Reiterating that there is one out of three chances of a cut in India's sovereign ratings to junk in 24 months, ratings agency Standard and Poor's (S&P) on Tuesday said high fiscal deficit and debt remained the two most important drags on retaining India's ratings.
It also expressed doubts over Finance Minister P Chidambaram's target of fiscal deficit for 2013-14 and said fiscal reforms and raising of the foreign direct investment ( FDI) cap in various sectors, including insurance, will be difficult, given the current political gridlock.
"High fiscal deficits and a heavy debt burden remain the most significant rating constraints," the ratings agency said in its credit analysis here. S&P currently has assigned the lowest investment rating on India at BBB-.
It has said a downgrade is likely if India's economic growth prospects are dim, its external position deteriorates, its political climate worsens, or fiscal reforms slow.
"On the other hand, the ratings could stabilise again if the government implements initiatives to reduce structural fiscal deficits and to improve the investment climate. Fiscal measures could include an increase in domestic fuel and fertiliser prices and more efficient use of subsidies, or early implementation of the proposed goods and service tax," it added.
Stating this, it, however, expected only modest progress in fiscal and public sector reforms.
"Such reforms include reducing fuel and fertiliser subsidies, introducing a nationwide GST, and easing of restrictions on foreign ownership in various sectors such as banking, insurance, and retail," it added. It should be noted that Parliament has already voted in favour of 51 per cent FDI in multi-brand retail, but the policy's execution remains in the domain of states.
Chidambaram has come out with a road map for this financial year. It pegged the Centre's fiscal deficit at 5.3 per cent of gross domestic product (GDP) for 2012-13 from the Budget estimate of 5.1 per cent. For the next financial year, it targeted to contain fiscal deficit at 4.5 per cent. However, the ratings agency took this target with a pinch of salt. "...in our opinion, these targets may be beyond the reach of the the current government, particularly if global oil prices increase significantly," it said.
The agency added: "We expect consolidated gross general government debt to increase to 73 per cent of GDP in fiscal 2013 on the back of 8.1 per cent nominal GDP growth."
Interest payments will likely consume about 25 per cent of general government revenue. "Broadly, India's fiscal profile is a rating weakness."
It also said high inflation--despite some moderation--remains a risk to India's macroeconomic growth. The wholesale price index-based inflation, which peaked at 12.4 per cent in 2009, remained high at 7.45 per cent in October 2012.
On positive factors, S&P referred to India's favourable long-term growth prospects, moderately deep capital markets, and high level of foreign exchange reserves. However, it also opined that greater dependence on external portfolio equity flows increased the vulnerability of the economy to external shocks.
The agency termed India's external position as resilient. However, it expects current account deficit to remain high at four per cent of GDP in 2012-13, though down from 4.2 per cent last year. S&P also projected exports to shrink by 12 per cent this financial year.