Bad loans a huge threat for sovereign credit profile

NEW DELHI: A significant and prolonged deterioration in asset quality of state-run banks is the main threat to India’s sovereign credit profile, Moody’s Investors Service has said, while also mentioning high government debt as a drag. The American rating agency has a positive outlook on India’s Baa3 sovereign rating.

“The main threat to the sovereign credit profile would be via a significant and prolonged worsening in asset quality at state-owned banks, beyond recognition of bad loans currently under way, that causes contingent liabilities to crystallise on the government’s balance sheet,” Moody’s said in a report on Asia-Pacific sovereigns. Risk is largely due to high corporate leverage and its spillover to banks, according to the agency.

“In India, corporate debt stands at 49.9% of GDP, and has been broadly stable for five years.

However, poor profitability and concentration of leverage suggest some risk,” the report said.

It said non-performing loan ratios of public sector banks increased markedly in late 2015, following RBI’s industry-wide asset quality review. “We expect further recognition of impaired loans,” the report said.

The fiscal cost of recapitalisation is likely to be larger than the government has budgeted, the agency said. “Significant and extended asset quality or profitability pressures on stateowned banks would hurt the sovereign balance sheet,” it said, clearly stating the risk.

The elevated government debt is the other risk to India’s sovereign credit risk. “Government debt levels are elevated and pose a sovereign credit constraint for India,” the agency said. High growth can help bring down debt levels, though, it said.