Why Crisil cut India's GDP forecast to 5.5% from 6.5%

Rating agency Crisil has cut India's growth forecast to 5.5 percent for financial year 2012-13 from 6.5 percent earlier, citing a weak monsoon and likely worsening of government finances. It has also revised downwards the March forecast for the rupee to 53 from its earlier 50.

Rainfall deficiency to hurt growth

"The downward revision in India's growth forecast factors in the adverse impact of rainfall deficiency (an expected deficiency of 15 per cent for June-September 2012, as per Indian Meteorological Department) and worsening of the Eurozone growth outlook (a revision in 2012 growth forecast to -0.6 percent by Standard & Poor's relative to the earlier forecast of 'zero' per cent)," it said.

Fiscal deficit will worsen

Reuters

The rating agency also expects the country's fiscal deficit ( when a government's total expenditures exceed the revenue that it generates) to worsen to t 6.2 percent of GDP from its earlier estimate of 5.8 percent because of lower revenue growth and slowing growth." In case of a substantial fiscal stimulus to the economy, the fiscal deficit toGDP ratio could worsen further," it said. This is because the revised growth forecast assumes that the fiscal situation will limit the ability of the government to give a generous stimulus to the economy. If it does so, then growth will go up but so will fiscal deficit.

High inflation will tie the hands of the Reserve Bank of India in aggressively

cutting rates to stimulate the economy. At the current juncture, both monetary and fiscal policies are constrained to revive growth in the immediate run. The upside risks to inflation and limited ability of lower interest rates in propping up growth implies lower room for monetary loosening.

Although the growth forecast has been revised downward, Crisil has revised WPI inflation to 8 percent to reflect the higher-than-anticipated increase in food inflation. Also, a weak rupee will continue to offset the gains from lower global crude oil, commodity and metal prices, and keep the cost of imported items high.

Mining, power reforms are the only upsides for growth

Any upside to growth can only arise from sorting out policy-related issues in mining and power sectors andand speedy clearance of projects. It will also be critical to raise the administered fuel prices to reduce subsidies and create fiscal room for expenditure related to drought-relief measures.

In contrast, the key downside risks to the revised growth outlook arise from monsoons deficiency of more than 15 percent for the full season as indicated by IMD and a deeper recession in the eurozone in 2012 with the region's economy shrinking by 1.0 percent.This is the worst-case scenario projected for the eurozone by S&P and will hurt India's exports and capital inflows further.

Rupee forecast changed: The rupee is now expected to settle around 53 per dollar by March-2013 compared to Crisil's earlier forecast of 50 per dollar. "Given the worsening of the eurozone economy as well as domestic growth slowdown, we now expect the Indian economy to attract lower foreign capital inflows compared to our earlier estimate," it said today.

The biggest challenge:Boosting investor confidence, sustaining growth, especially demonstrating its ability to push through key reforms related to land, labour, taxation and government expenditure, would hold the key to raising India's growth prospects over the medium run.