Gold, the king of precious metals has many sayings around it. The more famous ones, probably are the following: “Old is gold”, “All that glitters is not gold”, “All that is gold does not glitter”, “If gold rusts what then can iron do?”, “Silence is golden”, “Truth, like gold, is to be obtained not by its growth, but by washing away from it all that is not gold”, “Fire is the test of gold; adversity, of strong men”, “As every thread of gold is valuable, so is every moment of time”, “More gold has been mined from the thoughts of men than has been taken from the earth”, “A mask of gold hides all deformities”, and “It is health that is real wealth and not pieces of gold and silver” (the last one attributed to Mahatma Gandhi).
All the sayings and proverbs on gold reflect the precious and adored state of the special metal. Gold has been an object of adornment and allure as well as trade and economy for India from ancient times. While the Vedas spoke of gold, historians wrote about Indo-Roman trade in gold (imports into India) and diamonds (exports from India). Archaeologists spoke of gold and diamond mining in certain regions of the country. Kings’ treasuries as well as commoners’ homes were having gold as the principal security. Even more importantly, gold has been an integral part of the Indian ethos of religion and marriage and the mystique and charm of Indian women. Crafting of gold into ornaments was a highly skilled vocation of goldsmiths who were essential members of every living community. And, through the ages, it has been the safe haven of domestic investment that insulates families against economic crises.
Like with everything, modernity has transformed the way how gold is made, consumed and stored in the country. Increasingly, streets of Indian cities and towns are getting dedicated to gold shops (and other precious metals too, of course). Shops for gold have become household brands. Several tonnes of gold probably lie in these mammoth gold malls as elegant as well as ostentatious ornaments. Less gold is recycled in India (at 15 percent compared to 33 percent globally, approximately) and incremental consumption (and hence incremental import) is hefty. All that would not be of much concern had it not been for the fact that gold accounts for a significant share of India’s current account deficit. And, India needs to control its current account deficit (CAD) if it has to be economically competitive internationally. No wonder that successive governments have tried to address the gold consumption issue in India, but to little avail!
Gold, in modern economy, is not just of ornamental value. Of the 4,000 MT of India’s gold demand in 2014, 58 percent went to jewellery and 10 percent to technology (mainly electronics) while 43 percent was consumed as gold bars and coins and 10 percent as central bank purchases. Positive investments of 20 percent were cancelled by an equivalent negative growth in exchange traded funds (ETFs). At around approximately 1,100 MT each, India and China seesaw as the largest consumers of gold around the world. India’s households are estimated to hold 22,000 MT of gold as per a BCG Report for World Gold Council. India’s gold imports at around 1,000 MT each year contribute to a major share of India’s CAD, apart from oil and petroleum products. India’s CAD peaked to 6.7 percent of GDP in Q3 of 2012-13 but declined to 1.3 percent of GDP in 2014-15 due to the tumble in oil prices (was 4.7 percent of GDP in 2013-14).
From the time of independence, successive Indian governments had been trying to curb the personal consumption of gold. The most striking acts have been from the Union Government in the 1960s. Morarji Desai who was the Finance Minister then passed the Gold Control Act 1962 (since repealed in 1990) which recalled all gold loans given by banks and banned all forward trading in gold. He also banned production of all gold ornaments above 14 carat fineness and launched the gold bond scheme. All these measures, however, did not make any material difference to consumption of gold. When India was almost in default on external liabilities in the early 1990s, the government had to pledge 40 MT of its central bank gold reserves with the Bank of England and saved the day (along with other measures such as devaluation of the INR and economic liberalization). Imports of gold were allowed to be made with an import duty. Gold imports continued to surge, post-1990s but at least the official market for gold began dominating the unofficial market which ruled the roost in the 1960s, and up to the 1990s.
The UPA government, alarmed by the surge in gold imports up to USD 50 billion contributing to 3 percent of GDP, imposed a 10 percent import duty on gold imports in 2012. In August 2013, the government introduced an 80:20 rule by which the importers were required to export 20 percent of their imports as value added exports. This rule was revoked by the NDA government in December 2014, possibly buoyed by the sharp decline in the prices of imported crude and the sharp decline in CAD. In a more progressive effort, the NDA government in the Union Budget 2013-16 has proposed certain measures to monetise the huge household gold reserves. Finance Minister, Arun Jaitley has proposed gold deposit accounts and sovereign gold bonds as well as minting of coins with Ashok Chakra to monetize gold and provide equivalent value circulation and household storing of paper than gold.
It is probably incorrect to consider that only India has the allure for gold, and only the Indian economy is impacted by gold; it has indeed been a global phenomenon. The fact that China has been a marginally larger importer and consumer of gold without any of the traditional allure and sense of security that Indian society has is proof enough of this. Not many may remember, but US dollar until August 1971 was freely convertible to gold! President Richard Nixon’s landmark decision to stop the dollar-gold convertibility led to a weakening of US dollar and a rally in the price of gold which reached a peak in January 1980. Since then, every appreciation or depreciation of the dollar caused by global economic events led to a corresponding weakening or strengthening of gold, consistently. In September 2011, gold reached an all-time record peak of USD 1921 a troy ounce. Since then, as the dollar began to strengthen again, the price of gold has fallen to USD 1100 per troy ounce.
Although dollar is expected to further appreciate over the next few months, gold is expected to hold reasonably well for the next cycle despite the plateau in production. Gold bugs as well economists agree that it would be difficult to dislodge gold’s position as the ultimate personal investment and all-season safe haven. The next boost for gold could come from a hitherto totally unanticipated source: the upcoming Apple Watch! In a bid to position the Apple Watch as a luxury accessory, Apple could liberally use gold in the watch and become the largest single consumer of gold. Assuming Apple Watch Edition requires 2 troy ounces of gold, the anticipated production of 12 million watches per year would require 24 million troy ounces, or 746 metric tonnes of gold, which will be 30 percent of global mined production! Not to be outdone, other watchmakers may resort to use of gold in their watches leading to an exponential growth in the demand for gold.
Fiscal vs Strategic
If these demand trends do materialize, there would be an upward shift in the price of gold which coupled with dollar appreciation could pressure India’s CAD as never before. Given the unshakeable role gold plays in the socio-economic firmament of India, consumption may never be curtailed. Whether only fiscal approaches could address the unravelling situation is a moot point. The author proposes that an approach of competitive strategy and structural management of industry could provide a sustainable solution. The gold industry is not a small industry; it has high turnover wide reach, and is on par with industries like information technology and apparel in earnings and employment. A structural and strategic analysis of the gold industry is well-merited. Such an analysis would lead to five drivers of competitiveness, with significant socio-economic benefits for India as below.
1. Make to order
The most effective way to bring moderation and efficiency in the Indian gold market is through neither design nor manufacture; it is through curtailing mindless retailing of gold! Contrary to popular perception, the largest stockpiling of gold occurs in the several thousands of shops that stock and sell growth. One has to visit any of the upmarket gold shops to see millions of rupees locked up in gaudy and heavy ornaments. There seems to be no end to the gold retail mania because gold, as a product, has no shelf life (no deterioration, ever!). There is little incentive, therefore, to have any just-in-time stocking policy or frequent turnover of jewellery. Quite possibly, non-moving jewellery could be reformulated to newer designs compounding wastage and pushing up costs and prices. Probably, there is a case to ban physical stockpiling of gold ornaments above a particular value per category so that a low-inventory, make-to-order system develops.
2. Technology for the SMEs
The next important step would be to make manufacture efficient and productive. Traditionally the gold and jewellery segment has been in the small and medium enterprise category. This has enabled lower overheads but also resulted in lower manufacturing efficiencies. There is a need to announce a duty and tax free technology upgradation scheme for the gold SME segment covering gold refineries, laser cutting and polishing machines and metal forming and grinding machines as well as tools and dies. It is not necessary for this approach that the industry structure should be skewed towards large firms; instead technological depth in SME sector could make the gold industry a role model for other industries in India.
3. Computerized design
The gold jewellery in India has spawned multiple design formats, more particularly with the emergence of the larger branded stores and companies. However, factors like weight to strength ratios, low wastage designs, modular components, high strength-high flexibility joineries, and alternative fashion designs need to be incorporated with computer aided design capability. This may require specialized computer programmes and customized computer infrastructure. A major emphasis must be on design and manufacturing process technologies that reduce wastages to no more than 3 to 5 percent as opposed to current 15 to 20 percent. Needless to say, this measure could provide more disposable income in the hands of consumers and also reduce the costs of inventory and inventory holding.
4. Incentivized recycling
It is known that recycling of gold in India is at half of the global level of 33 percent. Transparency and equity in valuing old ornaments together with a drastic reduction of taxes on new ornaments bought in exchange for old ornaments could go a long way in improving the recycling share. A major barrier to recycling would seem to be the sentimental value associated with retaining old ornaments across generations. While there cannot be a financial incentive to substitute the sentiment, the recyclers could offer some scaling up of incentives for the older generation ornaments. Modernization and optimization of design, manufacturing and retailing must be accompanied by national and international certifications, including ‘hallmarking’.
5. Financial instruments
Unlike in most countries, In India, gold is used to almost an equal share for investment purposes. If at least this portion is monetized, not only the imports would be reduced by half but also there would be multiplicative flow of money which can be ploughed by the banking system for the much needed funding of the gems and jewellery industry. Apart from issue of sovereign gold bonds as proposed by the Finance Minister, converting of physical gold locker accounts into virtual gold banking accounts and convertibility options for gold traded funds could be considered.
Glitter without flutter
The Indian gold industry, together with the gems and jewellery segments, is a very important industry in India. With a turnover exceeding INR 260,000 crore and employing 2.5 million currently, and with potential to double to INR 500,000 crore and add another 1.5 million jobs in just 5 years, the industry is one of the most vibrant sectors of Indian economy. It is on par with automotive, information technology and apparel industries in its socio-economic dimensions. The two issues of locking up of gold inventory and impact of CAD need to be tackled with novel approaches. The entire gold value chain consisting of imports, domestic mining, refining, design, manufacture, retailing and recycling needs to be addressed holistically.
The Indian gold industry would benefit from an incisive structural and strategic analysis, as illustrated to some extent in this blog post’. The industry requires a ‘made to order’ pull type demand and supply chain system that minimizes inventory rather than a traditional ‘see and select’ traditional retail marketing system that maximizes inventories. If new gold mines could be discovered, it would be a great bonus. It is also important to recognize the intertwining of gold-centric investment and financing in rural and indigent sections of the Indian society, and create exclusive gold branches or cells to provide a more contemporary and congenial vehicles for India. The five dimensional structural and strategic paradigm as described herein would make the typically Indian socio-economic fantasy of gold an economically beneficial social reality.
Posted by Dr CB Rao on March 28, 2015