Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2018 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.

Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Paradigm shift in gold policy - Outside View by S.S. TARAPORE
  • MyStocks


Login Failure
(Please do not use this option on a public machine)
  Sign Up | Forgot Password?  

Paradigm shift in gold policy
Aug 26, 2013

Historical Background

From the start of World War II in 1939 till 1991 any talk of liberalising the gold regime was totally taboo. There were periods of intense regulatory controls culminating in the Gold Control of 1963. No politician, administrator or central banker would be willing to meet with anyone connected with the gold trade, much less consider liberalising the horrendous gold controls. It is not as if India stopped buying gold. All that happened was that gold became an illicit import. International reports revealed how much gold was bought by India and Indian Customs officials developed sophisticated techniques of estimating smuggled gold imports by relating it to Customs catches.

  1. The first relaxation came in 1992 when non-resident Indians (NRI) were allowed to bring in as part of their baggage a few kilos of gold. There is an episode of Governor Venkitaramanan being woken up at night by an in-coming passenger who said that he was afraid to come out of the airport at night with gold and whether the Governor would provide the bank's bullion van!

  2. Subsequently, there were a series of policy relaxations resulting in a genuinely free gold import and domestic trade regime.

    Gold Imports and the CAD

  3. As the balance of payments current account deficit (CAD) widened to 4.8 per cent of GDP in 2012-13 gold was considered the villain of the piece. With gold imports tipping the 1,000 tonnes per annum mark, the demands in policy circles for clamping down on gold imports reached a crescendo.

  4. It is surprising that policy circles are just not willing to accept the simple identity that the CAD is nothing other than the gap between investments and savings. As policy interest rates are increasingly biased against savers, there has been a perceptible drop in household sector savings in financial assets. There is an erroneous belief in policy circles that a clampdown on gold imports would reduce the CAD; this is totally fallacious.

  5. There have been, in the recent period a series of measures to curb gold imports such as a 10 per cent customs duty, ban on import of gold coins and linking gold imports to gold exports. The more the authorities try to control gold imports, the larger will be the illicit import of gold. Any amount of controls on gold imports will not reduce the CAD.

    How are illicit gold imports financed?

  6. The illicit imports of gold have to be financed in foreign exchange through multiple channels. First, imports are over-invoiced and exports are under-invoiced. Secondly, inflows of migrant transfers are reduced and used to finance the illicit imports of gold. In the upshot, the current account deficit does not shrink.

  7. Again, facilitating Foreign Direct Investment (FDI) and liberalising Foreign Institutional Investments (FIIs) may encourage larger inflows of capital into India which helps financing the CAD, but it does not reduce the CAD.

    Impact of curbs on gold imports and capital inflows/outflows

  8. Market participants anticipate that there would be further curbs and a sentiment develops where foreign investors in India tend to flee. The curbs on outward Direct Investments by Indian corporate from four times the net worth to once the net worth and capital remittances by Indian resident individuals from $ 200,000 per annum to $ 75,000 per annum shakes the confidence of foreign investors while the savings in terms of foreign exchange are miniscule.

    Depreciation of the rupee

  9. The depreciation of the rupee was unavoidable as, over a long period of time, inflation in India has been significantly higher than in the major industrial countries. The more the authorities try to prevent the depreciation of the rupee, the greater will be the pressure to depreciate. If the authorities are true to their word, they would not have a target for the exchange rate. The argument that the authorities are only trying to control 'volatility' of the exchange rate is a mere fig leaf. Either the authorities intervene to hold the exchange rate or they let it be genuinely market determined; there is no third alternative. The present exchange rate does not reflect a fundamental equilibrium and the sooner the authorities stop trying to hold a certain rate under the pretext of controlling 'volatility' the better it would enable attaining a sustainable exchange rate. Admittedly, things have been left too late and a free fall could trigger a massive capital outflow. There is some anecdotal evidence that the clampdown on capital outflows by residents has triggered remittances by resident individuals who otherwise did not intend to remit capital abroad.

    Importance of the KUB Rao report

  10. The RBI's KUB Rao report had made a vital recommendation on the mobilisation of idle gold hoards within the country. Various estimates put the hoards in India at 25,000-30,000 tonnes. If a small part of these hoards are mobilised, there would be a sharp reduction in gold imports. Unlike earlier schemes which were not attractive, the authorities could introduce a very attractive gold-for-gold scheme with attractive rates of interest. If gold is lent to users at say 10 per cent, the depositor of gold could be paid 7 per cent. Such a scheme could result in disgorging of large gold hoards and as the idle gold is monetized, the savings investment gap could be narrowed and thereby the CAD would be lower.

  11. It is unfortunate that Governor Venkitaramanan's seminal idea of a Gold Bank, which was announced in the Union Budget of February 1992, was scuttled on erroneous grounds. It is 21 years since this was conceptualised and it is better late than never.

    An unenviable policy bind

  12. The present macroeconomic situation is critical. The dilemma is that monetary tightening - which has been left too late- would trigger adverse effects on the investment climate while reducing interest rates would discourage financial savings even further. In the event the authorities need to focus on steps to reduce the savings-investment gap. The Finance Minister has announced a CAD target of 3.7 per cent of GDP and an absolute red line of $ 70 billion for 2013-14. Bringing about a significant and enduring reduction in the CAD would warrant measures to make imports more expensive and exports more competitive and financial savings more attractive. In other words, the rupee has to depreciate and more attractive interest rates have to be paid on financial savings. What an unenviable task for the outgoing Governor Dr Subbarao and the incoming Governor Dr Raghuram Rajan.

Please Note: This article was first published in The Freepress Journal on August 26, 2013. Syndicated.

This column, Common Voice is authored by Savak Sohrab Tarapore. Mr. Tarapore, is an economist and he runs his own Multi-Language Syndicated Column. Mr. Tarapore's other column, which appears in The Hindu Business Line, is titled Maverick View.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

Equitymaster requests your view! Post a comment on "Paradigm shift in gold policy". Click here!

2 Responses to "Paradigm shift in gold policy"


Sep 6, 2013

all of what you say may be correct but how come you are not the FM of our country.

Let me feel consoled by what the FM says about CAD. Don't scare everyone


Manmohan Khetan

Aug 27, 2013

Wow! what a root cause analysis of a problem impacting the whole economy. I wish our policy makers should read this article and learn to tackle the situation. Our policy makers appears to be clueless and live in ivory towers completely not knowing the root causes of the problem forget about the solutions.

Pl sir, keep enlightening us with your pearls of wisdom

Equitymaster requests your view! Post a comment on "Paradigm shift in gold policy". Click here!

More Views on News

What They Forgot to Tell You About Sensex at One Lakh (Smart Contrarian)

Nov 29, 2017

Stocks that could beat Sensex returns in the long term.

How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

Jun 10, 2017

Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

Venezuela's Own Crypto Currency: Smart or a Sham? (Outside View)

Feb 21, 2018

The South American nation of Venezuela just launched its own cryptocurrency. Is this the beginning of a revolution? Read on to find out more...

Safe Stock Ideas for You from Monday to Friday (The 5 Minute Wrapup)

Feb 21, 2018

The 5 Minute WrapUp will now come to you every weekday.

Narrow Banking: Public Sector Banks Should Not Be Lending to Corporates (Vivek Kaul's Diary)

Feb 21, 2018

Corporate bad loans constituted nearly 70% of the total bad loans of public sector banks in India, in 2016-2017.

More Views on News

Most Popular

Follow India's Super Investors to Make Big Money in the Market Crash(The 5 Minute Wrapup)

Feb 8, 2018

Has the sell-off in the markets left India's super investors unduly worried?

The Era of Easy Money is Coming to an End. What Happens Now?(Vivek Kaul's Diary)

Feb 9, 2018

The easy money policy of the Federal Reserve of the United States, which drove up stock markets all over the world, is ending, with the Federal Reserve looking to shrink its balance sheet.

The Markets Want Your Money. Don't Give It to Them.(Smart Contrarian)

Feb 9, 2018

MFs are having a gala time taking money from over-eager investors and funneling it into equities. Smart investors, though, know better than to do that.

The Big Gamble(The Honest Truth)

Feb 15, 2018

Once you accept the fact that elections are round the corner and that this budget is geared to reach a 40% target, everything makes sense.

Rising Dominance of Mutual Funds(Chart Of The Day)

Feb 8, 2018

Domestic money flow into Indian equities surpassed foreign fund flows in the recent years. But will it continue in volatile market?


Small Investments
BIG Returns

Zero To Millions Guide 2018
Get our special report, Zero To Millions
(2018 Edition) Now!
We will never sell or rent your email id.
Please read our Terms


Feb 21, 2018 (Close)