Hurdles in sustaining growth in the medium to long term, remain for new government

16 May 2014

Standard & Poor's Ratings Services expects the new India government's reform initiatives in economic and fiscal policies in the next two to three months may have significant implications on the sovereign credit rating on India (BBB-/Negative/A-3).

The National Democratic Alliance (NDA), led by the Bharatiya Janata Party (BJP), is winning the lower house of parliament with a wider margin than expected.

The alliance and the BJP are leading with more than 330 seats and 279 seats, respectively, as of 1630 Indian Standard Time. The alliance will comfortably win more than the 272 seats needed for a majority in the 543-seat lower house.

In our view, NDA's strong showing indicates that it will have a reasonably good political platform to tackle structural issues.

"What the next government says and does in the coming months is crucial to boosting confidence in the policy settings and the economy," said Standard & Poor's credit analyst Takahira Ogawa. "If confidence rises, investment and consumption in India could strengthen, after being held back by the uncertainty surrounding the election."

However, the government will face hurdles in sustaining growth in the medium to long term.

The hurdles include reviving investor confidence, managing fiscal consolidation, regaining fiscal prudence, improving the current account balance, and boosting the banking sector's financial strength. Many Indian banks are publicly owned.

Investments, particularly in infrastructure and the mineral resources sector, face slow approval processes at central and state government levels. This has reduced economic growth potential.

The outgoing United Progressive Alliance government recently expanded the food subsidy system and its fuel subsidy reforms are incomplete. In the past two budget years, the government increased non-tax revenues by accelerating divestments of shares in government-owned companies, increasing dividend receipts from government-owned companies, and delaying payments, such as fuel subsidies.

In our view, the challenge for the next government is to regain fiscal prudence in a sustainable way. Implementation of a goods and services tax could help stabilise government revenues, while potentially improving the country's growth prospects, by promoting inter-state transactions, and general efficiency of the economy.

"If the next government fails to lift confidence, its task of turning the economy around will get heavier," Ogawa said.

The general sentiment in the economy has been improving in the run-up to the election. It remains to be seen if the new government can keep up that momentum and lift the economy.

The first possible glimpse of that would be the announcement of a revised budget, which we expect in a month or two.

 search domain-b