"Sadly, India’s gold obsession is no laughing matter. India is the world’s largest consumer. Surging gold imports have helped widen the current-account deficit, which was an alarming 5.4% of GDP in the quarter to September (see chart). On January 2nd the finance minister appealed to the nation to buy less gold."
From the Associated Chambers of Commerce and Industry in India this report India's Gold Rush: It's Impact and Sustainability. Some of the numbers are staggering. In terms of consumer demand for gold India stands 50% above the number two country China and miles above any other country. Data is from the ASSOCHAM report converted to troy ounces (toz).
| Gold Demand in toz (1yr ending 2011:III) | |||
| Jewellery | Bar & Coin | Total | |
| India | 20,894,285 | 13,152,565 | 34,046,850 |
| China | 16,361,135 | 8,384,720 | 24,745,855 |
| Russia | 2,250,500 | - | 2,250,500 |
| USA | 3,835,495 | 3,028,530 | 6,864,025 |
| UK | 810,180 | - | 810,180 |
| WORLD | 64,885,130 | 45,305,780 | 110,190,910 |
India is the world's second largest country by population so one might expect that in absolute terms they might account for a large percentage of gold demand. However comparing India to China, Russia, USA, and UK on a per capita basis India still leads the pack with per capita demand for gold nearly 30% greater than the second place country the USA.
| Gold Demand Per Capita (1yr ended 2011:III) | |||
| Demand (toz) | Population | Demand Per Capita | |
| India | 34,046,850 | 1,210,193,422 | 0.028 |
| China | 24,745,855 | 1,354,040,000 | 0.018 |
| Russia | 2,250,500 | 143,369,806 | 0.016 |
| USA | 6,864,025 | 315,527,000 | 0.022 |
| UK | 810,180 | 63,181,775 | 0.013 |
| WORLD | 110,190,910 | 7,067,000,000 | 0.016 |
This result is more dramatic when you normalize by GDP. Assuming a gold price of USD 1700 per toz.
| Gold Demand as a Percentage of GDP | |||
| Gold Demand (USD) | Gold Demand / GDP | ||
| GDP 2012 (USD) | |||
| India | 57,879,645,000 | 1,897,608,000,000 | 3.05% |
| China | 42,067,953,500 | 7,203,784,000,000 | 0.58% |
| Russia | 3,825,850,000 | 1,857,770,000,000 | 0.21% |
| USA | 11,668,842,500 | 14,991,300,000,000 | 0.08% |
| UK | 1,377,306,000 | 2,429,184,000,000 | 0.06% |
| WORLD | 187,324,547,000 | 70,201,920,000,000 | 0.27% |
India's consumer demand for gold as a percentage of GDP is ten times the world average, and nearly forty times that of the US. However gold is a luxury item so one would actually expect demand share to increase as the country gets richer, so the India case is truly an anomaly.
How did India get to spending nearly 3% of her GDP on gold consumption?
| Growth of India's Gold Imports | |||||
| Imports (assuming $309 / toz) | |||||
| Year | Imports (USD) | Gold Price per toz |
|||
| 2001-02 | 4,170,400,000 | 309.73 | 4,170,400,000 | ||
| 2002-03 | 3,844,900,000 | 363.38 | 3,277,232,861 | ||
| 2003-04 | 6,516,900,000 | 409.72 | 4,926,485,007 | ||
| 2004-05 | 10,537,700,000 | 444.74 | 7,338,763,819 | ||
| 2005-06 | 10,830,500,000 | 603.46 | 5,558,828,696 | ||
| 2006-07 | 14,461,900,000 | 695.39 | 6,441,398,765 | ||
| 2007-08 | 16,723,600,000 | 871.96 | 5,940,410,831 | ||
| 2008-09 | 20,725,600,000 | 972.35 | 6,601,882,129 | ||
| 2009-10 | 28,640,100,000 | 1224.53 | 7,244,165,658 | ||
| 2010-11 | 33,875,800,000 | 1571.52 | 6,676,562,522 | ||
A large part of the problem is that gold prices have increased by a factor of five over the last decade (see here and here). However even adjusting the price of gold back to 2002 levels of USD 309 per toz India does seem to have increased her import demand over the last decade (imports taken from the ASSOCAM report).
What is the cause of India's ravenous demand for gold? Per the Economist story "...the traditional gold consumers are southern peasants buying jewellery. They have no access to formal finance; gold requires no paperwork, incurs no tax and is liquid. But over the past decade the mania has spread. By weight consumption has doubled, for several reasons: a surge in money earned on the black market; investors chasing the gold price; and the dismal returns savers get from deposit accounts. Real interest rates are low, reflecting high inflation and a repressed financial system that is geared to helping the state finance itself."
Is this a bad thing? Yes it probably is. A countries productivity is directly proportional to its per capita physical capital stock. India has a relatively low capital stock per capita. In many countries household savings are lent to firms either directly through equity purchase or corporate bond purchase or indirectly through bank intermediaries. Firms use these funds to increase their capital stock and thus the productivity of their workers. If Indian peasants were to stick their gold in banks and let the banks lend the gold out to firms to buy capital that would be great- but if they instead keep the gold as jewellery or under a mattress then they lose the potential productivity gain. Anther way to think of it is assume India produces products that are exported - then it would be desirable for them to use the export earnings to purchase physical capital stock from abroad. But instead they are importing gold which is then squirreled away under mattresses and does not contribute to increasing the countries capital stock and productivity.
Doesn't the same argument hold for China though? China exports goods to the US and in return buys US Treasury bonds. To some degree yes it is the same argument. By China holding US Treasuries instead of importing physical capital they are not increasing their capital stock as much as they could and hence reducing productivity and their future income. However US Treasuries do have one advantage over gold. If China holds USD 1 Billion of US Treasuries which expire in 10 years then they know that in 10 years they will be able to purchase USD 1 Billion in goods from the US. Whereas if they instead owned USD 1 Billion in gold they are at risk that the price of gold falls and they lose purchasing power. Which do you trust more the USD or gold? Yes China has an analogous problem but that doesn't mean that India doesn't have a problem.
The ASSOCHAM report (pages 23-24) suggests the following solutions to the problem of India's gold hoarding
- Increase the reach of banks - India is estimated to have a 30% savings rate of which 10% is being invested in Gold. However the World Gold Council reports that in rural India only 21% of household have access to formal financial sector - hence the gold purchases.
- Consider innovative means of alternative investments - apparently it is very difficult to open a bank account in India? However purchasing gold jewellery is easy. Perhaps the government could create alternative savings options.
- Liquidity quotient of alternative investments instruments - in rural areas of India gold is highly liquid while other assets may not be. Perhaps the government could introduce liquid instruments with a guarantee of buyback.
- Massive education campaign
"The main developers of banking in London were the goldsmiths, who transformed from simple artisans to becoming depositories of gold and silver holdings. Events such at the appropriation of £200,000 of private money by King Charles I from the royal mint, in 1640 caused merchants to lose trust in the existing institutions and drive them to find more trusted alternatives such as the goldsmiths...Goldsmiths soon found themselves with money they had no immediate use for, and they began to lend it out at interest to merchants and the government. Finding substantial profit in this business, they began to solicit deposits and pay interest on them. The goldsmiths eventually discovered that the deposit receipts they provided were passing from person to person in lieu of payment in coin. This prompted them to begin lending paper receipts rather than coins. By promoting acceptance of the receipts as a means of payment, the goldsmiths discovered they could lend more than the gold and silver coin they had on hand, a practice that became known as fractional-reserve banking.[187]"
Also see here.
One wonders if the Indian government could establish a network of gold depositories which would effectively act as banks. Peasants could deposit their gold in the depository. The depository would then lend out a portion of the gold to firms who could use the funds to purchase capital. The Indian government could promise to insure the gold deposits much like our banking deposit insurance.
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