Sovereign Rating Downgrade Risk for India

With the lowest GDP of 4.4% in this quarter, steadily increasing fiscal deficit, steep decline in the rupee value could potentially put India into the risk of rating downgrade. “There are numerous country specific problems which are not related to the global market is impacting the investors confidence”, this what the experts said. However, the current rating also not an top notch level, it is mere just above the junk status. But, moving down to the junk status would have huge impact on India’s fortune. We have enjoyed the perception of India as the emerging market and great growth opportunities for the investment. That is the reason why foreign investors are more interested in the Indian markets.

Three major rating agency’s we have to look upon is Moody, S&P and Fitch. With the economy is shrinking, downgrading to the junk status looms large. These three rating agencies have warned India about the raising fiscal deficit which would force them to re-look the current rating and may move to the one level down which is the lowest level. In this article, I will write about the current rating and how other countries are rated by these agencies. Also what are the impacts on downgrading the sovereign rating.

What is Sovereign Rating?

In simple terms, it is rating for a country to give confidence to their lenders. This rating have major impact on the bond markets. A high rating implies that, it is less risk on buying the bonds form the high rating country. The investors need not be worried about the default on payment. This essentially impacts the interest rate for that country’s bonds. If one country has good rating, many governments and companies would be interested in buying their bonds, in that scenario interest rate for that bonds will be low since is safer investment.

If a country moves into a low rating territory, investors won’t be interested in buying the bonds because it too risky. In that scenario, interest rates will be increased to attract the investors to sell the bonds. When it happens, a country whose rating is low tends to pay more interest payment then before. Now you can realize if the rating is downgrade for India, how it will impact India. India has huge debt in with other countries.

These ratings become more important after the great depression in 1930. In the early 90’s, most of the countries have shockingly defaulted the payment to their bond holders. It resulted in the rise of rating agencies to help the bond market and inform the investors about the risk associated with their investment. Three ;leading rating agencies are Moody, S&P and Fitch. There are several factors how they determine the appropriate rating.

What Are The Ratings and Meaning?

Best rates from excellent to poor in the following manner: A++, A+, A, A-, B++, B+, B, B-, C++, C+, C, C-, D, E, F, and S. The below table represents the overall rating list of the three major rating agencies. It also explains the risk level for the each category. India is in the triple BBB level at present.

Credit Rating Scale for Countries

India’s Rating Outlook

The below picture shows the current rating scale for India. Anything in “B” is not a great rating, however most of the emerging countries are in the same category. If it goes below this rating, it is not good for a country.

India Rating By Credit Rating Agencies

Factors Determining Rating

There are many factors considered while determining the ration for a country.

  1. Gross Domestic Product (GDP):It is one of the important factor on deciding the present condition of an economy. A good growth in GDP shows the economy is improving and the tax revenue increases for the government. Here what to consider is the growth rate of the GDP. If an economy is already in several problem, decline in GDP worsen the matters and chance of downgrade.
  2. Inflation:: Any increase in the inflation shows the problem in the country’s supply chain. Also it creases the political instability due to the change in the cost of living among people.
  3. External Dept: A steep increase in the external debt is clear indication of growing burden for the country. This is attributed from the growing fiscal deficit. When trade balance is not manageable, countries started borrowing outside for the daily expenses. This will also increase the monthly interest payment.
  4. History: History tells credit agencies how a country handled the creditors in the past. Is there any defaulting risk?. If you take India, we had a default crisis in 1991 with just having the reserve to spend for the next two months. We were about to go bankrupt, that is the time we open the global markets to allow the foreign inflows.
  5. Other Factors: Apart from the above factors, there is many other factors which is influencing the ratings. Each rating agency has its own method to determine ratings. However, mostly all the agencies reflect the similar assessment.

Final Words…

I hope this article would have provided good insight on the importance of ratings for an agency. India has to improve its ratings by scaling up its economy like other emerging markets. We are in the currency crisis which is damaging our economy. However, we have hope to recover from this and introduce good policies to encourage our local manufactures to reduce the imports. Depreciation in rupee is not the only signal that country is in problem, we can utilize this opportunity to reduce the imports and use the local products.

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