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Commentary

Raising Gold Duty Will Only Increase Gold Demand

The government has raised the Gold import duty to 6% from 4%, and pleads with people to please "moderate" their purchases of gold. This is a questionable move because:

Raising Gold Duty does what, exactly?
Raise the price of gold?
Isn’t that why people buy gold?

Let me back up.

Why does a country have import duty? To discourage imports and promote the use of local goods instead. This is done for cars, alcohol and a host of other things including tyres. So when imports become really cheap, local players are disadvantaged and the government raises duties to compensate.

However gold is not a consumption good. For the most part. It is used to make jewellery, but even that is considered an asset. Gold is a financial asset, and we produce nearly no gold locally. The duty will not encourage local consumption – it is designed to make people feel "Oh, gold is so costly, let me not buy any today". The makers of this duty are thinking of Gold in that statement as substituted for "imported basmati rice".

But gold is not bought for that reason. Gold is bought with the thought that "Oh, it’s costly today, it will be even more pricey tomorrow, so I can sell it at a profit". That’s why you put money in a fixed deposit. Or buy shares. It’s the allure of appreciation.

Gold tends to appreciate, so it’s attractive. It also loses nothing when you store it – unlike a car, which will need repair. Or electronics, which get obsolete. Gold remains gold, and it’s the exact same gold as you will get a year later.

So when you impose an import duty, you will only increase the price of gold in India. That means my 1 kg of gold is now suddenly worth 2% more due to an increase  in duty – or, at current prices, Rs. 60,000 more. (In reality, due to additional duties, it will be more than 80,000 rupees more expensive per kg.) If the price has gone up, people will think it’s a good thing.

All that the import duty will do is to make people feel that gold is an even better investment.

And it’ll encourage smuggling. Like this master card type of ad:

Day Trip to Dubai: Rs. 25,000

Price of 1 Kg Bar in Dubai : Rs. 30,00,000 (3 million)

Price the Jeweller will pay in India: Rs. 31,00,000 (At least. Post 6% duty Indian price=31.8L)

Profit: Rs. 75,000. A good day’s job.

Look on customs officers face while he frantically searches your bags as you keep the small 1 kg bar in your pocket: Priceless.

(Yes it is that small) [Source]

Raising Gold Duty Will Only Increase Gold Demand

How would I reduce the demand for gold?

  • Deflate. India keeps gold as a hedge against inflation, which has not been low for a long time. Deflate prices by restricting money supply. We may go through a recession but Gold prices will stagnate or fall.
  • Increase supply: While the government intends to bring ETF Owned Gold into the supply, that is hardly anything. All gold owned by temples/churches/mosques should be brought back into the market, giving them money instead (or a note saying they’ll get their gold back later if they want it).
  • Build artificial gold: Gold can be synthesised in nuclear reactors and particle accelerators; if we are serious about destabilizing gold, we should invest in such research.

Basically, make Gold a dud investment.

You can do the same thing with real estate to get even more economic value.

What do you think?

  • I think the assumption here is Gold has already gone into a speculative bubble. Which leads to a positive feedback effect with price rise. What is wrong with this argument: With Price increase new purchase will go down and current owners will bring it to market.
    Having said that whatever can be done to reduce the price of a useless asset like Gold should be done. The less is said about real-estate the better I guess 🙂

  • Kaushik says:

    Deepak your article is too smart. Everybody is reading it and closing the browser window with a smirk in the face. Ppl and govt are in a race to outsmart each other and obviously when there is a will,there is a way!

  • mpl says:

    So essentially you are saying that the laws of economics do not apply to gold. Raise prices, demand goes higher ! Thats hard to believe and almost as bad as real estate agents saying ‘buy now or get left out forever’. Everyone knows how that turned out in the US and now playing out in Canada/Australia.
    IMHO, we are close to if not at the top of a gold bubble. Leveraged gold ETFs in West have also helped fuel this. All bubbles end. This time is not different. It never is.

  • IsItPossible says:

    Good article but will price of GOLD fall back so easily???
    We need to understand why price of so called “useless” asset has gone up!!!
    – Global uncertainty
    – Lack of investor confidence in Governments
    – Rising inflation across the board
    Will the prices ever fall?
    Ofcourse, its basic law of economics, what goes up MUST come down in same manner (including speed). In short GOLD will fall BUT timing matters. As of now, we have enough uncertainty in Euro-zone to keep demand for GOLD high (in bubble zone). Unless that issue is sorted (which will happen in next 1-4 years) expect GOLD prices to maintain its course. Once that major uncertainty is vanished (in short the crisis in Euro-zone ends either by crashing or by some other way), GOLD prices shall drop.
    just a thought…

  • Gaurav Raizada says:

    Nicely written. The problem with the government is It has no idea of what to do. So it does do whatever seems like doable.

  • Murty says:

    1. Go to Dubai with a return ticket of Rs.25000
    2. Buy 1 KG Gold @ Rs.30L.
    3. Pay duty on that @6% , that it Rs.1.8L.
    4. Your Cash Out Flow is Rs.32.05L
    5. Sell it to the Jeweller at Rs.31L .
    The net is -1.05L.
    How come it is 75000?
    Will the Jeweller pay the duty? if so, why should he purchase it from you? He can go on the same trip!

    • The idea is to avoid step 3. The jeweller probably can’t afford a day off 🙂
      Note that I don’t encourage or promote smuggling. Am just saying it’s quite easy to get that stuff in.

      • Murty says:

        When Deepak talks about high risk high return investment ideas, we all get a very good insight.
        But what is the risk above? You mean to say they will not check your personal baggage? What if they chek?

        • DJ says:

          Make a deal beforehand to split the 75K with customs. 🙂
          I don’t know if that happens, but theoretically possible.

        • Sachin says:

          Ofcourse possible !!!
          reason behind gold run is also same — No one trust government (and its official as well).

        • Murty says:

          YA,
          TODAY,A PERSON WAS CAUGHT AT HYDERABAD AIRPORT WITH 2 CR. WORTH OF GOLD. CONFISCATED.
          YA, HE IS COMING FROM DUBAI!

  • Paul says:

    200 gms of gold can be brought to India with out any duty per person! 🙂
    Make sure you take some infants also with you – Darn, this may fuel population also! 🙂

  • DJ says:

    Some people say that gold does well during times of -ve real rates. Don’t know if that is necessarily true, but if so, a rate hike would help, since we do have -ve real rates. But, ofcourse, PC doesn’t want that.

  • Krish says:

    Frankly we have accumulated decent amount gold jewellary in Middle East over a decade long of employment. It is for personal consumption and not viewed as investment as we have no intention to sell.
    We bring the Jewellary to India during trips and take back. Never carried any bars/biscuits/coins. Unfortunately this user group (non speculative, non-smuggling) category of people are also subjected to harassment at Indian airports. In online forums in Gulf, this has been the regular query (how much gold one can carry legally?) by many who wants to travel back to India. I guess there is a need to issue a clarification from Indian customs authorities.

  • manu says:

    A different view point on import of gold with same outcome by professor vaidyanathan. http://prof-vaidyanathan.com/2013/01/08/mr-c-dont-mess-with-gold-its-her-social-security/. Also the same points are applied on gold for black money too as it is the safest and easiest way to invest black money. My view is that whatever you will do you can’t reduce the demand. Hence we need to accept the demand and try to find ways to use the existing gold in our country to help our economy. One such suggestion is made by professor vaidyanathan here. http://prof-vaidyanathan.com/2012/01/18/india-should-leverage-the-gold-with-the-households/