S&P’s decision to retain India’s rating as well as outlook is definitely disappointing. The reason is that it is not really clear as to what is it that is objectively being evaluated when assigning a sovereign rating. India stands precariously at BBB(-) which is on the precipice of being sub-investment. The need for open discussion is not just because it affects India, but also several emerging economies are in a similar situation.
Yet, it has been a market looked at very positively by foreign investors—both FDI and FII. FDI sees a lot of opportunity in various sectors and has been flowing in large numbers in the last couple of years. In 2015, India drew more FDI than any other country. FII funds look at money making opportunities and have entered both the debt and equity markets thus reinforcing their faith in the economy and prospects. Curiously, the same government debt that has been flagged by the rating agency as being a concern has seen the most enthusiastic response from foreign investors and the limits get exhausted almost immediately.
Quite clearly, those who are investing have a different view on the country and have never found it risky to invest in the country’s debt, which a rating is supposed to evaluate. Does it mean that such ratings are more of a commentary by an agency on the country in general and not a factor that is used for decision taking by those who are staking their money? There evidently seems to be a disconnection between what the rating is supposed to denote and the way in which it is perceived by investors. In fact, if one looks at the initial response of masala bonds, which is not being raised by the government but private parties, the response has been very impressive. What is one to make of it?
The answer is that it is hard to assimilate the fact that the fastest growing economy in the world has an unchanged rating for several years now; and when an established rating agency declares that there is unlikely to be a change in the rating in the next two years, it is difficult to accept the same. The major bone of contention is government debt; and almost all issues are orbiting around it. The curious part is that all Indian debt is denoted in rupees and hence, theoretically debt which is exclusively in domestic currency cannot default and the worst case situation is when it becomes inflationary. Therefore, to over-emphasise the fiscal deficit and the debt level could be questioned as being restrictive in scope.
In fact, the reforms on the fiscal side have been quite amazing and should have been a reason for change in rating or outlook. The power sector reforms at the state level have been largely successful, and hence has been a very good response to the concerns that have been expressed by global rating agencies on the state of the DISCOMs. The realigning of fuel prices and rationalising the same on the subsidy front by the central government are major steps taken which provide better flexibility to the fiscal numbers. Further, the GST is a just a few months away and will bring about efficiency on the revenue side. Hence, the fiscal situation can only be regarded as being very positive with no discernible risk factor.
It does appear that sovereign ratings run the risk of being very straight jacketed in approach where a single norm is used for evaluating various countries. Pure numbers like debt to GDP are much higher than India for almost all developed economies like USA (104%), Euro (91%), Germany (71%), UK (89%), France (96%), and Canada (91%). And all these countries with stagnant growth and high debt levels have a rating of anywhere between AA and AAA. While the justification given is that these are anchor currencies and hence have the prerogative, a difference in rating of 6-8 notches between India and the others becomes difficult to explain.
A curious pattern in the way in which the rating of India has been judged by various international rating agencies is that there is a list of concerns that have been put forward which include parameters such as growth (under the UPA government), fiscal deficit (when it crossed 5%), government debt, inflation (when it crossed 10% due to crop failures), reforms (including GST), current account deficit (when it went past 4-5% mark when oil prices spiraled), bank NPAs (bankruptcy code is now there), FDI (need to open up more to foreign investments) etc. Over the years, the government and RBI have addressed all these issues sequentially such that the country was more or less compliant with these issues. Yet, there is fairly cynical approach taken to evaluating the Indian sovereign rating, which actually begs the question as to what is it that any country should do to get a better rating? The WEF and World Bank think that in the last two years we have made significant progress on the business environment front which is however not noticed by the global rating agencies.
This is probably why there has been some talk within the developing nations that it is always a challenge to move up the rating scale as the approach to rating appears to be quite singular. Developing economies have certain deep rooted problems like poverty and inequality and have to strive towards inclusive growth. Governments cannot shirk their responsibility here and while they have been critically looked at when there are subsidies, the same yardstick is not used when western nations have large allocations for healthcare —which are similar in scope to what governments in emerging markets do.
It is also not surprising that there has been a call to have more international rating agencies to offer alternative views (provided they believe so) which has also led to the germination of the idea of BRICS Rating agency. In fact, a new credit rating agency, ARC Ratings (where CARE Ratings is a shareholder) views the Indian economy differently with ratings of BBB+ for foreign currency and A- for domestic currency ratings.
While we in India could be wary of the unchanged rating, at the broader level, there needs to be some discussion on bringing in some more objectivity in these ratings as countries could also then strive to move in the right direction. Using per capita income as the ultimate explanation may tend to blur the vision as populous countries will always tend to have a low number even if they are growing at a very high consistent rate. The debate must begin
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