India's external finances are becoming "less of a strength" but continue to be sufficient to cushion risks emanating from abroad, Fitch Ratings said on October 19.
"External finances are becoming less of a strength in India's credit profile, but we expect foreign-exchange reserves to remain robust and India's current-account deficit to be contained at a sustainable level," the rating agency said in a note.
The comments by Fitch, which rates India at BBB-with a stable outlook, come amid a sharp decline in the country's foreign exchange reserves, which have been deployed by the Reserve Bank of India (RBI) to stem a rapid fall in the rupee.
According to data released earlier this week, the RBI sold a gross $23.11 billion in August following the record-breaking sale of $38.77 billion in July. However, despite the central bank's intervention in the foreign exchange market, the rupee has continued to weaken against the greenback and crossed the 80-per-dollar mark for the first time in mid-July.
Earlier on October 19, the rupee sank to a new low after it broke past 83 to a dollar.
"The RBI recently reiterated that it does not have a target level for the exchange rate, but we expect the authorities will continue to use reserves to manage exchange-rate volatility. This will probably erode reserve buffers further in the near term, but the impact will depend on the scale and duration of intervention," Fitch said.
Sliding rupee
So far this calendar year, the rupee has depreciated by over 10 percent against the dollar, while India's foreign exchange reserves have fallen below $550 billion.
On October 7, India's foreign exchange reserves stood at $532.87 billion, down $110 billion from its early September 2021 peak of $642.45 billion.
"Reserve cover remains strong at about 8.9 months of imports in September. This is higher than during the 'taper tantrum' in 2013, when it stood at about 6.5 months, and offers the authorities scope to utilise reserves to smooth periods of external stress. Large reserves also provide reassurance about debt repayment capacity. Short-term external debt due is equivalent to only about 24 percent of total reserves," Fitch noted.
However, it added that public finances continue to be the key driver of India's rating and are only "modestly affected" by current external developments due to the limited exposure to external financing.
"Gross external debt stood at 18.6 percent of GDP in 2Q22 (April-June), which is low compared with the median of 72 percent for 'BBB' rated sovereigns in 2021. Sovereign exposures are small, with only about 4 percent of GDP in primarily multilateral financing," Fitch said.
The rating agency expects India's current account deficit to widen to 3.4 percent of the GDP in FY23, nearly three times the FY22 level of 1.2 percent.
Commenting on the Indian monetary policy, Fitch said there were upside risks to its forecast of the repo rate peaking at 6 percent in FY24 due to a "significant chance" of interest rate hikes in the US exceeding what its forecasts assume.
On September 30, the RBI's Monetary Policy Committee increased the repo rate by 50 basis points to 5.9 percent, taking its cumulative rate hikes since the start of May to 190 basis points in its battle to lower persistently elevated inflation.
Data released last week confirmed the RBI had breached its inflation mandate and must now submit a report to the government explaining why it failed, the remedial actions it proposes to take, and the time period within which inflation will return to target.