India’s Gold Bug
There’s been a large amount of commentary on the huge surge in Indian gold imports, the damage it is doing to the current account deficit, with much weighing of the pros and cons of the government’s feeble attempts to stem the yellow tide.
Why are Indians buying so much gold? It’s a lot. India is the world’s largest goal importers and the estimated value of individual holdings alone is something on the lines of $ 1 trillion dollars – equal to 70 per cent of India’s present GDP. To put it another way, Indians have putting more money into gold than they have into life insurance premiums, mutual funds and almost any type of savings other than bank deposits — which have been shrinking in a not unrelated phenomenon.
The standard argument, and it is a sensible one, is that Indians are seeking an inflation hedge. With inflation in double digits and the real interest rates being offered by any type of bank account basically zero or negative, gold is sensible hedge. The Reserve Bank of India is among those who have weighed in and warned that until inflation moderates (and the government reins in its red ink ways) such gold buying will be difficult to stop.
But the inflation argument does not hold up too well when one looks at the data.
Gold buys in India take off in 2009 jumping from about 500 tonnes then and reaching just over 1000 tonnes by the middle of 2011. But the consumer price index had reached 11 per cent in India by the end of 2008, a position it largely held until 2011. The real game-changer for gold imports was the 2008 global financial crisis. The combination of the crisis and, secondarily, inflation were the main triggers for the shift to gold.
Though hard to calculate, the evidence is that Indian purchases for gold for investment purposes as opposed to personal consumption – weddings, gifts and jewelry for adornment – remained the same proportion throughout.
This brings me to the second reason for the rise in gold buys: rural prosperity.
Whatever else you can say about the Manmohan Singh government’s welfare schemes; it pushed a lot of money into rural India and gave rural incomes a huge boost. This is especially true for land-owning kulaks, like the wheat farmers in Punjab, Haryana and western Uttar Pradesh. And it is exactly this group that is most addicted to gold. I would suspect that data would show this social class massively increasing their gold purchases.
A Morgan Stanley Alpha wise study on Indian gold buying habits seems to support this. Thirty five per cent of those surveyed bought for life events like marriages and this particular reason was rising the most rapidly. The study concluded it would reach 50 per cent by 2020 even as buying for investment purposes would remain at about 20 per cent. Indians like to buy gold for these sort of things as they get wealthier. The dip seen in gold imports in 2012 is attributed to the poor monsoon that affected the buying power of Indian farmers.
My sense is that while taming inflation will help, the best way to wean Indians off their present overzealous gold buying is to revive the economy as a whole. And get rural people to move to the cities. All of these will take some time, so the gold bug that is biting India will continue for some years to come.