Context: Moody’s Investors Service (“Moody’s”) downgraded the Government of India’s foreign-currency and local-currency long-term issuer ratings to “Baa3” from “Baa2”. It stated that the outlook remained “negative”.
More on Moody’s rating
- Even though Moody’s rating considered historically the most optimistic about India.The latest downgrade reduces India to the lowest investment grade of ratings and brings Moody’s ratings for the country in line with the other two main rating agencies in the world i.e Standard & Poor’s (S&P) and Fitch (see attached chart on the brief history of India’s sovereign rating).
- Reason given by Moody: “The decision to downgrade India’s ratings reflects Moody’s view 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”.
Rationale for this downgrade:
- Weak implementation of economic reforms since 2017: implementation of reforms has been relatively weak and has not resulted in material credit improvements, indicating limited policy effectiveness.
- Relatively low economic growth over a sustained period.
- A significant deterioration in the fiscal position of governments (central and state): Poor growth has been made worse by worsening government (both Centre and state-level) finances.
- Also there has been rising stress in India’s financial sector.
- Moody’s changed the outlook on India’s Baa2 rating to “negative” from “stable” precisely because these risks were increasing.
- Covid-19 impact on rating: Moody’s was categorical that while this downgrade is taking place “in the context of the Coronavirus pandemic, it was not driven by the impact of the pandemic.
- 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”.
What does “negative” outlook mean?
- 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.
- It highlights persistent structural challenges to fast economic growth such as weak infrastructure, rigidities in labor, land and product markets, and rising financial sector risks.
Implications of this downgrade
- A rating downgrade means that bonds issued by the Indian governments are now “riskier” than before, because weaker economic growth and worsening fiscal health undermine a government’s ability to pay back.
- Lower risk is better because it allows governments and companies of that country to raise debts at a lower rate of interest.
- In the long term it reduces investment in the economy.