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Thursday, 26 March 2015 00:59
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Small interest rate on gold bonds adds to their allure

With gold prices collapsing from a high of $1,826 per troy ounce in August 2011 to $1,189 currently, it is not surprising the allure for gold has also reduced considerably. From $56.5 billion in FY12, gold imports are likely to be down to $31 billion in FY15. So, gold imports, which looked threatening 8 quarters ago—Q3FY13—when they added up to 15% of imports, look a lot more benign now at 9.4% of imports in the quarter ended December FY15. While the UPA government had tried to staunch the imports by raising import duties all the way up to 10% and even putting in other restrictions, this didn’t really work while the economy looked fragile and global gold prices were rising. Even though it doesn’t look as if gold prices are going to go up dramatically in the near future, with gold consumption in the country still reckoned at around $8.6 billion in the December 2014 quarter, that’s a pretty significant amount. Moreso, since household savings have been coming down steadily, as have those in financial form—household savings in financial form have fallen from 12% of GDP in FY10 to 7.2% in FY14.

In the event, the government has done well to announce a gold bond and, as FE reported, it may even offer a small interest rate on this to add to its attractiveness.It is not clear how much of household demand for gold is for consumption andhow much is a store against inflation and economic uncertainty, but the bond seeks to provide an alternative for the latter. So, if an investor wants to buy 100 grams of gold, she pays the then market value and gets a certificate for that amount. If the value of gold rises in the next year, this entitles her to get the higher value for 100 grams of gold along with the interest payment—it is not clear yet if there will be a lock-in period, but a lock-in will make the bond that muchmore unattractive. Ideally, what the government should do is to buy gold futures immediately, on international metal exchanges if need be, since leaving an open position can be quite hazardous. If the government is buying the call options on global exchanges, apart from the cost of the option, it will also have to take on the costs of the rupee depreciating. Which means its calculations show, the net benefit to the economy will be higher by way of a more manageable CAD as well as less money getting locked in unproductive gold.



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