Size of CPI-indexed bonds critical to curb gold demand
Not surprisingly, given that banks will now find it easier to raise dollar-denominated NRI money, the rupee gained 97 paise against the dollar on Thursday. Bank stocks themselves rose 9.3% as compared to 2.2% for the broader Sensex, given RBI Governor Raghuram Rajan had so much for banks on his first day in office, right from removing branch licensing obligations to speeding up the NPA recovery process and getting stricter with defaulters. The biggest immediate positive, for banks and the rupee, however, was the move to take on part of the forex risk that banks incur when they raise overseas funds. While analysts have talked of banks being able to raise $5-10bn due to this, the amount could be higher given the profits to be made here. Earlier, with hedging costs of around 7-8%, it didn’t make financial sense to tap NRI deposits; but with RBI providing banks a forex cover at a fixed 3.5% rate, the cost of such NRI deposits could be around 8.5%. Given a lending rate of 11% or so, and no SLR/CRR obligations on such deposits, the profit levels are high enough to encourage banks to push hard to get NRI deposits. Other moves like hiking the overseas borrowing limits for banks—this can also be swapped with RBI at 100 bps below whatever the prevailing market rate is—will also help augment capital flows.
While RBI has done whatever it could to help augment capital flows in the short term, what happens to gold imports and the current account deficit depends upon what the government does. While global gold prices have fallen from $1,566 per troy ounce on January 1 to $1,396 today, the sharp fall in the value of the rupee from 53.31 to a dollar to 66.11 means that buying gold is still a profitable proposition. In which case, were enough CPI inflation-indexed bonds made available, there are good chances individuals would move to buying these in place of gold—given that gold comprises around 10-11% of the total import bill and 63.6% of FY13 CAD, curbing gold demand is critical. When the government introduced WPI inflation-indexed bonds, the quantities offered were small and, given investors wanted CPI cover, the bonds were of little help. Another issue that needs to be kept in mind is the relative anonymity that gold offers versus the rigorous know-your-customer (KYC) norms usually associated with financial products sold through banks—make the KYC on the inflation-indexed bonds rigorous, and chances are investors will prefer to invest in gold. In the longer run, if consumers feel the rupee is bottoming out, chances are they would like to lock themselves into CPI-indexed bonds. The other thing the RBI needs to push is allowing investors to buy gold certificates through banks which, instead of importing the gold, will buy gold futures in global markets—this reduces physical imports while giving investors the satisfaction of getting a good store of value.