Fitch upgrades India rating to BBB- from BB+

Fitch Ratings has upgraded the India's Long-term foreign and local currency rating to investment grade taking note of fiscal consolidation at the centre and state level.

India's Long-term foreign and local currency Issuer Default Ratings ('IDRs') have been upgraded to 'BBB-' from 'BB+', both with stable Outlook. The Short-term foreign currency IDR is also raised to 'F3' from 'B' and the Country Ceiling is upgraded to 'BBB-' (BBB minus) 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," says Paul Rawkins, Senior Director in Fitch's Sovereign team in London.

This is 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 declining to 7.7% in 2005/06 from 10.1% 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.

"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% off annual GDP growth rates. Propelling India closer to sustainable double digit growth of 10% will demand greater
fiscal consolidation and a renewed push on structural reforms. India now needs to accelerate reforms soon if the media and market hype encapsulated in such slogans as 'India Everywhere' is to be translated into reality,"
said Amit Tandon, managing director, Fitch Ratings India.

Fitch acknowledges that, at 84 per cent of GDP, the public debt ratio remains far above the 'BBB' median (34%) 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% 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 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% of GDP in 2006/07: the gross external financing requirement is estimated at just 18% of reserves, well below the 'BBB' median of 74%, underlining the fact that $155 billion of international reserves buys significant insurance against external shocks.

Despite its more upbeat assessment of the country's public finances, Fitch says that growing signs that private sector borrowers are being 'crowded out' indicate that the public sector borrowing requirement is still incompatible with India's growth aspirations. Credit growth is outstripping
deposit growth, raising fears of a credit crunch which, together with rising inflation expectations, have formed the backdrop to higher interest rates since 2004.

"India's ability to sustain growth of 8% 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," Fitch's Rawkins said.