High GDP growth will contribute to gradually rising income levels and overall economic resilience, it said.
Moody's Investors Service reaffirmed the Government of India's credit rating at 'Baa3'. The outlook remains stable.
"The affirmation and stable outlook are driven by Moody's view that India's economy is likely to continue to grow rapidly by international standards, although potential growth has come down in the past 7-10 years," it said.
High GDP growth will contribute to gradually rising income levels and overall economic resilience. In turn, this will support gradual fiscal consolidation and government debt stabilisation albeit at high levels, it said.
The financial sector continues to strengthen, alleviating much of the economic and contingent liability risks that had previously driven downward rating pressure, the rating agency said.
At the same time, a lasting upward shift in global and domestic interest rates highlights the risks stemming from a high debt burden and weak debt affordability—long-standing features of India's sovereign rating which Moody's expects to remain.
"The Baa3 rating and stable outlook also take into account a curtailment of civil society and political dissent, compounded by rising domestic political risk," the agency said.
Moody's expects India's economic growth to outpace all other G20 economies through, at least, the next two years, driven by domestic demand. In turn, high growth by international standards will support a gradual increase in currently low income levels, which will contribute to economic strength, said the ratings agency.
While this also reflects an improved assessment of India's potential growth to around 6% to 6.5% from less than 6% during much of the pandemic, it remains lower than estimates in excess of 7% in the middle of the last decade, it said.
The government's ongoing emphasis on infrastructure development, mirrored in the increasing share of capital expenditure in the Union budget, has led to tangible improvement in logistics performance and the quality of trade and transport-related infrastructure, the ratings agency said.
This has complemented the government's implementation of its digital public infrastructure—which has entailed the widespread adoption of digital payments and data exchange—in enhancing the efficiency of public service delivery, while also boosting the formalisation of the economy and broadening the tax base, it said.
At the same time, over the longer term, constraints on the economy's ability to deliver a significant increase in manufacturing and improvements in job creation will limit potential growth, cautioned the ratings agency. Despite some progress in developing the manufacturing sector in recent years, structural weaknesses including trade barriers and protectionist measures and low education and skills levels are seen for a large part of the population, it said.
Fiscal Strength Remains Weak Amid Narrowing Of Deficit
"India's fiscal strength remains a key weakness in the sovereign credit profile, balancing high economic strength," the ratings agency said.
Moody's expects high nominal GDP growth and ongoing fiscal consolidation to stabilise the government debt burden at high levels. Despite some upside pressures on spending to help the economy cope with higher inflation, the government has been able to meet its fiscal deficit targets at the central government level over the past two years, aided by buoyant tax revenue.
In turn, this reflects increased traction from the Goods and Services Tax that was implemented in 2017, as well as gains in broadening the tax base and improved compliance on the back of digitalisation that have combined to help offset the erosion in corporate tax revenue. At the same time, expenditures as a share of GDP have declined even as the allocations for capital expenditure have increased, pointing to improved quality of public spending, it said.
Even as the narrowing fiscal deficit demonstrates the ongoing government's commitment to longer-term fiscal sustainability, it remains wider than 'Baa'-rated peers. Moreover, in the absence of more material gains in revenue, the central government will be challenged to achieve its fiscal deficit target of 4.5% of GDP for the fiscal beginning April 2025 (fiscal 2025) from 6.4% in fiscal 2022.
Consequently, Moody's projects general government debt to stabilise at around 80% of GDP over the next two to three years, lower than the peak of almost 90% reached in fiscal 2020 but higher than many similarly-rated sovereigns.
