India's GDP growth is likely to be in the 7.5-8.0 per cent range in 2011-12 and inflation could abate slowly over the year to about 7 per cent, according to Moody's Investors Service.
Given the current global uncertainty and the continuing transmission of the Reserve Bank of India's tightening over the last year, the risks to both forecasts are on the downside, the credit rating agency said in its annual sovereign report on India.
However, the 2011-12 GDP growth rate in the 7 per cent range would not change Moody's assessment of the country's sovereign credit outlook.
“At this point, policy actions to spur future investment may best guard India's growth against the confidence impact of a global crisis,” said the agency.
Moody's expects that policies will continue to increase India's international economic integration and improve the country's operating and investment climate.
The Government's efforts to introduce structural change (by allowing FDI in restricted sectors or liberalising the labour regime, for instance) have decelerated in recent years.
In this regard, the agency cautioned that since policy changes give an impetus for growth acceleration, prolonged policy stasis would be negative for the country's credit profile.
India's resilience to the global economic downturn following the financial crisis in 2008 may well be tested again in the coming months, as a likely global economic slowdown coincides with the country's own business cycle trough.
Credit outlook
Although rising domestic interest rates and an uncertain global economic environment could dampen its near term GDP growth, a cyclical slowdown is unlikely to alter India's credit outlook, according to Moody's Investors Services.
India's medium to long term economic potential continues to be buoyed by its demographic profile, robust savings and investment rates and the rising international competitiveness of its corporations, the credit rating agency said in its annual sovereign report on India.
Democratic institutions
The most recent policy battle — over the anti-corruption Lokpal Bill — provides vivid evidence of the strengths of India's democracy (vociferous and organised dissent that checks government actions) and its challenges (protracted negotiations before any initiatives can be implemented).
Corruption, highlighted in recent scandals around the Commonwealth Games as well as telecoms licensing, impairs a business environment that is otherwise well served by the country's demographics, entrepreneurial traditions, respect for private property rights, and propensity for innovation.
The protests around the Lokpal/Jan Lokpal Bill are also an indication that corruption is a key concern across the country.
Debt, interest burden
Moody's assessment of low government financial strength incorporates limitations on fiscal flexibility posed by the Government's significant debt burden, equalling 71 per cent of GDP.
Although government debt levels are high, the risk that external or currency shocks would otherwise pose to repayment is mitigated as around 95 per cent of government debt (denominated in rupees and has a favourable maturity structure) is owned to domestic institutions.
Moreover, statutory requirements (that mandate domestic banks to hold specific levels of government securities as a proportion of deposits) and restrictions on capital investment abroad ensure that demand for government debt keeps up with supply.
Banking sector
Despite a likely growth slowdown over the coming months that will adversely affect profitability, India's generally well-capitalised and regulated banking system does not pose financial risks. It is also not materially exposed to regions currently suffering from sovereign and banking sector problems.
Moody's stable outlook for India's banking system ‘reflects favourable operating conditions for Indian banks, solid capital levels, a strong retail deposit funding base, and sound liquidity.
These positive factors are balanced by the need to manage the accelerating pace of loan growth and recent asset quality challenges (particularly in consumer lending).