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.
Oiled glitter
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).
Policies galore
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.
Global allure
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
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