Is Curbing Gold Imports an Effective Measure?

July 22, 2013 at 09:46

truthing

As students of financial management, one needs to understand how the underlying macroeconomic conditions can potentially affect the capital markets. One such contemporary issue doing the rounds of financial circuits is that of India’s current account deficit (CAD), and how gold imports need to be curbed to control this deficit.

In this write up, we try and explore India’s fascination for buying gold and whether curbing gold import to curtail CAD is a right step? If not, then what alternatives exist to tackle this problem. Is India really the world’s largest consumer of gold? Have our gold imports actually become a serious cause of concern for our policymakers?

The answer to both is ‘yes’. As per World Gold Council estimates, India is likely to import a whopping 615 tonnes of gold in the first half of 2013, compared to only 381 tonnes a year ago. Since India fulfils almost its entire requirement of gold through imports, this trend has led to worrisome levels of CAD.

India’s trade deficit jumped to more than $20 billion in May as gold and silver imports surged nearly 90% yoy in the month. Consequently, RBI has been taking steps to curb gold imports, such as hiking the import duty and imposing regulatory restrictions.

While this step may be desirable, it may not be necessarily effective. Alternatives for curtailing CAD (a consumption-aided disaster) such as reducing government expenditure exist and might be better. The crucial question is why the government remains hesitant to adopt these measures.

The finance minister appealed to the citizens to resist the temptation of buying gold. But why penalise the consumer for situations that have been partially created on account of government’s own actions?

India’s 2012 gold demand was about 11% more than that of China and five times that of the US. So, curtailing demand will align India’s gold consumption with the global players. But as shown in figure 1, the value of gold imports in India has surged recently, despite the sharp rise in gold prices, indicating that our gold imports are relatively price inelastic.