Fitch affirms India at 'BBB-'; Outlook Stable

Fitch Ratings has affirmed India's Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'BBB-' with a Stable Outlook.

Key Rating Drivers

Robust Growth, Weak Fiscals: India's rating reflects strengths from a robust growth outlook compared with peers and resilient external finances, which have supported India in navigating the large external shocks over the past year. These are offset by India's weak public finances, illustrated by high deficits and debt relative to peers, as well as lagging structural indicators, including World Bank governance indicators and GDP per capita.

High GDP Growth amid Headwinds: We forecast India to be one of the fastest-growing Fitch-rated sovereigns globally at 6% in the fiscal year ending March 2024 (FY24), supported by resilient investment prospects. Still, headwinds from elevated inflation, high-interest rates and subdued global demand, along with fading pandemic-induced pent-up demand, will slow growth from our FY23 estimate of 7.0% before rebounding to 6.7% by FY25.

Robust Medium-Term Outlook: Strong growth potential is a key supporting factor for the sovereign rating. Growth prospects have brightened as the private sector appears poised for stronger investment growth following the improvement of corporate and bank balance sheets in the past few years, supported by the government's infrastructure drive. Still, risks remain given low labour force participation rates and an uneven reform implementation record.

India's large domestic market makes it an attractive destination for foreign firms. However, it is unclear whether India will be able to realise sufficient reforms to allow the economy to benefit substantially from opportunities offered by the deeper integration of global manufacturing supply chains, including the China+1 corporate strategy that encourages diversification in investment destinations. Service sector exports, however, are likely to remain a bright spot.

Improving Financial Sector: Sustained improvements in asset quality and profitability have led to a strengthening of bank balance sheets on the back of the economic recovery. This has created headroom to absorb risks as pandemic-related forbearance measures continue to unwind in FY24. Banks appear well-positioned to support sustained credit growth if capitalization is well-managed.

Moderating Inflation: We forecast headline inflation to decline, but remain near the upper end of the Reserve Bank of India's 2%-6% target band, averaging 5.8% in FY24 from 6.7% last year. Core inflation pressure appears to be abating, falling to 5.7% in March, its lowest since July 2021.

Modest Deficit Reduction: We expect the general government deficit (excluding divestments) to narrow to a still-high 8.8% of GDP in FY24 (2023 BBB median: 3.6%) from 9.2% in FY23. We expect the central government (CG) to meet its budget's planned reduction in the CG deficit to 5.9% of GDP in FY24 from 6.4% in FY23. The budget proposal boosts capex to 3.3% of GDP from 2.7% in FY23, offset by a cut in subsidy spending, notably in the year before the 2024 national election. Aggregate state deficits are forecast to rise slightly to 2.8% of GDP in FY24 from our 2.7% estimate in FY23, as they also raise capex.

Challenging Consolidation Path: The government's medium-term fiscal guidance retains its CG deficit target of 4.5% of GDP by FY26, but provided limited details on how this would be reached. The government has demonstrated a recent commitment to meeting its budget targets. However, we believe it will be challenging to achieve this target, which would require accelerated consolidation of 0.7pp per year in FY25 and FY26, compared with 0.3pp in FY23 and 0.5pp in FY24. Future deficit reduction is likely to come mainly from trimming expenditure, in our view.

High Public Debt Burden: India's general government debt remains elevated at Fitch's estimate of 82.8% in FY23 relative to the 'BBB' median of 55.4%. Under our debt dynamics, we forecast debt to remain broadly stable at around 83% of GDP in FY28, with an assumption of robust nominal growth of around 10.5% and continued gradual consolidation. The lack of sustained debt reduction is likely to increase risks to the rating if India faces a future economic and fiscal shock.

A high government interest payment/revenue ratio of around 27% in FY23 (BBB median: 7%) is a growing structural fiscal weakness. On the other hand, India's public finance risks are mitigated in part by limited reliance on external financing.

Current Account Deficit Narrowing: We have cut our estimate of the FY23 current account deficit to 2.3% of GDP from 3.3% in our December review and forecast a 1.9% deficit in FY24. The improvement is driven by robust services exports and buoyant remittances, combined with a moderating goods deficit from declining oil prices. Services exports have boomed as domestic technology firms have moved up the value chain and multinationals have offshored back-office operations to India amid tight labour markets globally.

Resilient External Liquidity Buffers: Ample foreign-exchange (FX) reserves continue to provide a cushion to manage external financial volatility. FX reserves rebounded to USD584.2 billion (7.1 months of current external payments) as on 21 April 2023, up from their September 2022 low by about USD52 billion. We expect them to continue to rise modestly in the coming years.

ESG - Governance: India has an ESG Relevance Score of '5' for Political Stability and Rights and '5[+]' for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. Theses scores reflect the high weight that the World Bank Governance Indicators have in our proprietary Sovereign Rating Model. India has a medium World Bank Governance Indicator ranking of 47.8, reflecting a record of peaceful political transitions, rights for participation in the political process, moderate institutional capacity, established rule of law and a moderate level of corruption.

Source: Fitch Ratings

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