India: Risk Assessment
Country Risk Rating
Business Climate Rating
- Diversified growth drivers
- Immense workforce and population (over 50% of the population under 25) with good command of English
- Efficient private sector, especially services
- Expatriates’ remittances, jewelry, garments, vehicles, and medicine exports, as well as tourism revenues, contribute positively to the current account
- Moderate level of external debt and adequate FX reserves
- High corporate debt and non-performing loans (NPL)
- Net importer of energy resources
- Lack of adequate infrastructure
- Weak public finances
- Bureaucratic red tape, inefficient justice
- Widespread poverty, inequality, and informality
- Military confrontation in Kashmir with China and Pakistan
- Non-participation in regional trade agreements (Regional Comprehensive Economic Partnership Agreement)
Recovery with existing downside risks
The economy is set to rebound gradually in 2021, but pre-existing headwinds might impede the growth momentum. Private consumption (65% of GDP) is likely to recover slowly due to a weak outlook, as income loss and the increase in unemployment induced by the lockdowns are unlikely to be fully absorbed. Businesses should likely delay capital expenditure because of uncertainties. While the Purchasing Manager’s Index (PMI) is back to the expansionary territory since September 2020, reflecting higher demand and an increase in production, unemployment has continued to increase because of the social distancing guidelines that are in place. Standing at 8% as of June 2020, the NPL ratio is set to increase, as SMEs were under strain during the lockdown. Moreover, the four additional months announced by the central state in August (until December 2020) on loan guarantees, moratorium, and debt restructuring schemes will further add to pressures on India’s state lenders. Consequently, banks and shadow lenders might constrain credit conditions when access to credit is most needed to restart the economy.
Inflation is likely to decrease and meet the Reserve Bank of India’s (RBI) 2-6% target range, after peaking in 2020 due to disorganized supply chains, floods in eastern India, domestic taxes on petroleum products, and a surge in gold prices. This would allow the RBI to conduct further rate cuts in order to support the recovery, after 40 bps rate cuts during the pandemic in the FY 2020-2021. However, a deterioration in asset quality could disrupt monetary policy transmission and weaken the effectiveness of the central bank’s easing measures aimed at supporting the recovery.
Public finances will remain weak
The fiscal deficit is expected to decrease but should remain higher than pre-COVID-19 levels in FY 2021-2022. The deficit breached nearly 120% of the annual budget estimate for the fiscal year 2020-2021 as of November 2020. The lockdown implemented in March, which suspended all business activities and hampered domestic consumption, deteriorated public revenues. Revenue collection from the Goods and Services Tax (GST) was disappointing, before rebounding in November 2020 as containment measures were eased. The large stimulus package (15% of GDP as of November 2020), aimed at stimulating consumer demand and job creation through direct benefit transfers and social security, would support somewhat the recovery in tax collection.
The current account balance will likely go into deficit in 2021 (from a surplus in 2020), for the first time since 2003. Imports should increase faster than exports, as demand should gradually improve. However, they should remain subdued in 2021, as the country is still grappling with COVID-19 infections and supply disruptions. Foreign exchange reserves remain at comfortable levels (nearly 14 months of imports as of June 2020), which should help the RBI to protect the rupee from depreciation.
Prime Minister Narendra Modi’s Bharatiya Janata Party (BJP) secured a substantial majority in the Parliamentary elections of May 2019 (349 out of 542 seats). Modi’s second mandate focuses on the liberalization of the economy (such as the recent agricultural reform that triggered strikes among farmers), job creation, and investments in infrastructure while tackling corruption and fostering the ideology of Hindu nationalism. In light of the slow progress on the economic front, worsened by the pandemic, the BJP could opt to intensify its nationalist agenda, which would not please foreign investors, who are keen on secular policies.
On the external front, India is unlikely to join the RCEP any time soon - in order to protect local farmers and industrial interests - due to large deficits with its members, especially China, ASEAN, and South Korea. However, by doing so, India could lose market shares in the world’s largest trade bloc. Instead, it is seeking to resume trade talks with the EU - the largest trading partner (11% of Indian exports) - and the U.S. (10.7%) for a free trade agreement, which has been stalled since 2013.