Gold Monetisation Scheme:
I used to have my batch mate in the SBI, retired as MD of an Associate Bank, who used to buy Rs.100 worth of gold every month during his first ten years of service. Later, he may have increased it to Rs.500 or even Rs.1000 a month. Such is the urge for having gold in domestic vaults in India. South India or people from the South in the North invariably have gold in the shape of jewelery. Every village household, how so ever small it may be, has at least 500-1000gms of gold in the shape of jewelery. There are certain traditionally rich families where every day in a week has certain set of jewelery to wear for the house wife inherited from the mother in law. Such ornaments are at least 20-30kgs. These are invariably kept in the lockers and taken out for the festivals. This is a huge idle gold reserve in jewelry.
Gold Monetisation/Deposit scheme – gets announced from a Finance Minister who does not hail from the South. In 1993 when the scheme was introduced it was Dr. Manmohan Singh. In 1999, it was Mr Yashwant Sinha and now Mr Arun Jaitley.
I have no two opinions on the need and efficacy of bringing to use the precious yellow metal for purpose of mobilizing internal resources for infrastructure investments.
There are currently three to four havens of gold reserves in the country: 1. Jewelery that several women refuse to part with as they consider it as adding not glitter to the body but keep them healthy. 2. There are persons who buy jewelery/ coins every year annually as a ritual only as investment reserve. 3. There are several traders who buy the metal in whatever shape and reshape to the needs of their customers. 4. There are temples that have huge reserves and that collect daily the offerings in the Hundis in fulfillment of their desires. Gold is a form of Desire and its sacrifice is treated as equivalent to sacrificing the Desire philosophically. Categories 2 to 4 are the ideal targets for the scheme if the scheme has all the ingredients of safety, security, value for the investor in terms of increasing yield on maturity.
The Scheme’s objectives as spelt out in the Draft document are worth the grain. But do they fulfill the qualifications for success? No.
60-65 percent of ornamental gold is in the South and most of it in rural and semi-urban areas. Gold jewelry is used as collateral security by the farmers - particularly, the small and marginal and leaseholders who are otherwise denied credit - to secure farm credit. The scheme has to have two windows: one for those who would like to avail it in as-is-where-is form and the other in convertible form either cash or gold bars.
The first scheme should wean away those who are using the safe deposit lockers and those who borrow on the security of jewelry for investment purposes. It is desirable to put in a lock-in period of one year for these types of clients and issue non-convertible gold saas-bahu bonds at a coupon rate of 4% p.a with a maturity period of ten years. Banks that issue these bonds should have enough safe storage systems and should provide for even verification of the ornaments by the clients once in a year at a service charge of 0.50 percent of the bond value. These bonds can be used by the Banks for meeting the CRR and SLR requirements. Here the purity and valuations shall be as if it is a gold loan by the banks themselves and valuation acceptance rate for bond issue purpose shall be no more than 40% of the prevailing market rate.
The second: Convertible Gold Bonds under the GMS. Here, the costs of assaying, melting and hall marking has to be met up front by the Banks and not on reimbursable basis as the draft scheme no provided for. Since only 350 such centres are programmed by the scheme and it takes 5 hours for a customer to get the process completed it would mean that only 700 customers throughout the country would be eligible to take the bonds under the option - cash or gold bar/coin at the time of maturity. This ludicrously low figure does not take the scheme anywhere near the objectives of the scheme. There should be 100-150 centers for assaying, melting and hall marking in each notified city for the scheme and in centers like Chennai, Hyderabad, Coimbatore, Visakhapatnam, Vijayavada, Bengaluru, Mysore, Mumbai, New Delhi, Gurgaon, Jaipur etc at least 500 such centers. The charges for such purpose should not eat up the interest cost announced in the scheme.
The interest should be attractive enough for the investor - the coupon rate should be 2.5% p.a. The lock-in period should be three years. RBI should prefix the hedging mechanisms to take care of the price volatilities in case of those bond holders who opt for taking the gold back in coins/bars.
It is important that the scheme has to be made successful in the interest of growth. All the Temples and Trusts who get into their Hundis the gold should offload to the Banks through the GMS once in every quarter. For all types of such institutions, the lock-in period could be two years instead of one year kept for the individuals.
Even if 3000 tons of gold is brought into GMS within six months, it will provide huge resource for long term infrastructure investments – a hopping Rs.4.5lakh crores with no NPA fears!!
Much depends on weighing the price and commodity risks of this precious metal and the way the RBI hedges these risks.
Hedging the Price Risks:
Where the bond is upfront a convertible bond like the Gold Exchange Traded Fund (ETF), there are no issues. If the coupon rate is equivalent to the Rate of interest on a Fixed Deposit for over 5-year period or near about, the scheme becomes attractive and it may be able to attract most of those who buy gold to hedge their individual investment risks.
Where the bond is a real gold bond returnable in gold at the end of maturity, pricing risks to hedge are huge. The issues raised by you would all have to be considered. The following solutions can be possible options: All the banks licensed to deal in Sovereign Gold Bond Scheme or Gold Monetisation scheme, could create a Risk Cover Fund that could be treated as eligible under BASEL III Capital Tier II. GOI in the Union Budget annually can also match this as equity provider with half of what the banks provide for. RBI in keeping with the international standards can hedge the rest of the risks.