Economists downgrade rating agencies

DELHI/MUMBAI: Are rating agencies giving India its due or are they exaggerating its risk profile?

In what could be the latest blow, Fitch Ratings has indicated that it may move India to a higher risk category on concerns that unabated loan growth may lead to a “systemic crisis’’ in the banking industry.

Fitch had, earlier this month, already moved India, Austria, the Czech Republic, Slovakia and Slovenia to the “moderate risk’’ category from “low risk’’, citing excessive lending accompanied by rising prices of assets such as stocks and property.

In April, Standard & Poor’s had raised the outlook on India’s long-term rating to positive from stable. But in a review in September, the rating agency warned that if fiscal consolidation stalls or the reform agenda derails, the outlook could be revised back to stable.

Economists find this unfair and have little support for the views of rating agencies. What’s more, even the markets seem to be disregarding their caveats. “The risk perception of market players and rating agencies appear to be vastly different,” notes Abheek Barua, chief economist at ABN Amro. Standard & Poors has not put India in the investment grade category. But that hasn’t stopped foreign institutional investors (FIIs) from picking up Indian paper at lower rates or looking at non-triple A rated instruments, notes Barua. In calendar 2006 till date, FIIs have invested a net Rs 1,433 crore in various debt instruments. They bought Rs 6,047 crore and sold Rs 4,613 crore, indicating a high level of confidence in Indian debt papers.

Though Bank of Baroda’s chief economist, Rupa Rege Nitsure, isn’t very impressed with the behaviour of market players, she also feels that rating agencies may be underestimating the underlying strength of the Indian economy and the banking system. She is concerned at the unchecked credit growth and can see Fitch’s point of view. Yet, she notes, India’s biggest strength is its good banking regulatory system and the fact that in many areas, its regulatory practices are stricter than even Basel II norms.

Reserve Bank deputy governor V Leeladhar said at a Ficci banking summit in Mumbai on Tuesday that some norms are indeed more conservative in India. Banks’ exposure to state government and public sector enterprises will not be treated on a par even though Basel II allows this. While sovereign exposure attracts 0% risk weightage, state government-guaranteed exposures will attract a 20% risk weightage. Exposure to public sector enterprises will be treated on a par with corporate exposure, though the framework allows them to be treated on a par with sovereign exposure.

Barua and Kanhaiya Singh of the National Council of Applied Economic Research (NCAER) feel Fitch’s warnings of a systemic risk are overblown. “There is no underlying risk. No fall in the capital-asset ratio, no huge increase in non-performing assets (NPAs_, nor are interest rates very volatile,” Singh points out.

Barua feels much of the concern is about retail credit growth and wonders why. At 7%, the retail credit-gross domestic product ratio, he notes, is very small compared to the Asian average of 20% (the average ratio in the East Asian economies at the time of the financial collapse). “It’ll be a long way to get to a level relative to macro aggregates which could lead to a systemic collapse,” he asserts. What’s more, the quality of credit is also very good. There could be some banks where credit quality has suffered but that will affect individual bottomlines. “That is nowhere close to a crisis,” he says, a point Singh and Nitsure concede.

In any case, says Nitsure, with capital account convertibility still some time away, Indian banks are still not exposed to too much short term external borrowing.

Economists also find the rating agencies’ obsession with the fiscal deficit problematic. Fiscal deficit - or even the public debt to GDP ratio — is a completely wrong measure of a country’s ability to repay its debt, notes Pronab Sen, principal advisor, Planning Commission. India, he points out, has never reneged on its international debt obligations. Agrees Barua: “India’s fiscal deficit has never led to a crisis.” In any case, notes S Bhide, senior research counsellor at NCAER, during the east Asian crisis, the fiscal balance of all the affected countries was in good shape.

Clearly, then rating agencies need to relook the way they assess sovereign risks.

With inputs from Bloomberg