From UPSC perspective, the following things are important :
Prelims level : Sovereign credit rating
Mains level : Read the attached story
Central idea: India is seeking an upgrade to its sovereign credit rating, currently at the lowest-possible investment grade, as it believes its economic metrics have improved considerably since the pandemic.
What are Sovereign Credit Ratings?
- A sovereign credit rating is a measure of a country’s creditworthiness, or its ability to meet its financial obligations.
- It is an assessment of the credit risk associated with a country’s bonds or other debt securities.
- The rating is assigned by credit rating agencies such as Standard & Poor’s, Moody’s, and Fitch Ratings.
India’s current ratings
- S&P and Fitch rate India ‘BBB-‘ and Moody’s ‘Baa3’, all indicative of the lowest-possible investment grade, but with a stable outlook.
What does BBB mean?
- A ‘BBB’ rating indicates that expectations of default risk are currently low.
- The capacity for payment of financial commitments is considered adequate, but adverse business or economic conditions are more likely to impair this capacity.
What is a Rating Agency?
- Rating agencies assess the creditworthiness or potential of an equity, debt or country.
- Their reports are read by investors to make an informed decision on whether or not to invest in a particular country or companies in that geography.
- They assess if a country, equity or debt is financially stable and whether it at a low/high default risk.
- In simpler terms, these reports help investors gauge if they would get a return on their investment.
What do they do?
- The agencies periodically re-evaluate previously assigned ratings after new developments geopolitical events or a significant economic announcement by the concerned entity.
- Their reports are sold and published in financial and daily newspapers.
What grading pattern do they follow?
- The three prominent ratings agencies, viz., Standard & Poor’s, Moody’s and Fitch subscribe to largely similar grading patterns.
- Standard & Poor’s accord their highest grade, that is, AAA, to countries, equity or debt with the exceedingly high capacity to meet their financial commitments.
- Its grading slab includes letters A, B and C with an addition a single or double letter denoting a higher grade.
- Moody’s separates ratings into short and long-term definitions. Its longer-term grading ranges from Aaa to C, with Aaa being the highest.
- Fitch, too, rates from AAA to D, with D being the lowest. It follows the same succession scheme as Moody’s and Fitch.
Significance of such ratings
- Access to Capital: Higher credit ratings mean that a country can access capital at a lower cost, while lower ratings indicate that borrowing costs will be higher.
- Investment Decisions: Investors use credit ratings as a tool to evaluate a country’s creditworthiness and assess the level of risk associated with investing in that country.
- Economic Growth: Higher credit ratings typically lead to increased foreign investment, which can create jobs, boost productivity, and stimulate economic growth.
- International Trade: Countries with higher credit ratings are viewed as more stable and trustworthy, making them more attractive trading partners for other countries.
- Reputation: Countries with lower credit ratings may be seen as less reliable or stable, which can negatively impact diplomatic relationships and political influence.
Criticism of the rating agencies
- Credibility: Popular ratings agencies publicly reveal their methodology, which is based on macroeconomic data publicly made available by a country, to lend credibility to their inferences.
- Bias: These agencies were subjected to severe criticism for allegedly spurring the financial crisis in the United States, which began in 2017.
- Fouled metrics: The agencies underestimated the credit risk associated with structured credit products and failed to adjust their ratings quickly enough to deteriorating market conditions.
- Erroneous: They were charged for methodological errors and conflict of interest on multiple counts.
Why is India seeking upgrade in its credit ratings?
- Improved creditworthiness: These ratings are used to judge a country’s creditworthiness, often impacting its borrowing costs.
- Stable indicators: India has series of stable parameters such as economic growth rate, inflation, general government debt and short-term external debt as a percentage of GDP, and political stability, among others.
Measures taken to improve ratings
- India aims to cut its fiscal deficit to 5.9% of GDP next fiscal year, from the 6.4% target for the current year that ends March 31, and to further reduce that to 4.5% in the next three years.
- India’s Economic Survey has forecast growth of 6% to 6.8% for 2023-24, which would make it one of the world’s fastest-growing major economies.
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