UPDATE 2-S&P says India still faces rating cut risk despite reforms

* Bonds, rupee briefly weaken after report

* S&P says report is regular

* S&P sees FY13 fiscal deficit at 6 pct vs govt target of5.1 pct

* Reform steps helped revising view on rating-S&P analyst

(Recasts with details, quotes, comments, market reaction)

By Neha Dasgupta and Swati Bhat

MUMBAI, Oct 10 (Reuters) - India still faced a one-in-threechance of a credit rating downgrade over the next 24 months,Standard & Poor's said, although a series of reform stepslaunched in September had slightly improved the country'sprospects.

S&P's credit rating for India is BBB-, one notch above junkgrade and the lowest investment rating in the BRICS g rouping ofbig emerging economies. S&P had lowered India's rating outlookto negative from stable in April.

"A downgrade is likely if the country's economic growthprospects dim, its external position deteriorates, its politicalclimate worsens, or fiscal reforms slow," the ratings agencysaid in a report dated Tuesday and released on Wednesday.

The spate of initiatives unveiled by India including openingup of the retail and aviation sectors to foreign investors andcutting back fuel subsidies is intended in part to stave off adowngrade, which would hurt investor sentiment and push upoverseas borrowing costs for Indian companies.

India does not have any sovereign global bond issues.

S&P analyst Kim Eng Tan said the reform measures had helpedin "slightly" revising S&P's view on India's rating.

"Right now we do see that government has taken some actionswhich we didn't expect initially. To some extent that has helpedto revise slightly our views of credit downgrade," Tan toldCNBC-TV18.

India's outlook can be revised back to stable, S&P said, ifNew Delhi moves forward with steps to reduce structural fiscaldeficits, improve the investment climate, and increase growthprospects.

The report briefly rattled markets, with bond yields edginghigher and the rupee falling before recovering to levels beforethe release. S&P later said the report is the regularAsia-Pacific sovereign report card and does not contain newinformation on India's rating.

Asia's third-largest economy is growing at its slowest pacein three years, and this week the International Monetary Fundjoined the chorus of those slashing their growth forecasts forIndia, to 4.9 percent in 2012 from 6.1 percent previously.


Last week the government approved bills to attract foreigninvestment into the insurance and pension sectors in a secondset of reforms, although these have to win support fromparliament become they become law.

"After a long wait, the government seems to have reignitedreform efforts," the report said.

However, the fragile minority coalition government of PrimeMinister Manmohan Singh faces plenty of opposition in its pushto keep reforms moving ahead.

"Primarily, S&P seems to be harping on the fact that thereis uncertainty, which is true. The reforms announced so far havehelped the investor sentiment more than change much in reality,"said Rupa Rege Nitsure, chief economist at Bank of Baroda.

"The problems at the ground level remain and unless thoseget addressed, the economy cannot get back on the track ofsustainable high growth and fiscal consolidation," she said.

Despite the reform moves, S&P expects the government'sfiscal deficit to hit 6 percent of GDP for the financial yearending in March, above New Delhi's target of 5.1 percent.

"Weaker-than-expected tax receipts, owing to weaker economicgrowth, and higher-than-budgeted subsidies are the main reasonsbehind it," S&P said, referring to its deficit outlook.

The high deficit is counteracting the central bank's effortsto control demand-driven price pressures, while the government'suse of domestic savings to finance the deficit is crowding outprivate investment and lowering growth prospects.

A government panel looking into ways to improve governmentfinances said the economy was on the edge of a fiscal precipiceand suggested slashing subsidies urgently to curb the deficitwhich could go as high as 6.1 percent of the GDP.

S&P projects India's current account deficit for the fiscalyear to be 3.5 percent of GDP, below last year's 4.5 percent,given foreign investment inflows.

"However, if the current account deficit shows littleimprovements going forward, the country's external positioncould cease to be a supporting factor for the sovereignratings," S&P said.

India's current account deficit shrank by 24 percent in theApril-June period from an all time high in the previous quarter,narrowly returning the balance of payments to surplus after anearlier worrying slide towards dangerous territory.

(Additional reporting by Suvashree Dey Choudhary;Writing byTony Munroe; Editing by Sanjeev Miglani)


Messaging: neha.dasgupta.reuters.com@reuters.net))