Once again the country is mired in gold. Like an average Indian, the government too is obsessed with the yellow metal. It has happened several times since Independence. Each government step for introducing a bond has faced practical problems and eventually lost the glitter.
The latest move to issue sovereign bonds linked to the bullion in an effort to divert some of the demand for gold bars and coins and reduce bullion imports are yet another effort at taming the shrew. The RBI will issue the bonds with an interest of around one to two percent. The main idea is to reduce the demand for physical gold. The government of India has nearly 550 tons of gold reserves which would help in kick starting the scheme. The public holding of gold is estimated to be over 30,000 tons.
Will the gold owners bite the bullet? A major obstacle is the emotional attachment that the family has with traditional jewellery. Besides, gold is mostly “streedhan” – a legally accepted connotation – prized possession of a woman. Would any woman like to part with her gold for monetizing it in an official rigmarole long-term process?
Even if a woman decides to pawn her 30 gm necklace to the bank, why would she do that for a mere one per cent interest rate? She also would have to justify the family possession. Then there is no guarantee that she would get back her necklace. In all probability she would get back a small gold bar. She does not fancy it.
Indians prize gold as gifts and as a way of storing wealth. The country is estimated to consume 900 tonnes or about 33 per cent of the total gold mined in the world. The import costs $ 60 billion and is draining forex reserves. Gold is the second-biggest expense on the import bill after oil.
In May this year, the NDA government proposed that banks treat gold deposits as part of their cash reserve ratio, the share of deposits they are compelled to keep with the central bank, or the statutory liquidity ratio, the minimum amount of bonds they must hold.
But the government dropped the conditions after the RBI expressed fears that banks might hoard gold.
But people have never liked or bought the government schemes since 1960s.
When in 1962, China invaded India, the then prime minister Jawaharlal Nehru, to check the foreign exchange drain, used it as an excuse to sell gold bonds hoping that people would turn in their gold as mark of patriotism.
As it failed, the then finance minister Morarji Desai came out with Gold Control Act 1962 which recalled all gold loans given by banks and banned forward trading in gold. In 1963, making of gold jewellery above 14 carat fineness was banned.
In 1965, gold bond scheme with tax immunity for unaccounted wealth (black money) was launched. Very few opted for it. Desai finally introduced Gold Control Act on August 24, 1968. This barred possession of gold bars and coins. All existing gold had to be converted into jewellery and declared to the government. Licensed dealers were not supposed to keep more than 2 kg of gold and goldsmiths 100 gms.
Desai believed that Indians would respond positively and stop consuming gold to help save forex. It killed the official gold market and a large unofficial market sprang up dealing in cash only. Black market in gold flourished. Gold artisans lost their jobs and many families ruined.
In 1990, India had major foreign exchange problems and was on verge of default on external liabilities. The Chandrashekhar government pledged 40 tons gold from reserves with the Bank of England and saved the day. Subsequently, India embarked upon the path of economic liberalization. The era of licencing was gradually dissolved. The gold market also benefited because the finance minister Madhu Dandavate abolished the 1962 Gold Control Act on June 6, 1990. Dandvate liberalized gold imports on payment of a duty of Rs.250 per ten grams. The government thought it more prudent to allow free imports and earn the taxes rather than to lose it to unofficial channel. From official imports of practically nothing in 1991, India officially imported more than 110 tonnes of gold in 1992, which now stands about 900 tonnes in a year.
In September 1999, the government launched a gold deposit scheme to utilize the idle gold and simultaneously give a return to gold owners and reduce the country’s reliance on imports. However, this plan was not widely accepted by the population.
Gold ETFs are also operating from March 2007. These have not become the roaring success it was projected to be.
It is also known that all gold that are imported are not for the fancy jewellery. The imports serve to channelize undeclared earnings, that the government now wants to curb through the law for curbing black money. Exporter under invoice whereas importer over invoice. This creates the so-called illegal money. This is routed by importing gold, which is disposed off in rupees as gold has insatiable demand.
Similarly household gold has easy liquidity and can fetch the prevailing market price any time. So why should one opt for a cumbersome government scheme?
The government has legitimate concern. The step taken may look good on paper but does not seem to be practicable.
The fall in gold prices has added glitter to it. It may continue for some time as the US economy and dollar show improvement, says an ICICI Bank study. A Kotak Mahindra study says that decrease in China’s gold holdings and Chinese slowdown has added to the fall. Besides, of late, many international banks sold their gold reserves.
The only scheme that has succeeded is gold loan scheme. One gets easy loan of up to 75 per cent of the value of the gold as it is pledged with some finance companies.
The NDA government is in a fix. The monetization is impractical. Raising customs duty or stopping imports are to encourage smuggling apart from increasing gold prices. But as the history shows no government intervention has ever helped curb gold imports. The new scheme is fraught with risks. If it succeeds it may belie the doomsayers and one hopes it happens like that