Why Indians love it when government makes gold expensive.

KOLKATA: Government of India makes gold more expensive by hiking duties four times in 20 months, hoping this will deter citizens of India from holding more gold. But not only does gold remain attractive for Indians, expectations of a high price regime have increased its attractiveness.

This is not a perverse outcome. It's more a case of wrong official logic.

Economics 101 says high prices dampen demand for a product or a service. But Investing 101 says expectations that an asset class will get pricier can increase demand for that asset. Gold is an asset class.

Plus, sharp rupee depreciation has also made gold holdings more attractive.

Investors who expect gold price to rise say they will invest the same amount of money even if they buy a few grams less - the only risk, ironically for the government, is that import duty may come down at some stage.

The World Gold Council's data for April-June this year shows higher appetite for gold in India, despite government measures to curb demand. Consumer demand was 310 tonne, up 71% on last year. Bar and coin investment rose 116%, while jewellery demand rose by 51%.

K Bhaskar Reddy, a Chennaibased software engineer, chose to buy a 5 gram gold coin. He was initially planning to purchase a 10 gm coin but the higher cost of gold made him settle for less. Riddhima Banerjee, a housewife in Kolkata, took a leaf out of Reddy's book and bought an 8 gm gold earring instead of 10 gm. But they, and thousands of other Indians, still bought gold - and are happy that gold price is increasing thanks to GoI.

Jewellers also say government action has not changed the mindset of Indian buyers. Biren Vaidya, managing director, Rose Group of Companies that sells high-end branded jewellery, said in a country deeply rooted to the culture of savings through jewellery, gold will always find favour. High price is not a deterrent, he said.

"At Rose, we have also seen our patrons creating investment through jewellery not just purely in value terms but also as heirlooms which they can pass on to their generations," Vaidya noted. In the past six months, gold has already delivered returns of 15%-20%, largely due to the weak rupee.

Those who bought gold at Rs 26,000 per 10 gm got a chance to offload it at Rs 31,000 - Rs 32,000 in the last week of August when rupee slipped to nearly 69 against dollar.

Leading Mumbai-based gold scrap dealer Anish Jitendar Jain of Jugraj Kantilal & Co said the last week of August saw scrap gold of 10 kg arriving every day.

"Indians still believe that gold is a safe investment product. So, duty hikes can't check gold consumption.

People will keep on buying, more so when high prices mean better returns" said Amit Sampat, director of Mumbaibased Pushpak Bullion.

In urban India, people invest 10% -15% of their investible surplus in gold. This, gold traders and financial firms say, hasn't changed despite a price increase.

In fact, say gold watchers, GoI may have created expectations of higher returns than would have been the case.

In rural India, where banking penetration is low, affluent farmers typically park 50% of their surplus funds in gold. "Gold is extremely precious to them and they see it an easy route to get liquid cash. In case of any crisis they mortgage the gold with the local moneylender to get easy cash," said Sampat.

For the rich farmer, too, gold experts say, high domestic gold prices are a positive development for his portfolio.

And there's another outcome that officials don't want but may happen because of their policies: illegal gold trade.

Vinod C. Hayagriv, managing director of the Bangalore-based jewellery firm C. Krishnaiah Chetty, feels that the hike in import duty followed by the RBI 20-80 principle, which links imports with export obligations, may incentivise trade in illegal gold. "May be a portion of gold that is being coined as recycled may be smuggled gold," he said.

Source : economictimes.indiatimes.com