The Rs 55,80,000 crore question

Nov 20 2012, 10:18 IST
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Government should consider financial schemes to replace gold holdings.  (Reuters) Government should consider financial schemes to replace gold holdings. (Reuters)
SummaryGovernment should consider financial schemes to replace gold holdings.

or 10 years in jail. The rest is history. The US fed became the largest holder of gold in the world. But Indian leaders may not be able to do a Roosevelt. Disturbed by the skewed rise in the prominence of gold, regulators have been trying to shift the allocation of domestic savings from gold to financial products. Measures like the Gold Control Act, the gold deposit scheme, gold exchange traded funds, the trading of gold derivatives on exchanges, tax sops for insurance and mutual funds and the gold import duty have not slowed down India’s huge appetite for the yellow metal. On the contrary, it’s increasing.

There could be a way out. A scheme with suitable features can slow down gold imports and ensure that domestic savings are available for investments. The government should consider setting up a Gold Corporation of India (GCI) to market the national gold plus scheme (NGPS), a scheme that should offer returns equivalent to those accrued from actually holding gold. It should provide redemption in physical gold, if required by investors, through tie-ups with banks and jewellers. The scheme would use financial derivatives to give Indians gold returns but save hard-earned dollars for investment within the country. The catch is that the NGPS should match physical gold in terms of pre-tax returns and outperform it in terms of post-tax returns, liquidity, safety, convenience, principal protection and quality assurance. It should be sold through direct as well as alternate channels — through banks, post offices, government offices, jewellers, financial distributors and brokers with appropriate incentives. Special incentives on income tax, wealth tax and gift tax should be given to make the NGPS lucrative.

The operational nitty-gritty is not difficult. The GCI will have to pay gold-linked returns to investors and buy “at the money” (a situation where an option’s strike price is identical to the price of the underlying security) American call options on gold in global markets. Buying gold options in the offshore market gives the benefit of historically low interest rates. The GCI can invest residual money in gilts or PSU bonds to provide much-needed alternative funding sources for the government.

The positive impact will be that lower government borrowing will release banking sector liquidity for private sector investments, which will support growth. The benefits of lower gold imports will be reflected in a stronger rupee, lower interest rates, higher liquidity, lower trade and

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