T N Ninan: Golden escape route

The current value of the gold imported in the last 5 yrs is worth more than the total assets managed by mutual funds, or all retail share investments

Everyone knows that gold imports rose to stratospheric levels last year: $56 billion worth, or about Rs 2,80,000 crore. But not many have registered that that figure was more than the total premium collected last year by all life insurance companies. It is also multiples of the money that went into either stocks or mutual funds (debt and equity combined), or housing, or for that matter into all “small savings” avenues (public provident fund, post office savings and the like). In fact, if you take the current value of the gold imported in the last five years, it is worth more than the total assets managed by mutual funds, or all retail share investments, or the accumulated small savings. Most of these categories of savings total up to less than Rs 8 lakh crore, while the value of the gold imported over these five years would be over Rs 10 lakh crore. The only thing that beats gold is bank deposits.

In case you dismiss these comparisons with the thought that Indians have an old weakness for gold, you would be wrong. Although it is true that a third of the global demand for gold is from India, the extraordinary penchant for gold (in preference to other forms of savings) wasn’t always there. In 2001-02, for instance, the fresh money that went into small savings avenues was more than three times the value of gold imports; now gold pips small savings. Shares and mutual funds too have been preferred options in some past years. The dramatic increase in the preference for gold is therefore new. And the former Reserve Bank governor, Y V Reddy, put his finger on the problem last week when he said at a lecture in New Delhi that the system has simply not given savers a fair deal.

He is right, of course. There is almost no savings instrument that gives a post-tax return higher than the current consumer inflation rate of over 10 per cent; in other words, anyone who keeps money in a bank fixed deposit, or in a debt mutual fund or public provident fund account, is seeing the value of the savings fall. The stock market meanwhile has browned off millions of investors who have been burnt by unusual market volatility and the fact that the market indices are where they were nearly five years ago. That explains the tiny sums being raised from the market these days through fresh share offers and rights issues and new fund offerings, the net outflows from equity mutual funds in two recent years, the drop in trading volumes on the stock exchanges, and the reduced pages given to stock quotations by the pink papers (including the one in your hand). As for real estate, prices have been driven up so high that the rental return on current house prices is barely 2 per cent, post-tax. That’s half of what it was five or six years ago. Remember that it was low interest rates that provoked the sub-prime housing bubble in the US.

The obvious solution is to bring down inflation, so that interest rates start looking attractive to savers. But the last five years have seen the highest sustained rate of inflation (averaging 9.6 per cent) since the mid-1990s, and no one knows how to bring it down. Should interest rates be raised, then? From the saver’s point view, yes; but debt-ridden businesses want the Reserve Bank to drop rates so that borrowing becomes cheaper. No wonder savers are turning to gold as the better option. The price we pay is that the 3 per cent of GDP that goes into gold reduces productive capital, and lowers the economy’s growth rate.