These are exciting times for the Indian gold industry. With mandatory hallmarking driving towards an increasingly transparent gold market, we’re poised on the cusp of another sea change within the gold industry, reports bullion analyst Sanjiv Arole. He cautions that the only possible hindrance to India becoming the global hub for gold is the high import duty and tariff structures.
A noted lawyer of his time proudly proclaimed on TV that he had named his bungalow ‘Morarji Kripa’ (meaning ‘By the grace of Morarji’). He said that he owed most of his earnings to prohibition as he fought cases against the government on prohibition of alcohol imposed by Shri Morarji Desai around 1950 in the erstwhile state of Bombay. The alcohol ban continued till 1963, when the new state of Maharashtra repealed it. Similarly, Dubai is said to have prospered only after India’s imposition of the Gold Control Act that was in place from 1962 till 1990. The Union Finance Minister in 1962 was Shri Morarji Desai who introduced the Gold Control Act after the Indo-China war in 1962. After the war, gold was perceived as a wasteful expenditure and needed to be curbed. However, India’s insatiable appetite for gold meant that it was procured illegally by way of smuggling. Dubai became the conduit as it imported gold in large quantities, only to be smuggled illegally into India. Dubai continues to thrive even today due to India’s high tariff on gold (import duty plus GST, etc).
Winds of change have been blowing through the Indian gold industry as attempts are being made to synergise the domestic gold markets with the global markets. After a lull, the reforms in the gold industry appear to have gathered steam. Apart from the revised GMS (Gold Monetisation Scheme), Sovereign Gold Bond (SGB), the sovereign gold coin, gold deposit scheme (GDS), etc., one now hears about the International Bullion Exchange (with IFSCA as regulator) at GIFT City in Gujarat being set up by the three commodity exchanges in India (MCX, BSE and NSE), the Spot Gold exchange in Mumbai, etc.
The GIFT City is said to usher in an era when India becomes the global hub for gold. The terminologies in vogue now are BDR, EGR, qualified jewellers, trading members, clearing members, Dmat gold, T0, T+1, T+2… This parlance is new and, at times, very exciting for the bullion trade. Then, mandatory hallmarking too has seen a sea change after several hiccups and resistance from the trade with more than one crore jewellery pieces being hallmarked every month.
The grandiose plan is to have almost all imported gold through the IFSCA-regulated International Bullion Exchange and the local gold through the SEBI-regulated Spot Gold Exchange in Mumbai. But this plan could be very difficult to fructify if the tariff rates on gold are not in sync with global trends. As long as import duty remains high, smuggling of gold would continue to upset the applecart. Then, higher domestic tariffs would also create compliance issues for the trade. The authorities need to look at the big picture instead of reacting to issues in an ad-hoc manner.
Consider the following:
(a) Before the Gold Control Act was promulgated in 1962; India had a thriving bullion market (gold & silver). The erstwhile Bombay Bullion Association rates were sought after in London and the turnover on the thriving commodities futures market was more than the turnover of equities on the BSE. The ban on gold meant that the Indian gold market lagged behind the global markets till the act was repealed. But the damage was done and the situation continues to this day. India’s loss was Dubai’s gain.
(b) It is granted that the intent of those in authority at those times was indeed noble. The Gold Control Act was imposed after the war only to save monies for more urgent spending of the scarce foreign exchange. In fact, people contributed money and gold in the aftermath of the Indo-China war in 1962. But the problem was that subsequent governments did not review those measures for a long time. The collateral damage in India included a parallel economy, generation of black money, trade going underground, hawala rates for transfer of monies, gangs of smugglers (first for alcohol and later for gold), bootleggers, corruption, violence, political patronage, etc.
In 2012 too, the gold import duty was raised sharply to around 10% in a short span of time to rein in the current account deficit (CAD) and get favourable ratings from global rating agencies. The deficit had burgeoned on account of high gold imports of over 1000 tonnes ($53 billion) in 2011. But, by allowing the tariffs to remain high even now the government has only provided incentives for illegal trade in gold.
(c) Then, successive governments have been very stubborn in not allowing export of bullion (gold & silver, etc.) without value addition. Even export of scrap was not allowed. This prevented the Indian trader from taking advantage of exporting when the price was in their favour. He then resorted to exporting crude jewellery to Dubai (mainly), with cubic zircon or a medallion. The jewellery was then melted and then re-imported to India. The trader also benefitted from the export incentive on offer at that point of time, interest rate arbitrage between Dubai and India as well as cheap bank finance given to exporters. This phenomenon of round-tripping came into vogue in early 2000s. High value items like gold, silver, platinum and polished diamonds, etc were used as vehicles for this purpose. Letters of credit for 365 days were issued as well. There were even whispers that some of the transactions were only on paper and actual import-export did not happen at all.
Subsequently, as the government withdrew the export incentives, reduced number of LC days, only cheap bank finance remained. At its peak, 200-300 tonnes per annum of gold was imported and then re-exported, with one company accounting for around 100 tonnes per annum. The profits from round-tripping were used in speculation on equity and commodity exchanges. This phenomenon also gave rise to a new breed of economic offenders (much different from smugglers and bootleggers). When the gold price crashed in 2013, some of those who indulged in round-tripping in a big way and who took positions on the exchanges were badly singed. They subsequently became fugitives from India and were proclaimed as economic offenders. Some of them further graduated by issuing LOUs and also became absconders from the country.
Since the obnoxious Gold Control Act was repealed in 1990 and gold imports gradually opened for the trade gold reforms took off though not at the desired pace. Smuggling continued as long as the premium of the local gold price over the overseas price of gold as well as silver remained high. As a result, the gold market continued to be opaque with no single gold price across the country. Differential local taxes meant that gold landed where it was cheapest and then smuggled across states.
Not surprisingly, even though gold imports became legal, the bullion markets continued in the old ways. With quality of jewellery being suspect, many players in the precious metals markets continued to benefit from cheaper imports and poor quality jewellery in the grey markets. It also prevented genuine players from operating on a level playing field. Implementing rule of law and higher tariffs were simply not designed to make players in the industry compliant. There is a need to incentivise the trade to be compliant rather than try and force the trade to be compliant with disincentives.
It is pertinent to note that as gold and silver imports came under OGL (open general license) and the gold import duty reduced, the premium on gold too fell to reasonable levels. The tipping point came when the import duty on gold was reduced to Rs.100 per 10 gms for pre-numbered bars of metric weight and Rs.250 per 10 gms for other types of gold, a sea change took place in the Indian gold industry. The incentive of lower import duty saw the production of 10-tola bars replaced by kilo bars that were pre-numbered and of metric weight.
The production of 10-tola bars a preference of smugglers who wore it in pre-designed jackets was stopped. Almost overnight smuggling of gold became history as the Arabian dhows carrying gold stopped sailing in the high seas, gold smugglers became jobless. The hawala rate crashed and came almost at par with the official rupee (at times even below), the parallel economy took a hit and the trade became transparent on the import of gold. Generation of black money too took a severe jolt. As the market became compliant on the gold import front, government departments like the DRI (department of revenue intelligence) stopped monitoring gold imports. This golden period lasted till 2011-12 when the huge import bill due to record gold imports of over 1,000 tonnes caused the government to try and restrict gold imports by increasing import duty on it to 10% in a short span of time. Smuggling reared its head once again and it continues even to date. It is quite evident from the above that tariffs need to be reasonable so that it is easier for the trade to be compliant.
It would appear that gold is being stigmatised for all the ills that the Indian economy has faced for almost 60 years. A war takes place, gold is banned. An attempt is always made to look at the industry with suspicion. Almost no attempt was made to reap economic benefits of the yellow metal. Higher import and domestic tariffs pushed the trade underground and made the gold market opaque. However, all attempts made to curb consumption of gold failed, and India became the second-largest consumer of gold and Indian households have with them more than 25,000 tonnes of gold as private holdings. Now, everyone knows that the US Fed holds over 8,000 tonnes of gold and the US dollar is the reserve currency of the world. In spite of spiralling US debt its currency remains strong owing to its gold reserves.
Now, India with only around 700-odd tonnes with the RBI does not have the same leverage in international finance markets. However, the 25,000 tonnes of gold in private holdings in India have helped the Indian economy in many a crisis situation in the past. India pledged 60 tonnes of gold with Bank of England to tide over a severe BoP crisis in early 1990. Then, India was virtually immune to the East Asian currency crisis of 1996 due to its gold in private holdings that made the economy resilient against such shocks. The global meltdown due to the subprime crisis left India largely unaffected as the economy withstood the shock due to gold holdings with private individuals.
Last, but not least, the pandemic and the lockdown severely tested the resilience of the Indian economy. The quantities of pawned gold pieces not redeemed and auctioned in the prosperous state of Kerala convey the severe impact of the pandemic on the Indian economy. But the fact that the Indian economy is already showing signs of bouncing back, reflects the underlying strength of gold in the Indian economy.
Recently, the Maharashtra government decided to review its earlier decision to impose 0.10% stamp duty on gold imported into the state. This was supposed to fetch the government an additional Rs.400 crores as revenue. However, gold importers diverted gold imports to other centres to avoid the 0.10% tax and that gold found way into the state illegally. As a result, the state not only lost on the anticipated Rs.400 crores as revenue, but also missed out on its share from the GST kitty aggregating into a few thousand crores. Trade bodies like GJEPC pointed this out to the state authorities and hopefully there is course correction. The central government too needs to relook at its duty and tariff structures on gold and other precious metals and diamonds and see to it that it is easily compliable for the trade.
Pre-budget, various trade bodies gave their wish list to the Finance Minister. There were two major demands made for gold. (a) Reduce import duty on gold to 4% and, (b) Halve GST on gold to 1.5%. It would seem that the trade would readily comply with such rates. If that is so, then, the government should consider it in the near future. Apart from that, permit the trade to export gold in bullion form as well as in scrap form. With mandatory hallmarking making rapid strides, one could see a transparent gold market in the not-too-distant future. Merely setting up exchanges and wanting India to be a gold hub would not fructify unless the compliance issue is sorted out threadbare. Look at the ‘Big Picture’. The idea is to assimilate gold into mainstream economy and not keep it out!
Now, there is a clamour for Digital gold, paper gold, d-mat gold, gold SIPs, gold accounts, etc. there is a push towards paper gold and to try and get gold in private holdings to be under government control. However, converting all physical gold into paper gold could turn counter- productive. For, it must be remembered that as the erstwhile USSR disintegrated, Russia sold all gold in its reserves and as the Russian populace did not have gold holdings, the Russian economy went into a tailspin. Now, the Russian Central bank is trying to buy gold to boost its economy. There are many countries in Latin America, Africa, etc. who have gone bankrupt as they do not have gold as a fallback option. Even Sri Lanka is desperately looking for help as its economy slides towards bankruptcy. Therefore, gold in private holdings is a cushion that the Indian economy cannot afford to waste.