Fitch affirms India at BBB negative

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(The following statement was released by the ratings agency)

Fitch Ratings has today affirmed India's long-term foreign and local currency Issuer Default Ratings (IDR) at BBB-. The outlook on the long-term foreign currency IDR is stable, while that on the long-term local currency IDR is negative. The short-term foreign currency IDR is affirmed at 'F3' and the country ceiling at BBB-.

"Fitch regards the deterioration in India's public finances since 2008 as partly structural, putting negative pressure on the local currency rating that will require substantive fiscal reform to redress," said Andrew Colquhoun, Director in Fitch's Asia-Pacific Sovereign Group. "The foreign currency ratings remain well-supported by foreign investment prospects and by the world's sixth-biggest stockpile of foreign reserves."

India's general government budget deficit rose in FY09 to 11.6% of GDP, from 6.4% a year earlier, as revenues were eroded by tax cuts made as a stimulus measure, while higher commodity prices boosted subsidy spending, the recommendations of the Sixth Pay Commission led to hikes in public sector salaries, and farmers received pre-election debt relief. Fitch projects only a small reduction in the deficit to 10.7% of GDP for FY10, which takes the general government debt stock to a projected 83% of GDP by end-FY10, undoing the results of the fiscal consolidation achieved since FY04. The government's abandonment of the fiscal targets laid out in the Fiscal Responsibility and Budget Management Act of 2003 leaves India without a credible fiscal framework to constrain policy and reduce its debt ratios.

Against this backdrop, the FY11 budget and the report of the Thirteenth Finance Commission (13FC), both expected at end-February, will be important fiscal-policy statements. The 13FC was mandated to consider fundamental revenue-side reforms including introduction of a goods and services tax, and to recommend a new deficit-reduction framework. Fitch will pay close attention to the content of these documents, and will look for evidence of the government's willingness to abide by any new commitments. Fitch believes that India requires substantive fiscal reforms to address or offset the weaknesses exposed in FY09-FY10 and consolidate its place in the BBB range.

Notwithstanding fiscal weakness, the Indian economy continues to perform strongly, supporting the ratings. GDP growth is expected at 6.4% for FY10, strengthening to 7% in FY11. Global recovery supports India's near-term economic prospects, with export growth turning positive in November 2009 (+18% YoY). Wholesale-price inflation reached 7.3% by end-December, and could hit double-digits in early 2010; in response, the Reserve Bank of India began tightening monetary policy on January 29 by hiking the cash ratio reserve requirement 75 bps, to 5.75%. While base effects and a 19% rise in food prices after a poor summer harvest contributed to higher inflation, this could become a risk to India's economy if it gets entrenched in expectations, highlighting the importance of an effective exit from policy stimulus by the authorities.

India's strong external finances, including its sovereign and overall net creditor status and the world's sixth-biggest stockpile of official reserves by end-2009 (USD 283 billion, up 11% on a year earlier), continue to support the foreign currency ratings. By contrast, poor physical infrastructure, underdevelopment reflected in low average incomes, and weak governance indicators relative to rated peers weigh on the ratings. Structural reforms aimed at tackling these weaknesses would support economic prospects and strengthen the sovereign credit profile.

Applicable criteria 'Sovereign Rating Methodology', dated October 16 2009, are available on www.fitchratings.com .