The Capitalist | India’s gold lust translates into reserves worth Rs11.5 trillion

The Capitalist | India’s gold lust translates into reserves worth Rs11.5 trillion

Data on gold purchases is not easy to come by. The International Monetary Fund remains an authoritative source only for gold reserves of countries. However, a London-based research firm tracking precious metals, GFMS Ltd, brings out regular reports on gold movement and purchases ( It is through these reports, and discussions with experts in the gold trade, that some of the data has been compiled.

First, the most important factor. India consumed around 688 tonnes of gold for jewellery last year (it imported around 862 tonnes—see table). This makes it the world’s largest consumer of gold, dwarfing China (327 tonnes), Turkey (276 tonnes) and Italy (218 tonnes). Gross imports into India in 2007 rose by around 15% to a record high despite a near 5% rise in the average rupee gold price. Moreover, for the first time, direct bullion import of gold by the country’s 5-star export houses was permitted in 2007.

Also See Golden Opportunity (Graphic)

Some of this gold is hoarded by private investors in the form of bars and coins, thus escaping the “making charges" of 5-15% that jewellers charge for converting pure gold into jewellery. It must also be noted that some of the gold bullion gets exported in the guise of medallions or crude jewellery. GFMS estimates that, last year, about 100 tonnes of gold was shipped out of India.

But Indians love gold jewellery. Hence, they do not mind, and are often unaware of, the loss in value that jewellery involves. In addition to making charges that jewellers add to the bill, there is also the highly pervasive risk of cheating. Many jewellers steal some of the gold and add impurities to the ornaments instead. A third problem is misdeclaration, where many jewellers claim that an ornament comprises 22 carat gold, when actually it may be only 18 carat. Unlike the West, where consumers prefer 14 carat gold jewellery, most Indians are reluctant to purchase anything with a purity of less than 18 carats. Unfortunately, the government’s decision to further postpone the making of hallmarking compulsory will encourage such malpractices further. And this lust for jewellery results in gold imports.

True, these consumption figures include the use of gold that is recycled by consumers and the trade for making new jewellery. But, that is not much—just about 10% for India and 30% for the entire world. For India, this effectively means net import of 615.3 tonnes of gold for jewellery last year.In money terms this comes to a whopping Rs57,500 crore ($11.5 billion)per annum (at 2007 prices of Rs9,345 per 10g)!

These volumes have remained constant through the years, though they were significantly higher during the 1990s because the pernicious provision of the Gold Control Act (since revoked) made smuggling even more attractive, and hoarding even more desirable. This demand from India has often caused domestic prices to be at a premium over London prices—sometimes as high as 60%.

Thus, if one were to assume current import levels as the norm, it would account for net import of at least 12,300 tonnes over the past two decades, giving India a private gold reserve of Rs11.5 trillion (or $230 billion) at current prices. Technically, this gold should also be considered as savings, and if considered as reserves, could further boost India’s gold exchange reserves which currently stand at 358 tonnes.

And thereby hangs another tale.

An ideal way to lower borrowing costs

In July, Fitch cut the outlook on India’s domestic credit rating from stable to negative, and Standard and Poor’s warned the country’s sovereign rating outlook may turn negative. On 4 August, Moody’s Investors Service also cautioned investors about a possible downgrade of India’s rating.

One culprit at that time was inflation, then over 12%. Another cause is the increasing resort to deficit financing, often a result of the government’s use of taxpayers’ money to buy vote banks.

More alarming is the note of caution voiced by economists such as Nicholas Stern, head of the India Observatory at the Asia Research Centre, London School of Economics. They say populist measures such as the $15 billion farm loan waiver converted some of the most creditworthy borrowers into unwilling “repayers" of their loans. This compelled many banks to turn off credit taps to the very sections that could benefit India. Much of the blame, inevitably, can be laid at the finance ministry’s doorstep.

Thus, India’s public finances are feeling the pressure from high oil and fertilizer subsidies and hefty payouts for government employees—which will equal 2.4% of the gross domestic product. “Higher oil prices and the lack of adequate fiscal policy reactions amid high pent-up price pressures are putting the burden of macro-economic adjustment on the monetary authorities," says Moody’s senior analyst Aninda Mitra in ‘BusinessWeek’. Inevitably, lower credit ratings—exacerbated by the financial meltdown—have meant India’s borrowing costs abroad have become steeper.

Can India lower its borrowing rates? Yes, say economists, provided the collateral is better. Unfortunately, companies work within a national policy framework and, hence, their ratings are linked to their home country’s policies. Ditto in respect of national assets.

The more one thinks about it, the more one begins to realize the answer could lie in gold. Unfortunately, much of the gold in India lies in private hands. While there have been schemes to mop up black money through bearer bonds and other amnesty schemes, no policy has dared to link this to gold (see the next item on gold bonds). Were that to happen, India would be able to lower borrowing rates across the board by at least two percentage points almost overnight. India would be able to harness the huge reserves of private gold to serve a national cause, thus making them productive. The savings in external borrowing rates could be shared with the citizens, allowing some money to come into the national productive cycle and boost consumption.

One such scheme is outlined below.

Gold bearer bonds could be the solution

This scheme is a sketchy proposal, drafted after several discussions with commodity traders, economists and financial experts.

Gold is freely exchangeable, is less volatile on commodity exchanges and has a fairly respectable price band within which it normally moves. It is, therefore, possible to use the lower price bands as the minimum collateral value.

India could, if policymakers want, introduce a scheme whereby citizens are encouraged to invest in gold and deposit the same with the government, enabling them to earn around 1-2% on the nominal value of gold, determined periodically by the Reserve Bank of India (RBI). Such an exercise would have to be launched in three phases.

First, India would have to educate people why investing in gold makes sense—outlining clearly the risks and the rewards. An attempt to do this will be the subject of this column next week.

Second, the government would have to attract people to offer their gold. Three sweeteners—if bundled together—could do the trick: (1) an offer of a notional interest on such deposits; (2) a sovereign guarantee to return, after a specified period (not less than five years, not more than 10), volume for volume, the deposited gold; and (3) an amnesty offer. To ensure large number of subscribers, permit even 10g to be invested. The amnesty scheme could cover all who invest in such schemes, keeping them outside the purview of tax queries (unless they were already being probed) for the entire period prior to the investment date. This could be India’s version of tax-refund schemes that countries such as the US offer. It would entice even small income earners, and help swell RBI’s gold reserves. Salary earners could invest, and also buy “peace". Today, only farmers and politicians enjoy such peace.

Third, unlike an exchange-traded fund, the investment would be made in physical gold bars or coins that the world accepts. Gold could be bought from banks, or directly brought in by those returning from overseas with the condition that it must be deposited with the government. Overnight, a lot of money lying overseas (estimated by some at $1 trillion), under very risky conditions, would become legal in India. This gold could be redeemed in the same quantity as the gold deposited, irrespective of the market price prevailing at that time. This gold could then become part of the country’s gold reserves, which have continued to hover around 358 tonnes for quite some time. This gold could be pledged against international borrowings, thus allowing India to avail of loans at significantly lower rates.

The interest Indian depositors of gold would earn would augment purchasing power within the country, and gold would not remain an idle asset in the vaults of individuals.

Lastly, such a strategy would allow the country’s tax officials to focus more effectively only on new tax returns that are, in any case, computerized, thus allowing for better investigation. These investigations could match spending patterns with incomes declared, and make the further generation of black money that much more difficult. Ideally, even the period of time for which tax queries can be made and files reopened should be brought down to three years.

R.N. Bhaskar runs a company with significant interests in distance learning and examination certification and writes on corporate and business policy issues. Comments on this column are welcome at