Mumbai: Global rating agency Moody's downgraded the outlook for Indian banks saying the asset quality of various lenders could deteriorate in the next 18 months given high inflation levels, monetary tightening and rising interest rates.

The news sent banking stocks tumbling at Indian stocks markets with the banking index at the Bombay Stock Exchange (BSE) closing 2.62 percent lower. All 14 banks, which are part of the banking index, ended in the red.

The rating agency changed its outlook for India's banking system to negative from stable. The outlook applies for the next 12-18 months.

“India's economic momentum is slowing because of high inflation, monetary tightening, and rapidly rising interest rates,” said Vineet Gupta, Moody's vice president and senior analyst.

“At the same time, concerns have emerged over the sustainability of the recovery in the US and Europe, and rise in the borrowing program of the Indian government, which could drain funds away from private credit market,” Gupta was quoted as saying while releasing Moody's latest outlook for the Indian banking system.

Moody's rates 15 commercial banks in India, including biggies like State Bank of India (SBI) and private lender ICICI Bank, which together account for about 66 percent of the system's total assets as of March 2011. Indian banking is dominated by state-owned lenders which account for around 75 percent of the market in asset terms.

It had in October downgraded the rating of the country's largest lender SBI.

“With asset quality, given the tightening environment, we anticipate that it will deteriorate over the next 12-18 months, thereby causing an increase in provisioning needs for the banks in FY2012 and FY2013,” said Gupta.

Bankers, however, did not agree with the Moody's downgrade.

“Profitability of banks is good. I think that the Indian banking system is safe and robust and I don't agree that there was a need to downgrade Indian banks at this stage,” said eminent banker and HDFC chairman Deepak Parekh.

“May be one year later six months later if the percentage of restructured loans increased then they could be justified but I don't think they are justified their doing so at this point in time,” he added.

Moody's also said bank loans could slow to 16-18 percent in the current fiscal, compared to 21 percent in 2010-11, as banks would come under pressure from rising deposit rates as a result of the de-regulation on savings deposits by the Reserve Bank of India.

At stock markets, the downgraded resulted in large-scale selling in banking stocks. SBI was the biggest loser, shedding over 6.7 percent to close at Rs.1,862.50, while another state-run lender Bank of Baroda followed close, losing over 3.6 percent and shut shop at Rs.789.10.

Major private lenders ICICI Bank and Axis Bank too closed 2.16 percent at Rs.861.75 and 2.47 percent lower at Rs.1,112.05 respectively.

“I am actually surprised. It is my view that the Indian banking system is actually in good shape. How many banking systems have as much as close to 30 percent into government bonds and liquid reserves with the central bank,” said Gunit Chadha, Chief Executive of Deutsche Bannk in India.

“With India's economic growth still in the 7 to 8 percent range and Indian banking system being very resilient, Moody's has taken this move very early in the day,” added Chadha.

(Agencies)