Indian Prime Minister Manmohan Singh’s decision to put his popularity on the line for lower diesel subsidies and a smaller budget deficit is cutting the risk of a junk debt rating.
Indian Oil Corp raised the price of the fuel for the first time in four months on January 18, a day after the Cabinet allowed state refiners to set prices without government approval. The move, which followed a policy overhaul since September that lost Singh a coalition partner, will reduce the government’s annual subsidy bill by Rs 15,000 crore ($2.8 billion), according to the Australia & New Zealand Banking Group Ltd.
The cost of insuring against non-payment the debt of State Bank of India, considered by some investors as a proxy for the sovereign, fell 21 basis points this month through January 17, as the government raised $1.3 billion selling state assets and increased train fares for the first time in a decade. Credit-default swaps declined five basis points for Russia, were unchanged for Brazil and China in the same period, according to data provider CMA. “For now the government has managed to stave off a downgrade,” Vishnu Varathan, an economist at Mizuho Corporate Bank Ltd in Singapore, said in a January 18 interview. “To the extent that positive steps have been taken it would seem rather silly for rating agencies to jump the gun, so at least they want to look at overall reforms in the next six-to-eight months.”
Rating outlook
The increases in train fares and diesel prices came after Standard & Poor’s and Fitch Ratings affirmed their negative outlook for India’s investment-grade ranking, saying it may be downgraded to junk within 24 months if growth and policy reforms slow. Fitch said on January 8 the government will probably miss a target of containing its fiscal-deficit target for the year to March 31 at 5.3 per cent of GDP.
S&P said in a January 18 e-mail its Singapore-based analyst Takahira Ogawa wouldn’t comment on the diesel increase before more clarity emerges on its implementation. The ratings assessor said in a December 11 report India faces “at least” a one-in-three likelihood of a downgrade. Andrew Colquhoun, Hong Kong-based head of Asia-Pacific sovereigns at Fitch, declined to comment.
“This is a confirmation of the government’s seriousness towards fiscal consolidation,” Killol Pandya, Mumbai-based head of fixed-income investments at the local unit of Daiwa Asset Management Co, said by telephone on January 18. “It assists in improving India’s image among investors and allays fears of a rating downgrade.”
Cutting subsidies
Asia’s third-largest economy will expand about 5.7 per cent to 5.9 per cent in the financial year through March, less than an earlier estimate of as much as 7.85 per cent, the finance ministry said in a mid-year review presented to Parliament on December 17. That would be the smallest gain since the year ended March 2003, when gross domestic product grew four per cent.
India plans to trim its subsidy bill for food, fuel and fertiliser to Rs 1.9 lakh crore, or two per cent of GDP, this financial year.
Indian Oil raised diesel prices by Rs 0.50 a liter in New Delhi, according to the company’s website. The nation’s largest refiner also increased the price of domestic non- subsidized cooking gas cylinders by Rs 46.50 a bottle.
State refiners sell diesel, cooking gas and kerosene at fixed prices. They are partly compensated by cash payments from the government and discounts on crude oil by state explorers. Gasoline is deregulated. They lost Rs 73,820 crore from selling diesel below cost in the nine months ended December 31, according to the oil ministry.
Bond yields
The yield on Indian Oil’s 5.625 per cent dollar bond due July 2021 fell to a record 3.894 per cent on January 18, according to data from Standard Chartered Plc. The yield has declined 36 basis points this year compared with a five basis point drop for the 5.4 per cent, 2022 bonds of Reliance Industries Ltd, the country’s biggest company by market value, the data show.
The rate on Bharat Petroleum Corp’s 4.625 per cent dollar notes due October 2022 fell to 4.04 per cent, the lowest since they started trading October 19.
The yield on the benchmark 8.15 per cent debt due June 2022 rose three basis points to 7.86 per cent on January 18, offering an extra 600 basis points over US Treasuries, while the rupee rose 1.3 per cent to 53.7062 per dollar.
‘Favorable dynamics’
“The bond market has perceived the diesel-price hike positively, as the subsidy burden reduces in the medium-term,” said Nagaraj Kulkarni, a Singapore-based analyst at Standard Chartered Plc. “We expect the gains in government securities to continue on the back of softening inflation, easing policy rates and favorable near-term demand-supply dynamics.”
The yield on 10-year government bonds slid 52 basis points in 2012, as traders boosted bets the Reserve Bank of India (RBI) will lower interest rates after inflation eased and Prime Minister Singh undertook his most-aggressive policy changes in a decade to improve public finances and spur growth.
Singh reduced taxes on companies’ overseas debt, trimmed energy subsidies and allowed more foreign holdings in local- currency bonds and in industries including retailing and aviation. The changes cost him the support of West Bengal state Chief Minister Mamata Banerjee, whose Trinamool Congress party withdrew its support and left the coalition in September.
RBI Governor Duvvuri Subbarao, who last cut the repurchase rate by 50 basis points to 8 per cent in April, will pare the rate to 7.75 per cent at a January 29 review, 11 of 14 analysts predicted in a Bloomberg survey this week. Two see a reduction to 7.5 per cent, while one expects no change.
