Fitch Says Risk To India’s Sovereign Rating From External Pressures Is Limited

Fitch expects Forex reserves to remain robust and current account deficit to be contained at a sustainable level as India's external finances are becoming less of a strength

External buffers of India appear sufficient to cushion risks linked with rapid monetary policy tightening in the US and high global commodity prices, Fitch Ratings has said.

According to the Fitch report, external finances are becoming less of a strength in India’s credit profile. However, the rating agency expect foreign-exchange reserves to remain robust and current-account deficit to be contained at a sustainable level. Moreover, public finances remain the key driver of the rating and are only modestly affected by these developments, particularly as India is relatively insulated from global volatility due to the sovereign’s limited reliance on external financing, Fitch said.

The country’s Forex fell by almost $101 billion in January-September 2022, but are still large at $533 billion. The decline has reversed much of the reserve accumulation that occurred during the Covid-19 pandemic, and reflects valuation effects, a widening current-account deficit, and some intervention by the Reserve Bank of India (RBI) to support the Indian rupee’s exchange rate. The central bank has attributed about two-thirds of the decline to valuation effects.

According to the report, reserve cover remains strong at about 8.9 months of imports in September. This is higher than during the “taper tantrum” in 2013, when it stood at about 6.5 months, and offers the authorities scope to utilise reserves to smooth periods of external stress.

Large reserves also provide reassurance about debt repayment capacity. Short-term external debt due is equivalent to only about 24 per cent of total reserves.

Gross external debt stood at 18.6 per cent of GDP in 2Q22, which is low compared with the median of 72 per cent for ‘BBB’ rated sovereigns in 2021. Sovereign exposures are small, with only about 4 per cent of GDP in primarily multilateral financing.

Foreign investor holdings of domestic sovereign debt represent under 2 per cent of the total, reducing risk of spillovers to the wider market should they seek to reduce their exposure.

Fitch stated, “We forecast India’s current-account deficit in the fiscal year ending March 2023 (FY23) will reach 3.4 per cent of GDP, from 1.2 per cent in FY22. Imports have surged on strong domestic demand growth and high oil and coal prices. Meanwhile, export growth has moderated from the fast pace seen in January-June 2022, amid declines in prices for steel, iron ore and agricultural products.”

Recessions in key European and US export markets will weigh on near-term export prospects. However, the current-account deficit will narrow in FY24, to 2.0 per cent of GDP, as easing global energy prices will also dampen imports. Our robust medium-term economic growth outlook on India should facilitate financing of the deficit, particularly from FDI, Fitch reported.