Moody’s Downgrade Expected, India Unlikely To Slip To Junk Status: Bank Of America

India's sovereign credit rating downgrade by Moody's was not unexpected and factors like high quantum of forex reserves and prospects of a good farm harvest would prevent a further slip to the non-investment grade, a foreign brokerage said on Tuesday.

Moody's Investors Service on Monday downgraded the country's rating by one notch to 'Baa3', the lowest in the investment grade, with a negative outlook on worries over growth and fiscal risks.

Economists at Bank of America Securities pitched for the country to continue with the fiscal stimulus measures because of the impact of the coronavirus pandemic.

This (the downgrade) is not unexpectedfiscal stimulus is critical for recovery, the brokerage said.

However, the brokerage said India should not fear a further downgrade in the ratings into the non-investment grade category.

It counted on the high quantum of forex reserves, an expected recapitalization of state-owned banks through issuance of dedicated bonds or using RBI's $127 billion revaluation reserves, and the prospect of a good farm harvests as the factors which will prevent another downgrade.

BofA blamed the excessive tightening of rates by the RBI in 2018, a real lending shock due to fall in wholesale price inflation in 2019 and the global Covid-19 shock for the worries on the growth front.

The brokerage is expecting a 2% contraction in the Indian GDP in 2020-21, down from the 4.2% expansion in the previous fiscal. RBI also feels that the GDP will contract in the current fiscal but did not give a level, while some analysts have pegged the contraction at as high as 5%.

Terming the slowdown in growth cyclical and not structural, the brokerage said 2020-21 growth will be 9 percentage points lower than the potential, which necessitates fiscal support.

Stating that it expects the central government's fiscal deficit to come at 6.3%, which is 1.80% higher over the long-term average, it said such a wide gap is justified because of the growth number being so low from the potential.

We continue to argue that fiscal stimulus is the need of the hour, notwithstanding Moody's, the brokerage said.