Can government really force people to reject Gold Bullion in favor of paper currency...?
ACCORDING TO ITS OFFICIAL data, the Reserve Bank of India (RBI) now holds 357.75 tonnes of gold, forming about 6% of the current value of its total foreign exchange reserves.
The evolution of the RBI's policy on Gold Investment since independence was centered around some major objectives – namely moving people away from private gold ownership, regulating the supply of gold, reducing the domestic demand and prices and curbing smuggling.
In the wake of the Chinese war of Oct. 1962, it was felt in some circles that it would be feasible to make a frontal attack on demand for gold in India, forcing Indian citizens to use the Rupee as a store of wealth, instead.
Gold in India: The Gold Control Order
Accordingly, the Gold Control Order 1962 was issued, banning the making and selling of jewelry above 14 carats, and making it compulsory for goldsmiths to be licensed. They also had to submit accounts of all gold received and utilized by them.
These measures met with lots of resistance and criticism, and coupled with political complexities this resulted in the failure of the Gold Control order.
Bullion imports and exports were also banned, but restrictions on the import of gold into India resulted in a flourishing smuggling business, plus unofficial transactions in foreign exchange.
Official imports to discourage this smuggling were first mooted in 1977 but viewed against the forex reserves available then, it was thought an impossible proposition. The government decided to sell confiscated gold in small quantities through the Reserve Bank of India, but again this did not have any major impact on smuggling.
Gold in India: Mobilization Schemes
The government and RBI then took several initiatives to tap the hoard of private gold in India, allowing commercial banks to pay interest on bonds issued in return for gold bullion bars, coins or jewelry.
Fifteen-year Gold Bonds paying 6.5% annually were introduced in November 1962, but they could mobilize only 16.7 tonnes of gold. A second attempt to garner gold was made through the 7% Gold Bond 1980 Scheme, launched in March 1965. But it could mobilize only a further 6.1 tonnes.
The third attempt was the National Defense Gold Bonds 1980 (again issued in 1965). They garnered 13.7 tonnes, while the Gold Bond Scheme 1993 garnered 41 tonnes of gold. The last Gold Deposit Scheme, launched in 1997, could mobilize only seven additional tonnes of gold within two years of its launch.
That compares against a total private gold hoard held by Indian citizens, now estimated to stand between 13,000 and 15,000 tonnes.
Gold in India: Why Don't People Swap Gold for Paper?
In its 1999-2000 budget, the Indian government announced a new initiative to try and tap the hoard of private gold held in India, this time by permitting commercial banks to take gold deposits of bars, coins or jewelry against payment of interest.
Each bank can set their own interest-rate levels, with deposit periods ranging between three and seven years. Interest and any capital gains on the gold are exempt from tax, and the banks can lend the gold to local fabricators or sell it onto the main Indian Gold Market or to local banks.
Yet again, however, the scheme doesn't appear to have worked. The State Bank of India was the first to accept deposits, but to date the amount of gold collected under this scheme is just 10 tonnes.
Why? Firstly, the depositor has to declare the origin of the gold, so that metal imported illegally before the relaxation of import controls in 1992 cannot be deposited. Depositors also lose any fabrication value in their jewelry, since the banks first convert them into plain bar form before accepting gold as a deposit.
Then there's the low caratage of most Indian jewelry compared with the 99.5% fineness of approved investment gold bars such as London Good Delivery gold. That only increases costs for both sides. And finally, many depositors feel the commercial banks still only offer a low rate of return in exchange for their gold.
With the Gold Price rising so strongly against the Indian Rupee so far this year, the rate of interest needed to convince private Indian gold owners to part with their bullion would have to rise substantially.