Gold has and will continue to be, one of the most widely trusted and invested asset classes in India – PERIOD.
There is no argument whatsoever on this and nor is this article an attempt to take anything away from Gold as an Investment. However, recently the Government of India has increased the Customs Duty on gold thereby increasing its price even further. The purpose of this article is to analyze the reasons behind this hike in customs duty and understand what may happen in future as a result of this hike…
Before we begin:
What is Customs Duty?
Customs Duty is the price or fee that we pay on products that are imported into our country.
Why does a Country have Customs Duty?
To protect the interests of the local manufacturers and producers. If something that is being made in India is sold at Rs. 10/- and you get the Chinese equivalent at Rs. 8/- would you buy the item manufactured in India?
This is exactly why we have Customs Duty – to ensure that items made/manufactured locally are used in place of imported items.
To All Smart Men & Women who know that India does not produce any Gold by itself and question my above explanation of “Why we have Customs Duty”:
India imports almost 99% or more of its Gold from other countries. So, technically this logic of why we have customs duty that is explained above does not apply to Gold. Why the government hiked the customs duty on Gold is totally a different reason and we will get to it very shortly!!!
Why was the duty on Gold Hiked?
India is the world's biggest importer of gold. This precious metal is the biggest contributor to the country’s import bill after crude oil. India's current account deficit reached an all-time high of 5.4% of its GDP in the July-September quarter. Alarmed by the mounting current account deficit, driven by large scale gold imports, the government was forced to raise the import duty on gold.
This reason could potentially raise a few other questions in your mind. They are:
1. What is GDP?
GDP Stands for Gross Domestic Product – It is the total value of all Goods and Services produced in the country in any given time period.
2. What is a Current Account Deficit?
India's total imports of goods, services and transfers is greater than total export of goods, services and transfers. This results in a deficit or shortfall which the country is trying to reduce.
3. Is a Current Account Deficit BAD?
Actually NO. Most developing nations including india have current account deficits but our deficit has reached unmanageable proportions and hence the government is trying to reduce it
4. Why does the Government Need to reduce this Deficit?
A widening current account deficit means we will be forced to depend on foreign currency capital inflow (A Technical term for a loan in foreign currency from a foreign country). The higher the loans we have, the greater the payments we need to make and hence the government is trying to cut the deficit
Will the hike in Customs Duty help the Current Account Deficit?
Personally – I DON’T THINK SO…
Actually speaking, this hike in duty will only help the current account deficit if the demand for GOLD comes down as a result of this. Do you think this will happen?
The answer to this question too is the same – I DON’T THINK SO…
Almost 90% of the Gold that we import ends up as Jewelry. Gold Jewelry is purchased for almost every single auspicious festival in this country as well as for all events like birthdays, anniversaries, marriage, child birth etc.
The Indian mindset that Gold is Wealth is one of the key driving factors behind this demand and I don’t think this increase in duty is going to affect it by much.
A few years ago I still remember gold price per gram was in 3 digit rupee numbers. Now it is has crossed 2000 rupees per gram and is still going up.
• Have we stopped buying gold?
• Have we reduced the amount of gold that is purchased for Marriages or any other occasion?
The answer to both these questions is a BIG NO.
On the contrary, the speculation that gold prices will go up further has actually fueled the demand for this precious metal even further. Isn’t it?
Is there any good news for the Government?
The original idea behind hiking this customs duty is to reduce the current account deficit and curb the excessive demand for Gold. However, if the demand does not come down, the government will at least end up with at least Rs. 15,000/- crores or more as the additional revenue due to this hike in duty on gold import.
So, either ways it is good news for the Government.
Is there any bad news for the Government?
Of course yes. Industry experts feel that this hike in duty may trigger a spurt in illegal smuggling of Gold.
Indian movies have been using the Smuggling of Gold as the GO-TO business for Don’s and Bad Guys for ages. Amitabh did it in Deewar, Rajnikanth did it in his movie “Thee” and every major hero or villain in the Indian film industry has smuggled gold on screen, at some point in their career.
The point here is - why did they smuggle gold illegally?
To avoid paying the 4% customs import duty
Now that the duty is 6% now, do you foresee this illegal activity increasing or decreasing?
My Final Words:
This hike in duty may not accomplish its intended goals of reducing the current account deficit or curb the demand for gold. However it may accomplish something that our government will be looking forward to – “Additional revenues of around 15,000 crores or more”
At the end of the day, Gold as an Investment will continue to attract investors and I don’t think anything will reduce the demand for Gold any time in the near future…