S&P Raises India’s Outlook in Boost for Modi as Rupee Surges

India’s credit rating outlook was raised to stable from negative by Standard & Poor’s, removing the risk of a downgrade to junk status for Prime Minister Narendra Modi as the U.S. weighs when to boost interest rates. The rupee surged the most in six weeks.

The company maintained its BBB- rating on Asia’s third-largest economy, the lowest investment grade, and said it could raise the rating if economic growth quickens and fiscal, external or inflation metrics improve. S&P had lowered the outlook to negative in April 2012 on diminishing growth prospects.

“The stable outlook for the next 24 months reflects our view that the new government has both the willingness and capacity to implement reforms necessary to restore some of India’s lost growth potential, consolidate its fiscal accounts, and permit the Reserve Bank of India to carry out effective monetary policy,” S&P said in a statement today.

The move buffers Indian bonds from the risk of a sell-off after the U.S. projected a steeper increase in borrowing costs next year. Modi is seeking a revenue boost to narrow the fiscal shortfall to a seven-year low after he took power in May with India’s biggest electoral mandate since 1984.

“Indian authorities are aware they have to get their house in order before the easy money ends,” Jonathan Cavenagh, a strategist at Westpac Banking Corp. in Singapore, said by phone, referring to U.S. economic stimulus. A rating downgrade would automatically disqualify Indian assets from the purchase-criteria of several funds, he said.

India’s rating matches that of the largest emerging markets except China, which is six levels above at AA-. It’s one level below Spain and Colombia.

Rupee Surge

The rupee erased the day’s losses and rose 0.5 percent to 61.03 per dollar as of 3 p.m. in Mumbai, the most since Aug. 14 and the best performance among 11 most-traded Asian currencies tracked by Bloomberg. The S&P BSE Sensex index of shares climbed 0.6 percent and the yield on the 10-year benchmark sovereign bond fell to 8.44 percent from 8.49 percent yesterday.

The currency has fallen 4 percent since Modi’s victory on May 16. In July, his government pledged to narrow the budget gap to 4.1 percent of gross domestic product in the year through March 2015, from 4.5 percent in the prior year.

Fitch Ratings called the target “over-optimistic” and Moody’s Investors Service said it was unclear how the goal would be achieved. S&P, the only major rating company that threatened to downgrade India, is expected to upgrade the ranking in future, Finance Secretary Arvind Mayaram told reporters today.

Upgrade Unlikely

S&P said it expects Modi’s government to meet its fiscal goals, while adding that revenues may fail to match targets and subsidy cuts may be delayed.

“An upgrade is unlikely until the government shows some concrete steps for bigger reforms,” Devika Mehndiratta, an economist at Australia & New Zealand Banking Group Ltd., said by phone from Singapore. “They are moving in the right direction and have taken some good steps to restore confidence and get things moving, but I don’t think it’s enough to justify an increase.”

Asia’s fastest inflation is hampering expansion and all 36 economists in a Bloomberg survey predicted the Reserve Bank of India will keep one of the region’s highest interest rates unchanged after a review on Sept. 30. While the central bank’s goal of limiting consumer inflation to 8 percent by January 2015 is within reach, there are risks to its 6 percent goal for January 2016, the RBI said on Aug. 21.

Fed Outlook

The RBI projected growth at 5.5 percent this fiscal year, faster than the previous period’s 4.7 percent, which was near the slowest pace in a decade. The revival is supporting the first improvement in corporate debt ratings since 2011, with 239 upgrades by S&P’s local unit Crisil Ltd. -- including that on the nation’s largest automaker Tata Motors Ltd. -- outstripping 198 downgrades.

Fed Chair Janet Yellen and her colleagues this month stuck with a pledge to hold interest rates near zero for a “considerable time” after they end asset purchases, probably next month. Even so, policy makers projected a steeper increase in borrowing costs next year, raising the median forecast for the benchmark rate at the end of 2015 to 1.375 percent from June’s estimate of 1.125 percent.

Global investors cut holdings of rupee-denominated bonds by $8 billion last year, pushing the rupee to a record low, when the Fed first flagged cuts to its bond purchases.

Emergency measures have since boosted foreign-exchange reserves to near a record. Still, India needs to be vigilant against market turbulence in case developed economies tighten earlier than anticipated, the RBI said.

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