The upgrade, Moody’s first of India since January 2004, moves the rating to the second-lowest investment grade, one notch higher than Standard & Poor’s and Fitch, which have kept India just above “junk” status for a decade and more.The decision by Moody’s is a plaudit for Prime Minister Narendra Modi’s government and the reforms it has pushed through, and comes just weeks after the World Bank moved India up 30 places in its annual ease of doing business rankings. This author decodes what the rating upgrade means for the Indian economy.
International rating agency, Moody’s, upgraded India’s government debt rating from Baa3 to Baa2 on November 16 with a stable outlook. The last upgrade had happened way back in 2004 when Moody’s had upgraded the rating of India’s government debt from speculative grade to Baa3. The irony was that for a full 14 years the Indian government debt had been classified as just one notch above speculative grade. That did little justice to an economy that boasted of a GDP of $2.2 trillion and a market cap of $2.6 trillion. Indian economy is growing at a rate of above 7% which is on par or slightly better than China. The fact that India could sustain high growth at a time when the entire world was struggling is a testimony to the economy’s resilience. Remember, all this was done without letting the fiscal deficit out of control and adhering to the strictest standards of fiscal responsibility. To be fair, the one redeemable feature of this upgrade was that it was better late than never.
Why did Moody’s upgrade India from Baa3 to Baa2?
According to the note put out by Moody’s there were 4 key triggers for the upgrade from Baa3 to Baa2
• Moody’s believes that the reforms consisting of fairly significant moves like GST implementation, digitization via demonetization and the frontal attack on bank NPAs will not only strengthen India’s institutional framework but also increase productivity and help sustainable growth.
• Moody’s also believes that the government debt at 68% of GDP will remain stable once reforms are undertaken in a big way and growth comes back to the economy. This is critical because Baa median debt/GDP ratio is 44%.
• Thirdly, some changes in the macro institutional framework are also likely to be positive for India. The commitment of the FRBM, institutionalization of monetary policy through the MPC and the GST Council will promote transparency and fairness.
• The big trigger for Moody’s was the massive boost to resolving banking NPAs via the deployment of Recapitalization Bonds. This is likely to help banks grow their loan books, at the same time preparing for the post Basel-IV scenario.
But there are some words of caution too from Moody’s
Moody’s has also cautioned about some real risks to this upgrade. Factors like a low level of per-capita Nominal GDP, a threat of inflation, exposure to oil imports, current account deficit and the social inequalities could make the Indian economy vulnerable. That is something to be cautious about.
What does this rating upgrade mean for India?
In terms of the implications of these ratings, there are 5 key takeaways for now
• India is already the largest recipient of foreign direct investment (FDI) at over $60 billion per annum and this upgrade could expedite the flows of FDI into India.
• Foreign portfolio Investors are likely to increase their allocation to India as Indian becomes more attractive in risk-adjusted terms.
• External commercial borrowings (ECBs) could get cheaper as the rate of interest is calculated as a spread over the LIBOR and this spread is inversely related to the risk perception.
• If the reaction of the Nifty and the Sensex was any indication, equities have received this announcement positively. That is hardly surprising because a rating upgrade results in lower risk perception leading to lower cost of capital and therefore higher valuations for equities.
• Bond yields are likely to come down further as the spread with other country yields will now narrow due to the upgrade
Above all, this upgrade is a stamp of trust in India’s reforms process. That could be the key takeaway!
The author is Mayuresh Joshi, Fund Manager -Angel Broking Pvt Ltd
Disclaimer: Views expressed are personal. They do not reflect the view/s of Business Standard.