The rating agency said the outlook for the system is also in line with the stable outlooks for 10 of the 15 banks it rates. The 15 banks rated by Moody's in the country together account for about 70 per cent of assets in the system.
"The outlook for the banking system reflects a stable operating environment and improved prospects for asset quality, among other factors," Moody's vice president and senior credit officer, Srikanth Vadlamani, said in a report.
Indicators, such as net new non-performing loan (NPL) formation and problem loan ratios, suggest a bottoming of the credit cycle, he said.
However, deteriorating asset quality in agriculture, and micro, small and medium-sized enterprise (MSME) portfolios pose risks. The report said the ongoing progress in managing legacy asset issues is offsetting the significant capital shortfalls some banks continue to face.
The common equity tier 1 (CET1) ratios of public sector banks remain far below those of their private sector peers. The gap is likely to persist due to the government's reluctance to infuse more capital into private sector banks. "However, the system's overall loan loss coverage will likely further improve, which, coupled with subdued loan growth, will ease pressure on capitalisation," the report said.
It said the government support will remain strong for public sector banks, despite a reluctance to bolster bank capital. The government has maintained support to public sector banks through a range of policies, since failure for any of these banks could pose risks to systemic confidence.
The rating agency said profitability of the banks remains low, but is improving. Lending margins will be stable because a drop in funding costs following demonetisation will likely offset pressure from re-pricing of loans to the marginal cost of lending rate (MCLR).
Banks still face higher credit costs due to tighter provisioning requirements for stressed loans, but these charges will be lower in absolute terms. On the operating environment front, the report assumes GDP growth of 7.1 per cent in fiscal 2018, the same pace as the prior year. While headline growth is robust, private investment remains relatively weak.
"In the near term, the economy will continue to recover from the temporary liquidity shock from demonetisation, while adjusting to the new goods and services tax (GST)," the report said.
(Except for the headline, this story has not been edited by NDTV staff and is published from a syndicated feed.)