursor of which brought the economy to its knees in the early 1990s.

While noting that higher oil prices have taken their toll of inflation and the balance of payments, the agency says that neither are the constraints that they once were on growth.

India is expected to encounter little difficulty in financing a larger current account deficit of 2.4 per cent of GDP in 2006-07: the gross external financing requirement is estimated at just 18 per cent of reserves, well below the 'BBB' median of 74 per cent, underlining the fact that $155 billion of international reserves buys significant insurance against external shocks.

"India's ability to sustain growth of 8 per cent and more will be an important factor in the evolution of its sovereign ratings and one that is likely to demand greater fiscal consolidation and a renewed push on structural adjustment," said Rawkins.

Talking about the difference between India and China, Amit Tandon, managing director, Fitch Ratings (India) said:

"One of the greatest contrasts between China and India is the poor quality of India's infrastructure. Indian industrialists maintain such constraints shave between 1-2 per cent off annual GDP growth rates."

Propelling India closer to sustainable double-digit growth of 10 per cent will demand greater fiscal consolidation and a renewed push on structural reforms, he added.