New Delhi: India's default risk is rising the most among emerging markets as Prime Minister Manmohan Singh's government bucks a regional trend of budget tightening, raising the prospect of a junk debt rating as the rupee plunges.
The cost to insure debt of State Bank of India, considered a proxy for the sovereign, surged 157 basis points in three months, according to data provider CMA. Credit-default swaps protecting government bonds climbed 108 basis points for Indonesia and 80 for Turkey, while those for Argentina fell by 473 basis points in the same period, the data show.
Standard & Poor's this week reiterated it may downgrade India's rating to junk as Manmohan lagged behind counterparts in Malaysia and Indonesia, who have both raised subsidised fuel prices to curb budget deficits.
India's rupee has slumped 18 per cent this year in Asia's worst performance, forcing new central bank governor Raghuram Rajan to provide concessional swaps for banks' foreign-currency deposits to bolster reserves.
"A lot of foreign institutional investor money is in India because it is investment grade," Killol Pandya, who helps manage manages Rs68 billion ($1 billion) of local assets at LIC Nomura Mutual Fund Asset Management in Mumbai, said on Thursday. "India is at the cusp. Just the instance of it being downgraded will cause havoc, so the culmination of all this is being reflected in the CDS."
The rupee plummeted to an unprecedented 68.85 per dollar on August 28 as overseas investors pulled $8.9 billion from local bonds in the three months to August 31, data from the Securities and Exchange Board of India show. They also withdrew $3.7 billion from stocks as capital fled emerging markets amid prospects of the Federal Reserve reducing its record stimulus.
The rupee and stocks rebounded on Thursday after Rajan, upon assuming office a day earlier, announced measures to show the Reserve Bank of India's commitment to arresting inflation and bolstering the currency.
The rupee climbed 1.5 per cent 66.12 per dollar and the 30-stock S&P BSE Sensex rose 2.2 per cent. Government bonds fell, with the yield on the benchmark 7.16 per cent notes due May 2023 rising three basis points, or 0.03 percentage point, to 8.42 per cent, according to the central bank's trading system. The currency traded at 66.07 in Mumbai yesterday.
"Rajan made a strong statement, but he's still untested and, moreover, many conditions are out of India's control," Kenneth Akintewe, a Singapore-based fund manager at Aberdeen Asset Management, which managed $317.9 billion as of June 30, said in a telephone interview on Thursday.
"Nothing can change in the near term that can alter the negatives that have built up over the past two decades."
Rajan, the former International Monetary Fund chief economist, unveiled a plan to provide concessional swaps for banks' foreign-currency deposits, a move that Bank of America Merrill Lynch says will boost the RBI's reserves by $10 billion.
India's foreign reserves were $278 billion as of August 23, down 13.4 per cent from a record $321 billion in 2011, and enough to cover about seven months of imports. The IMF considers about three months of cover as adequate.
Rajan's September 4 measures came hours after Indian lawmakers approved plans to allow overseas investment in pension funds as part of efforts to revive investment and growth in Asia's third-largest economy.
The nation's parliament this week also approved plans to give subsidised grain to two-thirds of India's 1.2 billion citizens at an annual cost of $19 billion.
The food law is a key plank of the government's re-election strategy ahead of polls due by May 2014. India's prime minster aims to build on vows to help the poor in a nation where World Bank data shows over 800 million people live on less than $2 per day.
The spending may hinder a goal of narrowing the budget deficit to a six-year low of 4.8 percent of gross domestic product by March 2014 as tax collections slow amid weakening growth.
The economy expanded 4.4 per cent last quarter from a year earlier, the least since the three months ended March 2009, as investment and consumer spending moderated.
"The immediate impression is that the RBI has passed into surer hands," Daniel Martin, an economist at Capital Economics Asia Pte in Singapore, wrote in a research note yesterday.
Lawmakers on August 29 passed a bill that assures improved terms for farmers when companies acquire their land for factories and mines. Martin from Capital Economics says the land and food laws "move India in the wrong direction" as they could take could lengthen delays in obtaining land and the nation's food subsidy bill may double.
"Responsibility for removing most of the structural obstacles to growth lies with the government, but the government has been unproductive to say the least," Martin wrote. S&P reiterated its negative outlook on India's rating, saying there's a more than one-in-three probability of a downgrade within two years. Fitch Ratings and Moody's Investors Service have stable outlooks.
What S&P says
Standard & Poor's this week said that India's Prime Minister Manmohan Singh lagged behind counterparts in Malaysia and Indonesia, who have both raised subsidised fuel prices to curb budget deficits. India's rupee has slumped 18% this year in Asia's worst performance