Ratings agency Moody's on Tuesday affirmed India's sovereign rating and upgraded the country's outlook to 'stable' from 'negative', citing receding downside risks to the economy and financial system.

The sovereign rating by Moody's stands at 'Baa3' -- which is the lowest investment grade, just a notch above junk status.

"Moody's Investors Service has today changed the outlook on the Government of India's ratings to stable from negative and affirmed the country's foreign-currency and local-currency long-term issuer ratings and the local-currency senior unsecured rating at Baa3," it said in a statement.

The decision to change the outlook to stable reflects Moody's view that the downside risks from negative feedback between the real economy and financial system are receding.

"With higher capital cushions and greater liquidity, banks and non-bank financial institutions pose much lesser risk to the sovereign than Moody's previously anticipated.

"And while risks stemming from a high debt burden and weak debt affordability remain, Moody's expects that the economic environment will allow for a gradual reduction of the general government fiscal deficit over the next few years, preventing further deterioration of the sovereign credit profile," it added.