Baa, Baa, Baa3… So, what does Moody’s ‘Baa3’ rating mean?

'Moody’s refuses to oblige the Indian government'—that would have been a plausible headline in Indian newspapers on Saturday, 19 August.

But most newspapers were content to state the obvious, that Moody’s, the 114-year-old US-based agency, has not downgraded India’s rating from Baa3. 'Moody’s "retains" India’s rating', stated the headlines.

The information that ‘Baa3’ is the lowest investment grade, ‘just above junk’, was buried deep within the articles. Several newspapers did not even mention this little fact. Why take ‘unnecessary’ panga with the government?

For the uninitiated, Moody’s ratings are as follows:

· Aaa: Smallest degree of risk

· Aa (Aa1, Aa2, Aa3): Very low credit risk

· A (A1, A2, A3): Low credit risk

· Baa1, Baa2, Baa3: Moderate credit risk

· Ba1, Ba2, Ba3: Questionable credit quality

· B1, B2, B3: High credit risk

· Caa1, Caa2, Caa3: Very high credit risk

The rating is Moody’s opinion of the credit quality or creditworthiness of a nation. Investors use the rating to limit their investment or expand into various markets. The rating also helps investors to ‘price’ the credit risk of securities and bonds they may choose to buy or sell. It also helps the issuers—in this case, the government or the central bank—to access capital and foreign investors.

That, in turn, explains why the Indian government was so keen to persuade rating agencies to upgrade its sovereign credit rating, which was at the lowest possible investment grade. Soon after, finance minister Nirmala Sitharaman presented the Union budget on 1 February 2023, finance ministry officials met representatives of the top three rating agencies, namely Fitch Ratings, Moody’s Investors Service and S&P Global Ratings.

Attempts to persuade the agencies to upgrade the rating, which would then lower India’s borrowing cost, continued over the next few months. A Reuters report quoted an unnamed official say, “Our pitch is that our economic performance calls for an upgrade.”

While S&P and Fitch rate India BBB- and Moody's Baa3, all the three ratings indicate the lowest-possible investment grade, but with a stable outlook. The ratings take into account the economic growth rate, inflation, general government debt and short-term external debt as a percentage of GDP, as well as political stability, among others parameters.

While the rating agencies do not flaunt the other parameters, they also take into account the credibility and robustness of the media and the judiciary. An aware and alert media and civil society and a watchful legislature are among the factors that determine economic outlook and credit risk.

On none of these counts has the Indian experience been reassuring in the recent past. It is not possible that the bureaucrats in the finance ministry are unaware of how the ratings are arrived at. But their persistent engagement with the agencies would indicate the rank ignorance of the political bosses who are likely to be pushing them.

The push and the persistence may also explain the placatory passages incorporated in the report by Moody’s, particularly the reference to India’s economy outstripping the economy of the G20 countries. This would be an important ‘headline-grabbing’ and ‘poster-worthy’ point when the heads of G20 governments meet in New Delhi in September.

To put the ratings in perspective, at ‘Baa3’, India is in good company. The same rating applies to, among others, Panama, Colombia, Latvia, Namibia, Peru and Iceland.