Wednesday, September 11, 2013

Punishing India’s love of gold will not yield result

This article was first published in the Financial Times, Beyond Brics, on September 10, 2013; Co-Author: Puran Singh 

http://blogs.ft.com/beyond-brics/2013/09/10/guest-post-punishing-indians-love-of-gold-will-not-yield-results/?#axzz2eZQyQtBv

"Getting married this year would be very costly for me. With gold prices at all-time high, jewellery shopping will literally wipe out all my savings. My parents will insist that I buy at least 50g of gold jewellery for my future wife. It does not make sense  right now at such high prices", says a friend who is planning to postpone his marriage to his fiancé.

India's finance minister P Chidambaram has blamed the $86bn (4.5 per cent of GDP) current account deficit on India's "passion for gold", and has introduced various measures to curb demand. There are several reasons why such steps are unlikely to succeed. 

At the start of 2013 import duty on gold was increased from 4 to 6 per cent. At the same time, the duty on raw gold was doubled to 5 per cent. In February, gold deposit rules were relaxed by the Reserve Bank of India (RBI). In March, the RBI started monitoring gold coin sales by banks. In May, the RBI restricted consignment-based gold imports by banks. In June, import duty on gold was hiked to 8 per cent. In July, RBI tied gold import quantity to total imports. 

But, the demand for Gold did not budge downwards. Having failed to curb demand, a hike in import duty was announced in August for the third time. The import duty currently stands at 10 per cent.

The bad news for the RBI and Chidambaram is that 2013 is scheduled to have 31 extra wedding days in India, because according to the lunar calendar only 117 days will be lost to Chaturmas (considered inauspicious) compared to 148 days in 2012.

If it can, the Government of India should come out with an incentive for couples planning to get married to not do so this year. About half of gold jewellery shopping in India happens during weddings.

India produces a negligible 2.3 tonnes of gold a year and consumes almost 1,000 tonnes a year. No points for guessing where the balance comes from. Increase in gold demand in any year has to be met by importing more, and given the importance of gold in Indian marriages, any reduction or postponement in gold demand is not a reasonable assumption.

Apart from weddings, festivals are the second most important occasion for the Indians to buy gold jewellery. Just under a quarter of the demand for gold jewellery is bought during festivals in India, according to a survey by AlphaWise and Morgan Stanley Research in 2012, compared to 43 per cent for weddings.

Diwali, the most important festival for Hindus is in early November and people buy gold on Dhanteras to please Goddess Laxmi (the Goddess of wealth). Our presumption is, given the sentiment attached to buying gold and the returns it has offered post 2008, people will not mind buying gold even at soaring prices. 

In history, wars have been fought over the ownership of gold. Now the battles take place in the form of derivatives, exchange traded funds, and mutual funds. Gold is still much sought after, but more so for its financial than aesthetic value. The government of India and RBI are fighting another war against its own people. 

People are wondering why the RBI and the government would try to curb gold imports to solve a problem that is created due to government overspending and policy paralysis. Why would a government which is not able to protect its citizens from inflation prevent them from buying gold, which is considered a hedge against inflation?

Gold gives a common backdrop to an India which is otherwise diverse in religion, faith and culture. Embedded in the Indian psyche as symbol of prosperity and wealth, owning gold is akin to the American dream of owning a home. 

Hence, the curbs on gold may not yield the desired result. But it will succeed in building up further anger against the ruling government.
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