The ability of Indian banks and corporates to borrow overseas could be hit if the country's sovereign rating is downgraded, the Reserve Bank of India (RBI) said on Thursday, after recent cuts to the country's outlook by Fitch and Standard & Poor's.
"A change in the current external rating of the country could have 'cliff effects', impacting both, the availability and the cost of foreign currency borrowing for Indian banks and firms," the RBI said in a report on financial stability.
The central bank said a large part of foreign currency borrowings by Indian companies are in loans not debt.
Global rating agencies Fitch and S&P have cut their credit outlook for India to negative from stable, citing a slowing economy, policy inaction and worsening fiscal, and current account deficits.
S&P said there is a one-in-three likelihood of a sovereign credit rating downgrade if the situation remained unchanged. S&P has a sovereign rating of BBB- on India - the lowest investment grade.
The downside risks to growth remain in the 2012/13 fiscal year that started in April, while inflation risks also persist, the RBI said.
"While falling global commodity prices could aid in checking inflationary trends in the coming months, the potential impact of the lagged pass-through of rupee depreciation, suppressed inflation in energy and fertilisers and possible fiscal slippage continue to pose a threat," the report said.
Prime Minister Manmohan Singh, who has taken charge of the finance ministry, summoned officials on Wednesday to formulate an economic revival plan and said he wanted to revive the "animal spirit" of Indian economic growth.
India's economic growth slowed to a nine-year low of 5.3 percent in the March quarter, sharply lower than near double digit growth seen before the Lehman crisis in 2008.
However, inflation pressures also remain high with consumer price inflation in May at 10.36 percent and headline inflation at 7.6 percent in May.
The central bank refrained from reducing interest rates at its policy review earlier this month, despite widespread expectations of a cut, citing inflation risks and need for fiscal consolidation.