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Credit Downgrade Highlights India's Economic Challenges

Indians walks past roadside stalls selling clothes and miscellaneous items in New Delhi, India. Indian Finance Minister, Mukherjee, presented India's new budget amid concerns about inflation, the country's falling growth rate, large deficit, FILE March 16

The U.S.-based financial ratings agency Standard & Poor’s has revised its credit outlook for India from stable to negative. The downgrade has brought into sharp focus the challenges of India's slowing economy.

Standard & Poor’s revised outlook for India from stable to negative was prompted by concerns about the country’s high debt and fiscal deficit and its failure to move ahead with critical economic reforms.

Finance Minister Pranab Mukherjee has said there is no need to panic. But officials admit the rating agency’s move is a wake-up call. The government is promising some financial reforms during the ongoing session of parliament.

Economist A. Prassana at ICICI Securities in Mumbai says the government needs to bring its huge spending under control. But he says there are concerns that stiff political opposition will continue to pose a challenge to implementing key economic reforms.

“The most urgent task or the most important step is to contain the fiscal deficit. I think they should try and better which they have set for themselves, which is five point one percent of GDP. There is a long list of reforms," Prassana stated. "What has been happening there has been a lot of talk over the last six months. But ultimately no action is being seen on the ground.”

One of the most critical reforms is cutting down fuel subsidies given to consumers, which are a huge drain on government finances.

Economists stress the need for quick action. They point out that India risks losing its prized investment grade status if its financial situation worsens over the next one to two years. Standard and Poor’s has warned that India faces a one-in-three chance of losing its triple-B rating.

Such a downgrade would scare foreign investors. It would make borrowing more expensive for India. It would also weaken the local currency, which has already depreciated against the dollar by nearly 20 percent in the last year. This in turn would push up the cost of oil in a country that imports more than three quarters of its crude oil requirement.

Observers say India needs to restore confidence in the economy. While officials expect the pace of growth to accelerate this year, economist Prassana is skeptical. “I don’t see we are going to see any robust recovery. If the government does not get its act together we will grow at sub-optimal levels," he said. "And therefore fall behind our own targets we set ourselves in terms of development targets.”

India’s economy has grown briskly for several years and the country is seen as an important emerging economy. But growth slipped below 7 percent last year, the lowest in three years.