Over the years however, the Indian government decided to open its economy to foreign business and liberalisation reforms helped free the gold market through unrestricted movement of currency.
The trades were carried out smoothly until recently when the reforms were reversed and gold customs duty was increased. Ironically, India has been producing almost negligible quantities of gold in comparison to its consumption and hence there was no real need for such a duty to be levied, especially not by claiming protection for domestic industries.
The previous Indian Budgets too saw a reduction in customs duty. Here's a brief look at the justifications provided by the then Finance Ministers:
1. 2001-2002:"In order to discourage smuggling I propose to reduce the duty on gold from Rs 400 per 10 grams to Rs 250 per 10 grams."- Yashwant Sinha
2. 2003-2004:"As for gold, it is proposed to reduce the customs duty on imported gold to Rs.100 per 10 grams from the present level of Rs.250 per 10 grams, but only when it is brought in the form of serially numbered bars, or in the form of gold coins, not as 'tola' bars, please. It is my hope and expectation that this will become the first step in enabling India to shortly emerge as the gold-trading capital of the world."- Jaswant Singh
While these were their justifications, some questions remain unanswered...
What happened to the dream to make India the gold-trading capital of the world?
India has every reason to become a dominant player in the gold market because of its immense consumption power; individuals are holding huge gold stock reserves, and already has the exchanges and products required for the development of the gold market in place. However, instead of being a country that should be setting the price, we have been categorized as price takers.
The dream of making India the gold-trading capital has been sacrificed because the government is currently focused on filling it's deficit ridden coffers with the revenue it will earn from the customs duty. To earn custom duty, the government is burdening consumers who are already reeling under the pressure of rising prices. It seems the government has conveniently forgotten the main intention behind the introduction of such reforms, which was to make India the gold-trading capital of the world.
Our appeal
Government policies play a big role in making or breaking the market, and hence the finance ministry should not be swayed by the short-term gains of the custom duty. Instead, they should pay attention to the overall development of the gold markets in India.
By introducing Gold ETFs in 2005-2006, the then Finance Minister took a step forward and enabled investors to purchase gold in a more efficient manner. The government should introduce more features like these to strengthen the gold markets.
As mentioned in an earlier Golden Truth article, we reiterate a few other reforms that can be introduced to fulfill the dream of making India the gold-trading capital of the world:
A gradual move towards a free market: Imports and exports of gold should be allowed with minimal restrictions if not freely. If the government opens up to a free market, there is a high chance that gold prices will trade better since domestic prices would be at par with international prices and will help lay down some basic rules in order to find the true price of that commodity or currency. For this to become successful, additional taxes, duties and levies need to be abolished. Getting domestic prices on level with international prices would thus serve as a stepping stone towards India being the center of the gold market.
Mobilizing for productive purposes: The accumulated wealth of gold in India amounts to more than Rs. 30 Lakh crores. The government should try to use these savings for the development of the nation by mobilizing and channelizing the same to productive uses. One efficient use would be to mobilize these savings and efficiently utilize the same for managing trade deficit.
Annual fee on foreign bullion players: The government could apply an annual fee on foreign bullion players trading in Indian markets and generate revenues through the fees charged on them.
The customs duty collected helps reduce the deficit by a negligible proportion. Hence, the government should focus on implementation of such reforms and look at the bigger picture. We all agree that it is not easy to implement these reforms overnight and it is a gradual process. However, if such steps are taken, we will definitely be strengthening our gold markets.
Until then, Investors...
Although the increased custom duty has made the purchasing gold in India a bit more expensive, investors should remember that they would recover the difference when they sell their gold holdings. Such small increases in duties was an expected phenomenon and will only marginally increase the purchasing price of gold. Investors should look at the long-term position, and invest in gold with the opportunity of benefiting from potential increase in its prices over the long term. They should also look at the diversification benefits that gold provides, as proved by the recent episodes of 2008 and 2011.
Afterall, the only thing constant is change – be it the weather or the government.
(The author is Fund Manager, Commodities at Quantum Mutual Fund)
