Retaining India's credit rating at the existing level, global agency Moody's has cautioned that a high fiscal deficit could pull down the growth in the coming years.
"Large government deficits and debt ratios as well as supply constraints in the form of infrastructure, policy and administrative inefficiencies constrain the sovereign credit profile," Moody's said in India rating report.
On the positive side, the global rating agency reaffirmed sovereign credit rating of India at Baa3, which indicates investment grade, with a stable outlook.
"Government finances are the weakest aspect of India's macroeconomic profile... We expect the government's fiscal position to remain weaker than peers over the medium term," it said, adding sustained improvement in public finances could result in rating upgrade.
As regards growth prospects, it said that a downturn was underway which could be exacerbated by slower global growth. However, robust domestic savings and a dynamic private sector would provide strength in the medium term, it added.
Moody's expect Indian economy to grow by 5.4 per cent in the current fiscal and 6 per cent in 2013-14. Last fiscal, the economy grew by 6.5 per cent.
It further said that while high commodity prices have raised the subsidy bill, government's measures to reduce fuel and fertiliser subsidies were too modest to compensate for high global commodity prices.
The report has not taken into account the recent decision of the government to partially deregulate diesel and allow oil market companies to raise price by 45-50 paise every month, it said.
The government had raised the fiscal deficit target for the current fiscal to 5.3 per cent of the GDP, from 5.1 per cent, in view of increased subsidy outgo.
"Fiscal data available thus far suggest that meeting the deficit will present a challenge," Moody's said.
In the near term, it said improvement in fiscal situation would depend in increasing tax revenues and expediting PSU disinvestment.
On the possibility of a rating upgrade, Moody's said an improvement in investment climate, project completion and reduction in infrastructure bottlenecks could lead to an upgrade.
It, however, cautioned that a continued increase in government debt ratio and worsening of the balance of payments situation could lead a ratings downgrade.
In the recent months, the government has taken series of reform measures to boost investor sentiment, including hiking FDI limit in retail, insurance among others besides easing overseas borrowings norms to stimulate infrastructure
Last week it also deferred the controversial General Anti Avoidance Rules (GAAR) by two year to April 2016.