MACROECONOMICS

GOLD

A DEAD ASSET

WHAT IS GOLD ?Gold is a chemical element with the symbol Au and atomic number 79. It is a

dense, soft, malleable, and ductile metal with an attractive, bright yellow color and luster that is maintained without tarnishing in air or water.

APPLICATIONS OF GOLD

o MONETARY EXCHANGE o INVESTMENTo JEWELRY o MEDICINEo FOOD AND DRINK

INDUSTRY o ELECTRONICS o COMMERCIAL CHEMISTRY

WORLDS TOP 10 GOLD producers

CHINA

AUSTRALIA

UNITED STATES

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WORLDS TOP 10 GOLD consumers

INDIACHINA

UNITED STATES

TURKEY

RUSSIA

THAILAND

VIETNAMU.A.E

INDONESIAEGYPT

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The consumption of gold produced in the world is about 50% in jewelry, 40% in investments, and 10% in industry.

India is the world's largest single consumer of gold, as Indians buy about 25% of the world's gold, purchasing approximately 800

tonnes of gold every year, mostly for jewelry.

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JewelryInvestmentIndustry

Why people

are so

Gold hungry ???

It is extremely dense. Meaning it is easier to carry & handle than a sack of rice or a barrel of oil. In fact, anybody could put their entire family's wealth in a small bag and carry away (in times of crisis, disaster or migration).

It is quite inert and doesn't corrode. Meaning it doesn't lose value. Thus, generations could hand over their gold to their next ones.

It is very easy to test purity anywhere in the world at almost zero cost.

Gold is recognized all over the world. This means flexibility and trust. No other material is this recognized across the world.

Unlike silver or platinum, gold has very little industrial use (only about 100t annually is used in industries such as semiconductors). Thus, you are not taking away a valuable industrial commodity for trading.

Then why Gold is a Dead asset ???

Gold isn’t like a stock or a bond. It offers no income, no dividend, no earnings. It is considered a store of

value, an alternative currency that’s safe beyond reproach, but it is not cash in the bank, or even the mattress. Gold has no untapped intrinsic value; it is worth only what people are willing to pay for it. And

lately, many people have been only too willing.

“Gold is going up because people are buying it, and people are buying it because it’s going up.

People do not sell Gold because it is a long term investment Agreed?

But even equity is long term investment, but it gives you returns even before you sell it.

There are even bonus shares issued by the company at some point.

Same thing can be argued for Property. But again property has a potential to give you at least some sort of Rental income.

Gold does not give such returns. You will have to sell Gold to get anything in return and this is where we Indians loose out.

The other major reason is that a lot of this Gold is in the form of Gold Jewelry that has sentiments attached to it.

How Gold

affects the

Indian Economy ?

Today our economy is stuttering and faltering and while a lot of us may blame it

on corruption, speculation, foreign economies, external factors, Government reforms etc.; a fact that this very habit of ours to keep Gold in the lockers and

block it for years together has also contributed to this.

The first major problem the Indian economy faces with this high gold consumption rates is the increasing current account deficit (CAD). India has to pay for its gold imports using its foreign exchange reserves.

Foreign exchange reserves hold a key especially among the developing countries, which have to import and use the industrial metals. Higher consumption of industrial commodities supports industrial production. The goods produced by consuming such

commodities can be exported and the revenues can be used to fund the current account deficit.

Even during its higher prices, the demand for gold did not go down. The oil imports are a huge burden on India's balance of payments. But oil consumption is something which India cannot reduce keeping its industrial usage in perspective. High gold imports and weak rupee have been the biggest stress points when it comes to narrowing the current account deficit.

How big an impact does gold have on the CAD?

• Data with the RBI shows gold was responsible for 20 per cent of the trade deficit between fiscal years 2007 and 2009. Subsequently, in the next two years. with inflation raging, that number rose to 30 per cent of the trade deficit.

• Remove the impact of the exchange rate and international price trends, India's annual consumption of oil and gold in volume terms does not seem to be out of sync with the economy's performance. Gold demand between 2000/01 and 2011/12 increased 2.3 times to 1,079 tonnes and crude imports increased 2.3 times as well to 171.7 million tonnes. Over the same period, the economy's size grew 4.13 times to Rs 89.74 trillion.

• Other than its impact on the CAD, household investment in gold has come at the expense of financial savings. This has hurt companies trying to raise money to expand business. From placing about 55 per cent of their total savings into financial instruments in 1990s, households were willing to direct just 36 per cent of their savings there in 2011/12.

Misallocated capital is the second problem faced by the Indian economy due to its gold rush. Keeping the consumption aside, physical gold (mostly jewellery) is also considered as an investment among Indians.

However, it is an investment that does not add much value to the productive capacity of the economy. Investments in the physical form of gold are either stored in bank lockers or get exchanged for making jewellery. It seldom gets traded for money.

Imagine the same amount being invested in the capital markets. It allows the companies to raise capital in the form of debt or equity and expand their business. It can make a huge difference to the productive capacity of the economy. It not only just adds to the physical goods produced, it also has a potential to improve employment in a vastly populated country like India.

It is generally accepted that interest rates are closely related to the price of gold. As interest rates rise the general tendency is for the

gold price, which earns no interest, to fall, and as rates dip, for gold price to rise. As a result, gold price can be closely correlated to central banks via the monetary policy decisions made by them

related to interest rates.

Interest rates and Gold

For example if market signals indicate the possibility of prolonged inflation, central banks may decide to enact

policies such as a hike in interest rates that could affect the price of gold in order to quell the inflation.

An opposite reaction to this general principle can be seen after the European Central bank raised its interest rate on April 7, 2011 for the first time since 2008.The price of gold

responded with a muted response and then drove higher to hit new highs one day later. A similar situation happened in India: In August 2011 when the interest rate were at their

highest in two years, the gold prices peaked as well.

“Indians think they are buying gold in rupees. Actually they are buying gold in dollars.”Gold is a traditional investment strategy Indians follow. The effect of high prices has been minimal on the volume of gold imported. The lower prices may increase the demand in the coming days. It is the

economies of the US and Europe that play a major role in determining the price movements of gold. By importing gold for our consumption, we Indians are investing in the international markets

and helping their economies.

By buying up billions of dollars worth of foreign gold, we are sending Indian cash overseas, disrupting the balance money

entering and leaving the country, and thus driving down the value of the rupee. That in turn makes key imports *more costly*, and

makes it harder for business to pay international loans.

Added expense and Reduced Purity Later

• The other fact that Gold is actually not an asset per-se is that even if you were to keep the Gold bars and Gold coins to use it later at a family wedding to make ornaments as Gold prices will be higher in the future, your 10 gram of Gold today may not be translated into a 10 gram of ornament in the future

• This is because there is loss of Gold due to cutting, melting, fixing designs on it etc. Its purity too will take a beating in the process. Also you will have to pay making charges. Agreed, still it will be cheaper for you if you go to buy Gold at that time in future, but still it is not an Investment as such

Gold is generating money for your needs even without selling it, it is actually creating a Liability for you in the form of Loan.

In this case Gold is an asset, but for the company giving Gold Loan as it is generating income for them and an outflow for you.

This is the very reason there is a spurt in Gold Loan providers from banks to private operators, all are more than happy to provide Gold Loans. They know Indians have gold that will never be sold, and the best way to earn is to provide loans and earn interest.

The other fact is the chances of default are less as we will do anything to get back our family necklace or that ring your grand-ma gave you, from the lender and repay the loan.

Income Generation myth that actually Creates Liability

Why the government doesn't want you to

buy gold??

"If for one year there are no gold imports, it will change the current account deficit story of the country," said Finance Minister P. Chidambaram.

"I once again appeal to everyone to resist the temptation to buy gold,” Chidambaram said. “This will show positive impact on every aspect of the Indian economy.”

Effect of gold import on Indian economy

when the current fiscal year's first foreign trade numbers were announced on May 13. April's trade deficit - the excess of merchandise imports over exports - was $17.7 billion, higher by 26.4 per cent over the year-ago period, mainly on account of an increase in gold imports .

The data knocked 430.65 points off the Bombay Stock Exchange Sensitive Index (BSE Sensex) - the biggest intraday fall in a year.

rising gold imports have coincided with a rise in its prices and a weakening of the rupee against the dollar. The combined impact has served to widen the current account deficit (CAD).

Given that the worsening CAD is the result of inherent weaknesses in the economy, finance ministry officials tend to be unmoved by a few weeks of falling oil or gold prices. It is the quantum of the deficit to be financed that the ministry cares about, says an official. India had to finance a CAD of $78 billion in 2011/12, an exponential jump from $9.5 billion in 2006/07. India's CAD in the near future is likely to be in the $80 billion range, the official adds, making it imperative for the government to constantly woo foreign investors.

Overall Conclusion About Gold

Rising import billGold is India's second most expensive import after crude oil. While oil accounts for 35 per cent of the import bill, gold imports contribute 11 per cent to India's trade bill. Crude is crucial for the Indian economy, but gold is a drain on resources. Simply put, the government has to spend precious foreign exchange for a commodity that is of little industrial value. Terming gold imports as "wasteful expenditure", Rajiv Takru, financial services secretary, said that India could not afford the current levels of forex spending on gold imports.

Widening trade deficit India is the world's biggest buyer of bullion. Gold imports by India surged to 162 tonnes in May -- more than twice the monthly average in the record year of 2011. Rising imports lead to current account deficit (exports minus imports), which is usually accompanied by depletion in foreign-exchange assets. The Reserve Bank has described high CAD as the biggest risk to Indian economy.

Economic instability: Rising deficit is bad for India as it exposes the economy to the risk of sudden stop and reversal of capital flows. Foreign institutional investors have bought a net $15.38 billion (Rs. 90,000 crore) worth of shares this year as of Wednesday's close, but have been selling index futures over the last four days. In case of an event shock, for example if the U.S. Fed withdraws its bond buying programme, there might be sudden outward flow of money, leaving India scrambling for dollars. The slowdown in the Indian economy has made the current situation even more volatile because the government is unable to generate heavy capital inflows.

Rupee under pressure: The rupee is perilously close to its all-time low of 57.32. Having a currency at an all-time low is not a great advertisement for the government's management of the economy ahead of elections. If gold imports start to fall, the government will have enough dollars to shore up the rupee.

Obstacle to development: Indians have for centuries relied on gold for savings. As banks have made few inroads into rural areas and consumer inflation is high, it remains the investment of choice for many. The government worries that large amounts of savings locked up in gold curtail liquidity and therefore investment in infrastructure and other drivers of the economy.