January 03, 2013

adverse effects of subsidising gold purchases

For too long, and for no genuine purpose other than pampering the rich and affluent, the government of India has been subsidising the purchase of gold (which in volume terms would involve the rich and affluent accounting for a big chunk of it) by keeping the import duty (customs tariff) on gold at zero or near-zero levels which leads to a lower price of the domestic price of gold.

Here is something I wrote early last month in an editorial contribution in the newspaper I presently work for:

Golden problems
Rising imports of gold continue to raise hackles of policy makers and banking regulators

The gold import curb debate, which started a few months back, is only set to intensify in the next many weeks or as long as macro-economic concerns on the rising levels of current account deficit and the rupee appreciation. Last week on Saturday, three former Reserve Bank of India governors and the present one were all present together on one panel discussing banking and economic matters. 

Of these four distinguished experts two of them, former RBI governors, thought it fit to dissuade the government from curbing imports on gold; one former one did not comment and the current governor explained RBI's current desire to see gold imports level controlled. C Rangarjan, former RBI governor, and current chairman of prime minister's economic advisory council, was the most vocal against having any gold import curbs strongly stating that it was ineffective to fight against what he believed was a deep-rooted propensity of Indians to buy or have gold. 

He even believed and referred to un-named revenue department sources telling him of a rise in smuggling-related gold seizures being higher than normal in the last three months due to a slight raising in excise duty on gold. While it may not be wise to argue with him on this matter given what YV Reddy, another former RBI governor, saying (in the same panel discussion) about there being none knowing about gold in the history of India's gold management more than Rangarajan, the other side of the story is equally relevant and important. 

This side was well articulated by the current RBI governor, D Subbarao, who said RBI was concerned about gold and lending against gold by non-bank finance companies because of financial stability concerns and also due to the pressure it puts on the current current account or capital account. 

Gold imports have certainly gone up sharply in the last one year and contributed signficantly to the gap between sharply-rising imports, led by petroleum products and gold, and stagnating exports. It is fair to find the true cause by debating whether this is led by, as most believe, by population's deep-rooted propensity for having gold or not. 

But it is also fair to pose the question whether a rapidly rising current account deficit will deeply hurt our national economy and our rupee currency or not. Both the sides of the debate are valid points. Strangely, though, no one seems to be questioning the never-ending concessions in import rates being granted to gold imports. 

The import tariff on gold and other precious metals, in different forms and shapes and whether domestically consumed or re-exported is 10 per cent. But for a large part of the past couple of decades this rate has been exempted in full, that is, there is zero customs duty. The gold rush is also partly due to it being exempt from basic levies which are otherwise collected from all other imported products. 

Thus former RBI governor Reddy's poser that if Mercedes Benz and aftershave lotion can be imported, why not gold, is flawed. The Mercedes car and aftershave lotion is imported after payment of the levied customs duties. Gold is imported without any duties or extremely low rates of it, and this is done in the name of "public interest" if one reads the exemption-related phrase in the customs department's notifications. 

Forget the impact on current account deficit this has had in the form of sustained rise in gold imports the loss it has caused the country's ex-chequer has been stunning. In 2011-12, for instance, customs duty foregone on gold and diamond was around Rs 57,000 crore and this was about 15 per cent higher than the previous year's level of foregone customs duty. 

This is a prominent and almost-permanent member in the government's list of items which sees the highest levels of tax incentives and which results in the highest quantume of revenues foregone. Import of gold, therefore, should not be curbed but at the very least the concessions on customs duties should be immediately removed.

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