'Reforms to boost growth; banking risks constraint rating'

New Delhi: Moody's Investors Service on Tuesday said the reforms undertaken by the government will help boost investor confidence and bolster growth potential, but cautioned muted private investment and banking sector risks will remain a constraint on India's sovereign rating.

It also said in the near-term, challenging budget targets could lead to significant spending cuts late in the year, especially since fiscal deficit till July had touched 74 percent of the whole year's budget target.

"In Moody's view, over time, the multi-pronged but step- wise approach to reform will foster a stable macroeconomic environment. In particular, the cementing of the monetary policy framework with the objective of maintaining inflation at moderate levels is credit positive. Moody's expects continuity in monetary policy, which is a credit positive," said Moody's Sovereign Group Senior VP Marie Diron.

Moreover, structural hurdles will continue to constrain private sector investment and growth and banking sector will continue to pose contingent liability risks to the government over the near to medium term, Moody's said.

"The credit implications of India's reforms will materialise in the medium term," it said.

Moody's points out that banking sector risk will also remain a constraint on India's sovereign ratings.

While bad asset recognition is a first step, the measure does not strengthen the resilience of banks, and therefore does not reduce the contingent liability risks for the sovereign.

Moody's estimated that the fiscal costs of equity injections in public sector banks are manageable, although they are larger than currently budgeted and will add to the government's challenge in meeting its fiscal targets.

Speaking at a joint Moody's-ICRA sovereign and macro- economy briefing here, ICRA Senior Economist Aditi Nayar said economic growth will pick up in 2016-17 to 7.9 percent, from 7.6 percent last fiscal.

In the near-term, Moody's expect private investment will remain weak as corporates in investment-intensive sectors are burdened by elevated debt levels.

In addition, the economy will remain vulnerable to fluctuations in monsoon rains. In general, infrastructure gaps will continue to constrain investment and the rise in FDI will not make up for muted domestic investment, it cautioned.

In terms of the monetary policy framework, the government of India has notified a CPI inflation target of 4 percent, within a tolerance band of 2-6 percent until March 2021.

"Such a scenario would help to anchor inflationary expectations. In addition, a favourable base effect as well as improved crop sowing dynamics will ensure that CPI inflation remains within this tolerance band in the near term," ICRA said.