Does India Need a Gold Exchange?
India is the second-largest consumer of gold but has no say in its price. Why?
India’s love for gold is unparalleled.
Diwali? Buy gold. Dhanteras? Gold. Marriage? Gold. An idol in the temple? Gold. Time of crisis? Can’t trust anything or anyone? Gold!
And now, there is one more way in which you won’t just be able to buy gold, but also trade in it with ease. SEBI has proposed the formation of a gold exchange to make the ‘price discovery’ of gold very easy.
But why is that a problem?
Well, read on.
India is the second-largest consumer of gold (China being the largest) with a demand of approximately 800-900 tonnes per year.
Having such a big and important say in the demand for gold, wouldn’t you think that India can also influence its price?
Well, well. That has not been the case. Just being a supplier or consumer of gold does not give someone the power to be a price setter. Uh-uh. Then what does?
Strong infrastructure for price discovery; Such that the forces of supply and demand for gold don’t face any hurdles. Just like London has been building since the 17th Century.
It maintains a list of refineries that produce gold bars of certain standards. They also maintain lists of other parties involved in the gold supply chain: the melters and assayers (who measure the purity of gold items). This gives assurance to the buyers about the quality.
Further, the major gold companies of London came together to establish the London Gold Market for the price discovery of gold. In 1987, the body was made independent and came to be known as London Bullion Market Association (LBMA).
LBMA listened to the market chatter and kept on optimising the process for both gold suppliers and gold consumers. The marketplace became so popular that the prices prevailing there were also adopted outside London. Even by China and India, who are the largest consumers of Gold.
Now, this brings us to the important question, why India failed to be a price-setter?
Let’s begin with the importance of gold for India’s foreign exchange reserves. A large chunk of India’s foreign exchange reserve goes into importing gold. If an unrestricted quantity of Gold is purchased, then the supply of dollars will go down. If the supply of dollars goes down in India, then the dollar will also become more expensive. For this reason, the government keeps on tinkering with the import duty for gold and a whole host of policies for gold import and processing. And why just imports, there are several checks even for exporting gold products.
Such uncertainties in gold policies have given birth to a grey and informal market for Gold. About 70% of the Gold market was informal until 2017.
Now within an informal network, quality is also at risk. If you choose to rely on the vendor’s word, you won’t have legal recourse if the quality doesn’t match up to the expectation.
Thus in the Indian system, there is no standardised quality assurance and the market is fragmented into many parts.
Another major hurdle is the consumption of gold as jewelry and not as an investment tool. This reduces traffic in international markets which makes it difficult for India to become price setters.
Now to become a price-setter, India had to do a couple of things that involve making the market more efficient. Thus came in the mandatory hallmark rule for quality assurance. And now, SEBI is also launching spot trading of Gold in a Gold exchange.
But, will this be enough to command the prices?
For China, it wasn’t (here’s why). How will India be any different?
Well...only time will tell. Until then, ReadOn.
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