Standard & Poor’s Ratings Services has affirmed its ‘BB’ foreign currency and ‘BB+’ local currency long-term sovereign credit ratings on the
“India’s ratings remain constrained by high public debt and serious fiscal inflexibility,” says Takahira Ogawa, Standard & Poor’s Director of Sovereign Ratings in Asia-Pacific. “The consolidated debt of the central and state governments is expected to hover around 80% of GDP this year, and interest payments alone are likely to consume nearly half of central government revenue.”
“The ratings are supported at their current level by India’s ample external liquidity,” Ogawa expands. “Record high foreign exchange reserves now easily exceed six times the level of short-term external debt owed by the public and private sectors.”
The negative outlook on the ratings reflects concerns that the long-term trajectory of the government’s debt burden may continue to worsen even as the economy grows at about 5% per year and foreign exchange reserves remain high.
The recent passage of legislation to strengthen the stock market regulator and to bolster competition by amending archaic anti-monopoly laws augurs well for long-term growth prospects, as does the government’s renewed commitment to privatization. Similarly, the passage of the Securitization and Reconstruction of Financial Assets Act should bolster creditor rights and, if complemented with other steps to increase the commercial orientation of public sector banks, improve the quality of bank lending in coming years.
“These developments, while encouraging, may not staunch the erosion of the government’s own finances in the near term,” says Ogawa. “The upcoming budget for fiscal year 2003/2004 will indicate whether the government is able to capitalize on the recent acceleration in reform by undertaking meaningful tax reform and other steps to address the weaknesses in India’s public finances.”
Political compulsions are likely to prevent significant fiscal adjustment through reduced government spending, placing the burden of change on the revenue side. Total central government tax revenues account for only 11% of GDP in India, one of the lowest levels among rated sovereigns.
A recent government-appointed task force on taxation has proposed ambitious changes to the administrative machinery for collecting taxes, including greater use of automation in excise and customs collections. Other task force proposals address the problem of leakage of tax revenues through various types of tax exemptions and outline measures to widen the narrow base for personal and corporate income taxes. Many of the proposals likely after some modification might appear in the next budget due in late February.
Effective and timely implementation of tax reform, along with steps to move toward a value added tax combining existing state and central taxes, could result in more buoyant government revenues in coming years. That, in combination with a stronger political commitment to reversing the growth in budget deficits over recent years, could prevent the decline in the sovereign’s creditworthiness and lead to a stable outlook on its rating.