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INTRODUCTION

Gold is a chemical element with the symbol Au and an atomic number of 79. It has been a highly sought-after precious metal for coinage, jewellery, and other arts since the beginning of recorded history. The metal occurs as nuggets or grains in rocks, in veins and in alluvial deposits. Gold is dense, soft, shiny and the most malleable and ductile pure metal known. Pure gold has a bright yellow colour and lustre traditionally considered attractive, which it maintains without oxidizing in air or water. Gold is one of the coinage metals and has served as a symbol of wealth and a store of value throughout history. Gold standards have provided a basis for monetary policies. It also has been linked to a variety of symbolisms and ideologies. A total of 161,000 tonnes of gold have been mined in human history, as of 2009. This is roughly equivalent to 5.175 billion troy ounces or, in terms of volume, about 8,333 cubic meters. Chemically, gold is a transition metal and can form trivalent and univalent cations in solutions. Compared with other metals, pure gold is chemically least reactive, but it is attacked by aqua regia (a mixture of acids), forming chloroauric acid, but not by the individual acids, and by alkaline solutions of cyanide. Gold dissolves in mercury, forming amalgam alloys, but does not react with it. Gold is insoluble in nitric acid, which dissolves silver and base metals. This property is exploited in the gold refining technique known as "inquartation and parting". Nitric acid has long been used to confirm the presence of gold in items, and this is the origin of the colloquial term "acid test", referring to a gold standard test for genuine value. Of all the precious metals, gold is the most popular as an investment. Investors generally buy gold as a hedge or safe haven against any economic, political, social or currency-based crises. These crises include investment market declines, burgeoning national debt, currency failure, inflation, war and social unrest. Speculators also buy gold early in a bull market and aim to sell it before a bear market begins, in an attempt to gain financially.
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Gold has been used throughout history as a form of payment and has been a relative standard for currency equivalents specific to economic regions or countries. Many European countries implemented gold standards in the later part of the 19th century until these were dismantled in the financial crises involving World War I. After World War II, the Bretton Woods system pegged the United States dollar to gold at a rate of US$35 per troy ounce. The system existed until the 1971 Nixon Shock, when the US unilaterally suspended the direct convertibility of the United States dollar to gold. Since 1919 the most common benchmark for the price of gold has been the London gold fixing, a twice-daily telephone meeting of representatives from five bulliontrading firms of the London bullion market. Furthermore, gold is traded continuously throughout the world based on the intra-day spot price, derived from over-the-counter gold-trading markets around the world. Today, like all investments and commodities, the price of gold is ultimately driven by supply and demand. Unlike most other commodities, the hoarding and disposal plays a much bigger role in affecting the price, because most of the gold ever mined still exists and is potentially able to come on to the market for the right price. At the end of 2006, it was estimated that all the gold ever mined totalled 158,000 tonnes This can be represented by a cube with an edge length of just 20.2 meters. At the end of 2004 central banks and official organizations held 19 percent of all above-ground gold as official gold reserves. Given the huge quantity of gold stored above-ground compared to the annual production, the price of gold is mainly affected by changes in sentiment, rather than changes in annual production. According to the World Gold Council, annual mine production of gold over the last few years has been close to 2,500 tonnes.[15] About 2,000 tonnes goes into jewellery or industrial/dental production, and around 500 tonnes goes to retail investors and exchange traded gold funds. This translates to an annual demand for gold to be 1,000 tonnes in excess over mine production which has come from central bank sales and other disposal. Central banks and the International Monetary Fund play an important role in the gold price. The Washington Agreement on Gold (WAG), which dates from September 1999, limits gold sales by its members (Europe, United States, Japan, Australia, Bank for International Settlements and the International Monetary Fund) to less than 400
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tonnes a year. European central banks, such as the Bank of England and Swiss National Bank, have been key sellers of gold over this period. Although central banks do not generally announce gold purchases in advance, some, such as Russia, have expressed interest in growing their gold reserves again as of late 2005. In early 2006, China, which only holds 1.3% of its reserves in gold, announced that it was looking for ways to improve the returns on its official reserves. Some bulls hope that this signals that China might reposition more of its holdings into gold in line with other Central Banks. India has recently purchased over 200 tons of gold which has led to a surge in prices. Bank failures When dollars were fully convertible into gold, both were regarded as money. However, most people preferred to carry around paper banknotes rather than the somewhat heavier and less divisible gold coins. If people feared their bank would fail, a bank run might have been the result. This is what happened in the USA during the Great Depression of the 1930s, leading President Roosevelt to impose a national emergency and to outlaw the ownership of gold by US citizens.

Low or negative real interest rates If the return on bonds, equities and real estate is not adequately compensating for risk and inflation then the demand for gold and other alternative investments such as commodities increases. An example of this is the period of Stagflation that occurred during the 1970s and which led to an economic bubble forming in precious metals. War, invasion, looting, crisis In times of national crisis, people fear that their assets may be seized and that the currency may become worthless. They see gold as a solid asset which will always buy food or transportation. Thus in times of great uncertainty, particularly when war is feared, the demand for gold rises.

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2. ECONOMIC OVERVIEW
The Indian economy has continuously recorded high growth rates and has become an attractive destination for investments, according to Ms Pratibha Patil, the Indian President. "India's growth offers many opportunities for mutually beneficial cooperation," added Ms Patil. "Today India is among the most attractive destinations globally, for investments and business and FDI had increased over the last few years," said Ms Patil. The Indian economy is expected to grow at around 7.5 per cent, according to Dr Manmohan Singh, the Indian Prime Minister. The PM acknowledged Asia's emerging economies were "growing well" and were, "in fact, contributing to the recovery of the world economy". The overall growth of gross domestic product (GDP) at factor cost at constant prices, as per Revised Estimates, was 8.5 per cent in 2010-11 representing an increase from the revised growth of 8 per cent during 2009-10, according to the monthly economic report released for the month of September 2011 by the Ministry of Finance. Overall growth in the Index of Industrial Production (IIP) was 4.1 per cent during August 2011. The eight core Infrastructure industries grew by 3.5 per cent in August 2011 and during April-August 2011-12, these sectors increased by 5.3 per cent. In addition, exports and imports in terms of US dollar increased by 44.3 per cent 41.8 per cent respectively, during August 2011. Over the next two years India could attract foreign direct investment (FDI) worth US$ 80 billion, according to a research report by Morgan Stanley. India has received US$ 48 billion FDI in the last two years. Considering the pace of FDI growth in India, KPMG officials believe that FDI in 2011-12 might cross US$ 35 billion mark.

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04 billion raised during 2010.54 billion in various NRI deposit schemes during April-June 2011. The total FDI stood at US$ 16. as compared to US$ 4. 5 .6 billion to register US$ 318 billion during the week ended August 19.3 billion. NRIs invested US$ 1. It is the highest monthly inflow during the last 11 years.65 billion.83 billion during January-June 2011. according to a release by the Ministry of Commerce and Industry.950 crore (US$ 13. during January-June 2011.  India's foreign exchange (Forex) reserves have increased by US$ 1. Exports in the referred period increased on back of demand for engineering and petroleum products. according to a report on world investment prospects titled. according to data released by the Reserve Bank of India (RBI). Commerce Secretary.3 billion.14 billion in value terms. nearly 57 per cent higher than the US$ 10. 2011. up 54 per cent over the same period a year ago.  India's FDI gathered momentum with the inflows growing by 310 % in June 2011 to touch US$ 5. while the number of deals increased by 33 per cent to 195. according to Mr Rahul Khullar.  India's merchandise exports have registered an increase of nearly 82 per cent during July 2011 from a year ago to touch US$ 29.  The Government has approved fund raising worth Rs 60.  Private equity (PE) investments in India stood at US$ 6. according to data compiled by Chennai-based Venture Intelligence.74 billion received during the same period last year. The rise in the value of the deals so far (June 2011) recorded a growth of 52 per cent. Exports during April-July 2011 reached US$ 108.The Economic scenario  India has been ranked at the second place in global foreign direct investments (FDI) in 2010 and is expected to remain among the top five attractive destinations for international investors during 2010-12. The increase in Forex is largely attributed due to valuation changes.24 billion) by companies through external commercial borrowings (ECB) or foreign currency convertible bonds (FCCB) for infrastructure projects in the financial years 2009-2011.  Non-resident Indian (NRI) inflows in the first quarter of 2011-12 has witnessed a rise of 38 per cent as compared to the same period in 2010-11. gems and jewellery and readymade garments. 'World Investment Prospects Survey 2009-2012' by the United Nations Conference on Trade and Development (UNCTAD).

3. To study the role of gold in the Indian economy. It gives an overview on the investment scenario concerning gold in its various forms. 3.2. To study the relationship between that exists between gold prices and the various economic indicators.1. This report also throws a light on the gold standard. The study the evolution of gold as an investment option. 6 . it rise in the international economy and its eventual fall. This study will also help in establishing the relation ship between gold prices and the various economic indicators that are relevant in the current economic scenario. Title of the study ―The impact of gold on the Indian economy and its evolution as an investment option‖ – A Study 3.3. Need for Study This study aims at looking into the rise of gold throughout the history and it evolution to its current status in the Indian economy. RESEARCH DESIGN 3. Objectives     To study the emergence of the gold standards and its decline.

this paper focuses on the impact of the gold standard on sovereign borrowing.5. in a way similar to present-day currency boards. The research tries to discover and get an insight into the important and defining characteristics of gold and its relationships with the various economic parameters. Sheraton Boston & Hynes Convention Centre. news papers. the gold standard privileged external commitments (the maintenance of par values) over nations? Internal conditions.3. I argue that the classical gold standard regime served as both a constraint and an opportunity for governments. Massachusetts. Boston. White papers. At the same time. Governments? monetary policy autonomy was surrendered in service to the gold standard regime.5. Further the so collected data will be processed with the help statistical tools. 3. "Golden Straightjacket or Golden Opportunity? Sovereign Borrowing in the 19th and Early 20th Centuries" Paper presented at the annual meeting of the American Political Science Association. however.1. This is data collected from literature review. such as monetary restraint and the facilitation of trade flows. as well as the free flow of capital and goods.4. 2002 Abstract What incentives did the classical gold standard provide for its maintenance? How did the benefits of the gold standard help it to be come a central piece of macroeconomic policy in the pre-World War I era? While the gold standard provided a variety of benefits to governments and societies. commitment to the gold standard allowed governments to access international capital 7 . This research will be conducted mostly with the help of secondary data. or to Economic and Monetary Union. Layna. Mosley. Literature Review 3. magazines company websites are the key source of information. Aug 28. Because it required automatic adjustment in response to balance of payments imbalances. Boston Marriott Copley Place. Research Methodology This is partly a descriptive and partly a causal research study.

At present. Ltd. Gold production in India was not significant when compared to world standards. are the two primary gold producing units in India.2. INDE Abstract Gold. India was renowned for its gold from time immemorial.5 tonnes of gold during 1995 as against the world's total of 2. gold convertibility appeared to signal sound government finances. This was mainly due to the fact that no new gold deposits of significant size were discovered in the country as the gold exploration and mining programmes were not aggressive due to the meagre budgetary allocations to these sectors as they were controlled by the Government. K..272 tonnes. 3. India offers a good potential for 8 . demand for the precious metal in domestic market has abnormally increased from 150 tonnes in 1986 to 506 tonnes in 1995 which was mainly met by imports. as well as future debt servicing capacity. as evidenced by numerous ancient workings. The Hutti Gold Mines Co. Hutti.5 tonnes per annum during the last 10 years. Ltd. and Hutti Gold Mines Co. Government of India liberalised the mineral policy.6 and 2. Gold exploration and mining scenario in India Raju k. Extensive and intensive ancient gold mining activity.markets at lower rates of interest. The repeal of the Gold Control Order and economic liberalisation have thrown open new vistas for growth of gold mining in the country. There is ample market potential available in the country for indigenously produced gold as India is highly deficient in gold production. Modern gold mining dates from the year 1870. and produced together about 2. While production has fallen to very low levels in recent years. Considering the big gap in ever increasing demand for gold and the insignificant indigenous supply from the mines.. and the vast geological potential. the oldest metal known to man. which was not thoroughly explored and mined. From the past history of gold mining and striking similarities in geological environment with the leading gold producing countries of the world. Bharat Gold Mines Ltd. Indian mine production has been insignificant and remained static between 1. throughout the country testify the flourishing nature of the gold mining industry in India. still dominates the world scene.5.

3. more than compensates for the increased risk. consumption and convenience values. A portfolio of gold stocks on the Toronto Stock Exchange and a mutual fund of South African gold-mining stocks mirror the returns on gold. Gold and Gold Stocks as Investments for Institutional Portfolios Jeffrey F. Abstract While gold is quite risky as an individual asset. its returns are generally independent of those on other assets. cause an equal change in the rate of inflation for each asset price. MA 02138. USA Abstract Traditional theory implies that the relative price of consumer goods and of such real assets as land and gold should not be permanently affected by the rate of inflation. and other 9 . 3. The increase in returns. The experience of the past decade has been very different from the predictions of this theory: the prices of land. gold. however. Adding a combination of these gold proxies to the hypothetical diversified portfolios raises their mean returns but also increases their standard deviations.4. Cambridge. This suggests that gold can play an important role in a diversified portfolio. The Archaean greenstone belts and the other favourable geological horizons have to be thoroughly explored systematically by the latest state-of-art technology.3. Jaffe 1989 CFA Institute. Feldstein Harvard University and the National Bureau of Economic Research.gold.5. in equilibrium. Tax Rules. A change in the general rate of inflation should. Gold stocks might be expected to be better investment vehicles than gold itself. because they do not share gold's high liquidity. Tests of four hypothetical portfolios of varying risk show that the addition of gold in each case increases average return while reducing standard deviation.5. And The Prices Of Land And Gold M. Inflation.

Even risk-neutral investors require this rate of return as inducement to hold gold in the face of the asymmetric risk of a price collapse.such stores of value have increased by substantially more than the general price level. 4 (Aug. Henderson The Journal of Political Economy.. 3. The behavior of real asset prices discussed in this paper is thus a further example of the non-neutral response of capital markets to inflation in an economy with income taxes. 627-648 Abstract This paper is an analysis of the effects of anticipations of government sales policies on the real price of gold. it also causes the price to rise in percentage terms faster than the real rate of interest and at an increasing rate. Salant and Dale W. 10 . in an economy with an income tax. an increase in the expected rate of inflation causes an immediate increase in the relative price of such ‗store of value‘ real assets. Market Anticipations of Government Policies and the Price of Gold Stephen W. Government attempts to peg the price or to defend a price ceiling with sales from its stockpile must result eventually in a sudden attack by speculators. pp. Although the risk of a future government gold auction depresses the price. No. The present paper presents a simple theoretical model that explains the positive relation between the rate of inflation and the relative price of such real assets.5. 1978).5. Announcements making a government auction more probable cause a sudden drop in the price. 86. More specifically. Vol.

The gold standard can also be viewed as a monetary system in which changes in the supply and demand of gold determine the value of goods and services in relation to their supply and demand. Banking began when gold deposited in a bank could be transferred from one bank account to another by a giro system. and easy divisibility made it useful both as a store of value and as a unit of account for stored value of other kinds — in Babylon a bushel of wheat was the unit of account. to differentiate them from other forms of paper money. gold has long been used as a means of payment. though it is believed by historians that gold's high value for its utility. Why gold? Because of its rarity and durability. and avoid the reduction in circulating medium to hoarding and losses. the function of paper currency is to reduce the danger of transporting gold. uniformity.1. The early development of paper money was spurred originally by the unreliability of transportation and the dangers of long voyages. resistance to corrosion. reduce the possibility of debasement of coins. When several nations are using such a fixed unit of account. or lent at interest. density. with a weight in gold used as the token to transport value. Early monetary systems based on grain used gold to represent the stored value.4. and the notes issued are often called certificates. DATA ANALYSIS 4. the rates of exchange among national currencies effectively become fixed. as well as by the desire of governments to control or regulate the flow of commerce within their dominion. GOLD STANDARD The gold standard is a monetary system in which the standard economic unit of account is a fixed weight of gold. The exact nature of the evolution of money varies significantly across time and place. Money backed by specie is sometimes called representative money. 11 . When used as part of a hard-money system.

The paying of mercenaries and armies in gold solidified its importance: gold became synonymous with paying for military operations. which weighed 4. Gold would supplant silver as the basic unit of international trade at various times. this gold became the basis for the gold coinage of his empire. and most prominently during the 19th century. as mentioned by Niccolò Machiavelli in The Prince two thousand years later. and it was not until 1500 years later that the first coinage of pure gold was introduced. Gold was the metal which was used as an ultimate store of value and as means of payment when portability was at a premium. particularly for payment of armies. when conquered by Alexander the Great.Through most of human history. a means of maintaining general liquidity. Early coinage The first metal used as a currency was silver. The Roman mints were fantastically active — the Romans minted. and remains an important hedge against the actions of central banks and governments. and circulated. and as a store of value. This represented a tremendous drop in real value from the old 12 . Gold would remain the metal of monetary reserve accounting until the collapse of the Bretton-Woods agreement in 1972. They were forced to mix more and more base metal with the gold until. of which 4. Silver remained the most common monetary metal used in ordinary transactions through the 19th century. silver was the primary circulating medium and major monetary metal.2 was gold. The Roman Empire minted two important gold coins: aureus.4 grams. including the Islamic golden age. and the smaller solidus. long before this time gold had been the basis of trade contracts in Akkadia. The Persian Empire collected taxes in gold and. which was approximately 7 grams of gold alloyed with silver. before 2000 BC. and later in Egypt. the Byzantine empire continued to mint successor coins to the solidus called the nomisma or bezant. however. However. by the turn of the millennium. the coinage in circulation was only 25% gold by weight. when silver ingots were used in trade. millions of coins during the course of the Republic and the Empire. the peak of the Italian trading states during the Renaissance. After the collapse of the Western Roman Empire and the exhaustion of the gold mines in Europe.

grosh. an idea advocated by David Hume. respectively. which was originally set at 27. and was valued at 16 times the equivalent weight of silver. were also introduced at this time by other European states to facilitate growing trade. The wide availability of milled and cob gold coins made it possible for the West Indies to make gold the only legal tender in 1704. Thus. produced from African gold: the dinar. and Philadelphia's currency market would trade in Spanish colonial coins. the "dollar" based on the Spanish silver real. which was to become the standard of European coinage for the next 600 years. and guinea. because of Venice's preeminent role in trade with the Islamic world and its ability to secure fresh stocks of gold. the Republic of Venice coined their first solid gold coin.4680 grams of 22 carat gold. The circulation of Spanish coins would create the unit of account for the United States. The dinar and dirham were gold and silver coins. noble. He removed depictions from coins. In 1284. and that uncertainty over the future purchasing power of money depresses business confidence and leads to reduced trade and capital investment. zloty. The primary Spanish gold unit of account was the escudo. The growth of Islamic power and trade made the dinar the dominant coin from the Western coast of Africa to northern India until the late 1200s. using current measures. originally minted by the Persians. would remain the standard against which other coins were measured. The ducat. and it continued to be one of the predominant coins for hundreds of years afterwards. but it is with Caliph Abd al-Malik (685–705) who reformed the currency that the history of the dinar is usually thought to begin. Other coins. and fixed ratios of silver to gold. the florin. the ducat.95% pure Roman coins. established standard references to Allah on the coins. Theory The essential features of the gold standard in theory rest on the idea that inflation is caused by an increase in the quantity of money. Beginning with the conquest of the Aztec Empire and Inca Empire. or "doubloon". trade was increasingly conducted via the coinage in use in the Arabic world. Spain had access to stocks of new gold for coinage in addition to silver. The Caliphates in the Islamic world adopted these coins. and the basic coin the 8 escudos piece. The central thesis of the 13 .

Differing definitions of "gold standard" If the monetary authority holds sufficient gold to convert all circulating money. when exchange rates rise above or fall below the fixed mint rate by more than the cost of shipping gold from one country to another. International gold standards often limit which entities have the right to redeem currency for gold. Under the Bretton Woods system. the benefits of enforcing monetary and fiscal discipline on the government are central to the benefits obtained. large inflows or outflows occur until the rates return to the official level. which may exist in the absence of any internal gold standard. will increase personal liberty and economic vitality. In an internal gold-standard system. by reducing their ability to intervene in markets. or a full gold standard. and that a gold standard. Others. and possible limitations in future trading partners will dramatically benefit an economy. since on any "partial" gold standard the value of circulating representative paper in a free economy will always reflect the faith that the market has in that note being redeemable for gold. then this is known as a 100% reserve gold standard. gold coins circulate as legal tender or paper money is freely convertible into gold at a fixed price. such as some modern advocates of supply-side economics contest that so long as gold is the accepted unit of account then it is a true gold standard. by expanding both the market for its own goods. these were called "SDRs" for Special Drawing Rights. In an international gold-standard system. and the markets from which its consumers may purchase goods. Some believe there is no other form of gold standard. friction between kinds of currency. the solidity of its credit. advocates of the gold standard often believe that governments are almost entirely destructive of economic activity. gold or a currency that is convertible into gold at a fixed price is used as a means of making international payments. In much of gold standard theory. 14 .gold standard is that removing uncertainty. Under such a system.

030 tonnes. Even Australia had more than the UK. As other countries decided to join the gold standard. political and financial power. and paper money was convertible into gold at a fixed price. have been major holders of gold for more than 100 years and are expected to retain large stocks in future. commanded such universal confidence that it actually needed very little gold.293 tonnes. but everybody had sufficient confidence in convertibility that there was no danger of this option actually being exercised.100 tonnes in 1913. The world's total of official gold reserves is estimated to have been about 8. France 1. Some other countries had by then accumulated much larger stocks: the United States had 2. Austria 378 tonnes and Italy 356 tonnes.4.233 tonnes. its reserves were 161 tonnes and by 1913 this had risen to a still moderate figure of 248 tonnes. 15 . But the central banks have affirmed that gold will remain an important reserve asset for the foreseeable future and it retains an important role in reserve management.2. Under that system. The development of banking and credit meant that the amount of money in circulation was greater than the gold stock itself. at 310 tonnes. Russia 1. for countries on the gold standard. They currently account for about 20% of above-ground stocks. Germany 439 tonnes. Argentina 440 tonnes. The Bank of England. Central banks started building up their stocks of gold from the 1880s. the then dominant economic. GOLD AS A RESERVE ASSET Central banks. they also started to accumulate gold so as to be able to maintain convertibility at a fixed price. compared with only 700 tonnes in 1870. In 1870. and official international institutions. as the central bank at the centre of the system. That at least was the case during the height of the gold standard for the UK. The process of rebalancing reserve portfolios to adjust to changing conditions has led to a reduction in the amount of gold held by some central banks recently and this process may continue for some years to come. during the period of the classical gold standard. the amount of money in circulation was linked to the country's gold stock.

it abandoned the system. through the fixed official dollar price of gold. gold was still the primary "reserve asset".000 tonnes in 1925 to 18.The rise in official gold stocks The period of economic nationalism between the two world wars saw a rapid concentration of gold in official hands . Mobilising gold As the ultimate form of payment. most gold had always been held privately. when used either as cash or as collateral. and after several years of moderate but persistent inflation. But gradually. was faced with the choice of deflating. In August 1971. At their peak in the 1960s. as the pivot of the system. which had been the foundation of the first genuinely international monetary system during the period before World War 1. US official holdings rose from 6. This new higher price caused holders of gold around the world to sell their holdings to the United States. raising the price from $20. acceptable to counterparties. directly or indirectly. official gold stocks reached about 38. and the United States. 16 . So gold provided the "anchor" to which all currencies of member countries were linked. the fixed official gold price again became unrealistic. Gold can indeed play a crucial and strategic role in central bank reserve mobilisation in case of need. as central banks created more money than was consistent with stable prices. it was still the foundation of the international monetary system.000 tonnes and probably accounted for about 50% . circulating as currency among citizens and across borders in commercial trade transactions.000 tonnes at the end of World War II. Although there was no direct link between gold holdings and national money supplies (as there had been under the classic gold standard).of all above ground stocks.or perhaps slightly more . Gold. came to be used as a weapon in economic competition and national rivalries.67 an ounce to $35 an ounce. gold has sometimes proved the only asset. and dollar convertibility. the United States under President Roosevelt devalued the dollar in terms of gold. Central banks kept gold because. devaluing or abandoning the system.up to that point. Central banks could convert dollar balances into gold at the official price. when it had about 60%of all the official stocks of gold. with President Nixon "closing the gold window". In 1933-34.

As then Treasury Assistant Secretary Manuel Johnson went on to say in Congressional testimony in 1983 ." The US government simultaneously took ownership of an equivalent quantity of Iranian gold that had been frozen at the New York Fed. shipped a further 46 tonnes to London as collateral for a loan from the Bank of Japan.S.  Hit by a short-run foreign exchange crisis in 1991.and in the light of this recent experience .Some examples of where gold has been used in political or economic emergencies are as follows:  For example. regards the US gold stock as part of our national patrimony and of value as a precautionary asset. The gold collected was either placed directly in reserves. In the aftermath of the 1997 Asian currency crisis several countries in the region announced plans to mobilise residents' gold holdings . An IMF official at the time noted: "There were discussions over the weekend about a pool of central banks coming to the rescue and the first question that was asked by those sponsor banks was whether they were prepared to give their gold as collateral. dollars in return for releasing the American hostages it held. in the 1981 Iranian hostage crisis. So the U.  In 1974 Italy secured a $2 billion loan from the Bundesbank with gold as part of a package (including the then largest ever IMF loan) to shore up its balance of payments after the 1973 oil price rise. Iran refused to accept U. of course. thereby adding to credibility. or sold for dollars which could be used to repay external debt or in intervention to support their ailing currencies. First the government swapped 20 tonnes on the Swiss market and."  Finally. 17 . South Korea and Thailand among them. later. transferred 50 tonnes of gold instead. Only South Korea raised significant amounts (approximately 270 tonnes) but the avowed intent of all three was to rely on local citizens' patriotism to surrender gold in return for government bonds or local currency.S. India had to rely on its bullion holdings to survive. so there was no net cost to US reserves. gold in the private sector can provide a vital support for public sector purposes."The Treasury.Malaysia.

some central banks also hold stocks of gold that are not considered or reported as formal reserves while some official or quasi-official institutions have gold holdings that are not reported. Gold has good diversification properties in a currency portfolio.000 tonnes . The World Gold Council compiles a number of statistical tables based on official data in the public domain and drawn from a variety of sources. Diversification In any asset portfolio. However. The price of gold therefore behaves in a completely different way from the prices of currencies or the exchange rates between currencies. 18 . A strategy of reserve diversification will normally provide a less volatile return than one based on a single asset. These stem from the fact that its value is determined by supply and demand in the world gold markets. there are good reasons for countries continuing to hold gold as part of their reserves. In addition holdings may not always be reported in a way that facilitates analysis. Today their stocks amount to some 30. including gold. in the public domain and report them regularly to the IMF. including reports made under the Standard Data Dissemination Standards.similar to their holdings 60 years ago. whereas currencies and government securities depend on government promises and the variations in central banks‘ monetary policies.but so too do the exchange and interest rates of currencies held in reserves. It is sometimes suggested that maintaining such holdings is inefficient in comparison to foreign exchange. Obviously the price of gold can fluctuate . it rarely makes sense to have all your eggs in one basket. However. Why central banks hold gold Monetary authorities have long held gold in their reserves. Official holdings are therefore generally more transparent and easier to track than those of other large holders such as most major private investors. These are recognised by central banks themselves although different central banks would emphasise different factors.Tracking central bank gold holdings Most central banks place data on their reserve assets.

at the worst. a generalised crisis leading to repudiation of foreign debts by major sovereign borrowers. Economic developments both at home and in the rest of the world can upset countries‘ plans. while global shocks can affect the whole international monetary system. Owning gold is thus an option against an unknown future. paper currencies always lose value in the long run and often in the short term as well. Unexpected needs If there is one thing of which we can be certain. In contrast. a regression to a world of currency or trading blocs or the international isolation of a country. Such events might include war. Where appropriately located. Gold is liquid and is universally acceptable as a means of payment. Reserves are for using when you need to. 19 . an unexpected surge in inflation. Physical Security Countries have in the past imposed exchange controls or. highly damaging event. if it occurs. Gold has maintained its value in terms of real purchasing power in the long run and is thus particularly suited to form part of central banks' reserves. total asset freezes. It can also serve as collateral for borrowing. gold is much less vulnerable.Economic Security Gold is a unique asset in that it is no one else's liability. Reserves held in the form of foreign securities are vulnerable to such measures. Gold provides this. In emergencies countries may need liquid resources. It provides a form of insurance against some improbable but. Nor is there any risk of the liability being repudiated. it is that today‘s status quo will not last for ever. Total and incontrovertible liquidity is therefore essential. Its status cannot therefore be undermined by inflation in a reserve currency country.

an indestructible asset and one not prone to the inflationary worries overhanging paper money. or the international isolation of a country. And rating agencies will take comfort from the presence of gold in a country's reserves. The other advantages of gold may well offset any such costs. an unexpected surge of inflation. has recognised that the Fund's own holdings of gold give a "fundamental strength" to its balance sheet. It is the price deliberately paid to provide protection against a highly improbable but highly damaging event. There may be an "opportunity cost" of holding gold but. 20 . this is less than is often thought. Some countries give explicit recognition to its support for the domestic currency. Income Gold is sometimes described as a non income-earning asset. Insurance The opportunity cost of holding gold may be viewed as comparable to an insurance premium. Such an event might be war. representing the world's governments. in a world of low interest rates. There is a gold lending market and gold can also be traded to generate profits.Confidence The public takes confidence from knowing that its Government holds gold . a regression to a world of currency and trading blocs. The same applies to gold held on the balance sheet of a central bank. The IMF's Executive Board. This is untrue. a generalised debt crisis involving the repudiation of foreign debts by major sovereign borrowers.

4% as at September2006). It also revalued its gold reserves from Rs. as it moved from using an outdated gold price4 to valuing its reserves at close to he international market price. India shipped a total of 47 tonnes of the country‘s gold reserves (the RBI is allowed to hold up to15% of its total old reserves outside the country) to the Bank of England as collateral against a $400 million loan and leased a further 20 tonnes of confiscated gold (not included in the reserve figures)to Union Bank of Switzerland with a six month buyback option to raise a $200million loan. which though small in comparison to total reserves (4.. THE RESERVE BANK OF INDIA The Reserve Bank is required to hold a fixed amount of gold under the Reserve Bank of India Act.28 billion to Rs.75 tons of gold forming about 6 per cent of the current value of its total foreign exchange reserves. viz.1150 million of its assets in gold (this did not imply the need to acquire additional gold. Rs. The RBI bought back all 67 tonnes of gold later that year. under the Reserve Bank of India Amendment Act 1956. Between May and July. as the value of existing gold reserves were revised up at the time). is still he fifteenth highest of central banks in tonnage terms in the world.6 billion. The funds were used to help India meet its short-term debt obligations and import bill. RBI and Its Gold Policy Measures The Reserve Bank of India (RBI) holds 357. gold bullion and foreign securities. 21 . weaning away people from gold. India mobilised its gold reserves during the 1991 balance of payments crisis.72 billion.7 tonnes of gold. The evolution of the gold related policy since independence was centred around some major objectives.1150 million equates o just $24. reducing the domestic demand and prices and curbing smuggling.7 million at today‘s exchange rate and is tiny in comparison to India‘s total foreign exchange reserves of 151.4. regulating the supply of gold. The RBI currently olds 357. with not less than Rs.3. to the minimum reserve system. that required the bank to hold at least Rs. The original RBI Act (1934) obliged the Reserve Bank to hold 40% of its assets in gold coin. 400 million in value held in gold. The move vastly improved India‘s reported import coverage ratio. The system was later amended.

In the wake of the Chinese war. ROLE OF GOLD IN INDIAN ECONOMY India is the world‘s largest gold market in volume terms. The measures met with lot of resistance and criticism. the most widespread faith being Hinduism. making it compulsory for gold smiths to be licensed and submit accounts of all gold received and utilized by them etc. it was thought as an impossible proposition. The Government decided to sell confiscated gold in small quantities through the RBI. one that has expanded considerably during its period of liberalisation. This part of the report provides a broad overview of the gold market within the context of India‘s new super charged economy. mine production and the scrap market. it was felt in some circles that it would be feasible to make a frontal attack on demand for gold in India. This coupled with complexities resulted in the failure of the Gold Control order. Official imports to discourage smuggling was first mooted in 1977 but viewed against the forex reserves available then. However. the Gold Control Order 1962 was issued. new ways to invest in gold. It looks at all the major aspects of demand and supply.4. 4. Gold is seen as a symbol of wealth and prosperity in the Hindu religion. is said 22 . who symbolises fertility. banning the making and selling of jewellery above 14 carats. Bullion imports and exports were also banned but restrictions on import of gold into the country resulted in the flourishing of smuggling and unofficial transactions in foreign exchange. The origins of gold demand Indian gold demand is firmly embedded in cultural and religious traditions. productiveness and prosperity. The country has one of the most deeply religious societies in the world. including how the jewellery sector is being affected by the current social and economic changes. it did not have any major impact on smuggling. The goddess Lakshmi. which is practiced by around 80% of the population. the role of the Reserve Bank of India and on the supply-side.. Accordingly.

whereas she may not be privy to the family‘s other financial affairs. and April and May. falling in April or May. especially in the State of Tamil Nadu.. With an estimated 10 million marriages a year taking place in India. Since it is suggested that those who worship her gain wealth. Indeed. Akshaya Thrithiya has become a major gold-buying occasion in the South of India. Gold has the added virtue of being an inflation hedge. Since 2005. as Hindu tradition dictates that the family‘s assets are only passed down to sons. dressed in gold-embroidered red clothes. Not all gold demand is allied with cultural and religious beliefs. Over the past five years. the idea has been promoted across the North and West of the country.to have been bathed by elephants who carried pure water in golden vessels. where sales have reached record levels. The most important of these is Diwali. which has also resulted in a significant rise in gold sales in these regions. This is because the Rupee is not yet fully convertible – Indians are only allowed to hold financial assets in Rupees – whereas they have been allowed to hold gold since 1990 when the Gold Control Act was repealed. Gold also plays an important role in the marriage ceremony. wedding-related demand is big business. Akshaya Thrithiya. with gold coins flowing from her hands. Most of this will be a gift from her parents as a way of giving her some inheritance. which marks the beginning of the Hindu New Year and usually takes place in October or November. which they like to buy or gift during religious festivals. has also become an important day to buy gold. Purchases on this day are considered auspicious (it is the third most auspicious day in the Hindu calendar). The gold (and other gifts) the bride receives or her ―Streedhan‖ (―Stree‖ meaning woman and ―dhan‖ meaning wealth) mean her parents can make sure she is financially secure and enjoys at least the same standard of living to which she was accustomed in her childhood. it is customary for the parents of a baby girl to start accumulating gold for this purpose soon after the child is born. though a good many purchases will be made well in advance of the wedding. Gold is especially important in this respect as it remains directly under her control. Much of this demand takes place in the wedding season. 23 . She is depicted as a beautiful woman of golden complexion. Hindus consider gold an auspicious metal. Gold is also viewed as a secure and easily accessible savings vehicle by the rural community. where brides are often adorned from head to toe in gold jewellery. where around 70% of the population lives. which falls between October and January. The association between gold and ―auspiciousness‖ has been used in recent years to promote the idea of buying gold.

thanks to the progressive liberalisation of its economy and the consequent inflow of foreign direct investment. when sales accelerated strongly. KPMG and the Federation of Indian Chambers of Commerce and Industry estimate that the amount of shopping centre space will have risen to90 million square feet by the end of 2007. as well as the origins of demand. when sales were broadly stable in value terms. something which is changing theface of retailing and will affect traditional gold retailers. This is particularly true of consumer spending. which has allowed the economy to start reaping the benefits of globalisation on a truly massive scale. Sales in tonnage were more volatile over the period.284 billion per annum and fluctuated in a relatively narrow range of Rs. The economy shows no signs of slowing either.a for the past decade. held back by relatively weak income growth. Spending was especially strong in 1998 thanks to the release of pent up demand following the removal of import controls in November 1997. with the mergence of new large-scale retailing. A noticeable feature of India‘s development has been the strength of its domestic economy relative to most emerging markets in Asia. The higher variability of volume as oppose to value spending is a function of both the retail price setting mechanism in Indian. Gold sales were broadly stable in the three years that followed. Gold Demand Trends and Outlook The past decade can be split into two distinct periods as far as the value of gold sales is concerned: 1996-2001. The country‘s $200 billion retail industry is changing. India is now the fifth largest economy in the world (on a PPP basis) having posted average annual growth rate of 6%p. which has accounted for the lion‘s share of growth over the past decade.more than four times the 22 million square feet estimated in 2005. 24 . Shopping centres are starting to spring up across urban India.Recent Economic Trends The Indian economy has enjoyed rapid growth over the past decade. averaging 709 tonnes and fluctuating between 506-810 tonnes. and 20022005. During the first period. spending averaged Rs.224-316 billion a year.

25 .The price of jewellery changes in line with changes in the international market price in India. although the volume of gold they can afford each year will rise and fall with the price. especially into the outsourcing and IT sectors. This shows the relationship between the average annual 22-day rolling annualised volatility rate of the rupee denominated gold price and the change in the value of gold sales: the two show a clear inverse relationship over the sample period from 1993 to 2005. with each item weighed then priced according to the prevailing daily market rate. Indians are enjoying a rapid acceleration in income growth.19. as gold price volatility spiked upwards. Still. Consumers are wary about purchasing when the price is volatile for fear that they buy and then find the price falls. which is supporting discretionary spending on consumer goods. when gold demand rose steadily from Rs. The retail mark up is also normally relatively small in relation to the value of the piece. the value of gold sales is often quite price inelastic. when the value of spending fell by 7%. The same message would seem to come from H1 2006‘s experience.15. More workers are moving from low income to middle and high income quartiles. The main theme of the past few years has been a solid upswing in gold sales. A prime example would be the parents of a baby girl saving for a future Streedhan. as was the case in Q1 2006.026 to Rs.599. especially where gold is being used as a long-term savings vehicle. a rising price can often stimulate investment demand for gold. when retail investment spending surged by 32% year-on-year despite an 11% rise in the gold price in rupee terms. with spending increasing from Rs. including gold. 276billion in 2002 to Rs. What does seem to adversely impact on demand is a pick up in the pace of daily price fluctuations or volatility.473 billion (or 571 tonnes to 750 tonnes)despite a coincident rise in the gold price from Rs. 473 billion in 2005.This has been underpinned by social and economic changes in the Indian economy– trends that look set to persist – alongside new and better marketing campaigns from 2004 and a growing perception that higher gold prices are here to stay. as India continues to attract large volumes of foreign direct investment. Last year.276 billion to Rs. That Indian demand is not necessarily adversely impacted by rising prices is clear from the experience of the past few years (2002-2005). who will usually purchase acertain monetary value of gold each month. Indeed.

as there is a much bigger pool of money available. while tastes are becoming more international. with households increasingly demanding all the conveniences of the modern world. expects the number of people earning between $1330K. Global Insight. especially with the relevant marketing initiatives targeted at India‘s new affluent young middle class. 26 . A recent WGC study. an economic forecasting agency. which means there are increasingly two bread winners in the family and there is more disposable income available for discretionary purchases than in the past. Recent experience supports this premise. 16 million between$30-80K and just short of a 1 million earning over $80K. These socio-economic changes have led to enormous growth in the potential market for gold jewellery. 30 million and 3 million respectively by 2015. However. More women are seeking their independence by entering the workforce. $30-80K and $80K+to increase by 52%. 87% and 200% in real terms to 167 million. including India. has meant that gold has become a more relevant and desirable product to a greater number of women. combined with a significant increase in their personal wealth. with the rise in gold sales outstripping the rise in general retail spending indices.Social trends are also changing. conducted across six key gold markets. such as mobile phones and home computers. it seems likely that the net impact of these socio. gold must compete with a growing desire for other luxury goods too. Of course.estimated 110million households were earning between $10-30K. Equally importantly. young middle class Indians are more willing to spend than their parents‘ generation was. This has increased the number of women falling into gold‘s core target group in India from 25 million in 2002 to 32 million in 2005 and contributing to the rise in gold purchases over the past few years.economic changes will be positive for gold sales. found that the increasing independence of woman in developing countries and shifts in attitudes and behaviours.

With incremental income of non-wage earners. etc are alternative avenues for investing savings. Since October 003 the government has allowed futures trading and there are now three futures exchanges. In 2005. like real estate and public sector. Ways to buy gold Traditionally most investment has taken the form of physical gold. and to buy and sell that interest through the trading of a security on regulated stock exchange. technological change in agriculture (through mechanization and high yielding varieties). have generated large marketable surplus and a highly skewed rural income distribution is another factors contributing to additional demand for gold. These instruments give investors a relatively cost efficient and secure way to access the gold market. Mutual funds. Indians bought 102 tonnes of gold coins and bars. They are listed securities that are backed by allocated gold held in a vault on behalf of investors and are intended to offer investors a means of participating in the gold bullion market without the necessity of taking physical delivery of gold. The increase in the irrigation. the weighted return on these alternative assets can be considered as another influencing factors.UTI Asset Management Company Ltd and Benchmark Asset Management Ltd are currently seeking regulatory approval to sell a gold ETF.Factors Influencing Demand for Gold   Following are the factors influencing the demand for gold.  Black money originating in the services sector. small savings. the demand for gold as a store of value can be expected to rise. has contributed to gold as store of value. leading to more skewed income distribution. expected before he end of 2006. The next major development is likely to be the arrival of Exchange Traded Funds(ETFs). But there are new ways toinvest in gold. 27 . Inflation redistributes incomes in favour of non-wage income earners. the two largest being he Multi Commodity Exchange of India Ltd(MCX) and the National Commodity and Derivatives Exchange Ltd NCDEX). Hence income generated in these service sectors can be treated as a determining variable  Since bank deposits.

Delhi prices command some prominence in some parts of the country. 28 . Delhi was gaining prominence when Mumbai was loosing its shine. became the largest landed destination in the country for the yellow metal after the Gold Control Act was scrapped in 1991-92. Delhi Delhi is another major gold market in the country. had hit a trough in the 2001 fiscal with volumes crashing by over 50 per cent to less than 140 tonnes. Mumbai was losing its shine due to high sales tax of 2% prior to April 2002. a slump from Rs 12.5% has it helped the gold trade to move back to Mumbai and it would not be a surprise to see Mumbai to re-emerge as one of the largest gold trading centres in India and maybe the world.000 crore worth of transaction in the previous year. after the VAT implication in Rajasthan and Gujarat there should not be major difference in the tax structure. which at 280 tonnes accounted for a high 40 per cent of the entire country's 700-tonne market in 2000-01. Still Ahmedabad is considered one of the important bullion markets in the country.The Gujarat bullion market. Mumbai and Ahmedabad together account for about 45% Indian gold trade. but the rationalization of the local taxes in Maharashtra in April 2002 which brought sales tax level to 0. Delhi Gold market constitutes about 15% of total Indian gold trade. The physical delivery in bullion for the both NCDEX and MCX also generally takes place in Ahmedabad. Ahmedabad The bullion market of Ahmedabad. However. In rupee terms. price quoting in Mumbai market is taken as reference price in most other parts of the country. the Ahmedabad bullion juggernaut has slowed down perceptibly to Rs6000 crore worth of business in the last fiscal.Major Markets in India Mumbai Mumbai is the major wholesale trading centre in India.

the decline in scrap supply in 2005. Scrap supply is sensitive to general economic conditions. in tandem with new successful marketing campaigns. Economic Implications of Gold Imports Gold by it self does not add much to production or productive capacity. India‘s demand will continue to be satisfied almost entirely from imports. notwithstanding temporary fluctuations associated with spikes in price volatility.5 billion. very little supply comes from domestic sources.32 in 2003. would have cost $ 2. In the Indian context. India‘s imports at the prices prevailing in the world market at that time. Indians have recycled an average of 105 tonnes of gold per annum. the magnitude of FOREX expended on gold imports has been large and growing in 1970. Over the past five years. Price expectations also matter. is attributed to expectations of still higher prices6. thanks to the influx of foreign capital. rapid income growth. with the main source of domestic supply coming from recycled jewellery. However the foreign exchange used for importing it in effect reduces the availability of this resource for other imports (including raw materials. The harp increase inscrap5 in 2002 and 2003 (Figure 10) was driven by a combination of distress selling in rural areas because of the poor2002 monsoon and subsequent hit to agricultural incomes. 29 . intermediates and capital equipment) needed for current production and to expand productive capacity. in the face of high prices and generally good economic conditions. should.Above ground stocks Supply from above ground stocks is much more important in India.In summary.68 in 2002 and $363. For instance.2 billion. as well as a higher high gold price the gold price averaged$309. Mean while. (Equivalent to about one fifth of exports and one sixth of imports). the price of gold and price expectations. Its dynamic population growth and strong cultural and religious affinity to gold will continue to underpin structural demand.compared with $271-$279 in the previous three ears). as aside from the scrap market. India looks poised to remain the world‘s foremost gold consumer in tonnage terms for many years to come. continue to boost discretionary spending on gold. equivalent to about one eighth of merchandise exports and 8 percent of merchandise imports and the corresponding figures for 1997 was $ 7.

earning of migrant workers remitted through hawala channels and smuggling of silver and contra brand drugs. It represents command over both at home and at abroad which can in principle be invoked whenever necessary. Their continued rapid growth can have significant consequences in the terms of scale and functioning of the hawala market. Possibly their relative importance has changed in effect the hawala market continues to operate but with indirect legal sanction given by the gold import policy. a large part of it is held in the form of bars. must have been derived from one or the other of the extra legal sources cited earlier. not all gold is held in the form of ornaments. are no different from FOREX holdings. gold‘s holding whether in the form of bars or ornaments. the value of legal gold imports cleared through the customs are included as part of merchandise imports in the balance of payments data (but not in the trade statistics) an equivalent amount being recorded as transfer receipts under invisible. But this function does not in any way dilute its advantage as liquid. The nature and sources of the latter are not indicated for lack of information. the fact that there is a very well developed world market for metal and that its prices have until recently increased much faster than the general price level makes it a attractive asset. Its physical depreciation is negligible and it can be readily converted in to cash by sale in the world market by acquiring other resources both at domestic and international market. The magnitudes involved are large in relation to the size of the country‘s foreign trade and payments: The gold stock of the country at the end of 2000 was close to 14. After 1992. over invoicing of imports. gold imports being illegal were financed by the proceeds of under invoicing of the exports. Clearly they. Though it does not earn any interest and though it is no longer used as the standard for fixing currency values. That the bulk of it is in the hands of private individuals who may or may not be willing to convert it into other 30 .000 tons valued at current price at $ 165 billion. These transactions did not figure at all in the country‘s trade or payment statistics. The other characteristics of gold are that it is a highly liquid store of value. the availability of FOREX for other purposes and the health of the balance of payment.Prior to 1992. Altogether from country‘s point of view. risk free asset. In any case. as well as the resources needed for the still substantial smuggled gold. So far Gold is treated as ornament. it can be treated as durable consumer good.

then they must be properly counted as part of the economy‘s savings. The more so because investment in gold. Whereas thirty years ago. is no different from accumulation of FOREX reserves or investment in foreign financial assets. 4. although in the Middle East coins and small bars are often incorporated into jewellery.000 crore per annum since 1997. it is important to such a context. Unlike jewellery. in principle. a substantial portion of 31 . a figure that has been growing slowly over time. If accumulating gold. As a result. gold is the most popular as an investment.assets is another matter.after which it was increased to Rs400 per ten grams. Investment demand can be split broadly into two. GOLD AS AN INVESTMENT INSTRUMENT Of all the precious metals.5. Of course. and does not detract from this feature. More interestingly the location of the bulk of these holdings is believed to have shifted. private and public-sector holdings.220 per ten grams upto January 1999. India lost an estimated Rs6000 crores (Rs 60 billion) of foreign exchange. to understand why people prefer to hold gold and the conditions under which they will add or reduce the stock of it in their hands. a substitute for investment in other assets.2. It is significant that during the last five years.000 tonnes. The amount of duty released from gold imports indicates an annual figure varying from Rs. in real sense. Private investment holdings amount to just under 25. and this bias has been increasing from the last two decades. Tariff Structure The import duty on Gold was Rs. which is held at least in part for decorative purposes. these holdings are purely a store of value. this led to increased gold smuggling. Smuggling gradually came down when the duty was reduced to Rs250 per ten grams on April 2001 and subsequently to Rs100 per ten grams. Exclusion of gold from the estimates of domestic savings thus understates the household and overall domestic savings rate.1000 to Rs. Private sector holdings come in the form of bars and coins. the value of additions to gold stock accounts for over 20% of private noncorporate sector‘s investment in financial instruments.

If gold is held primarily as an investment asset. In countries with a stable political and financial system. the International Monetary Fund and France. Switzerland and the UK. 32 . These differences can partly be explained by the way in which reserves are viewed nationally. The investor could hold gold-linked paper assets or could lend out the physical gold on the market. Given the size of official reserves relative to consumption levels. particularly if his position is more than. In addition he will save on the storage costs. There have also been confirmed buyers. and also by the very large size of reserves relative to the underlying flow of production and consumption. While proper discussion of the gold lending market is reserved to the second chapter of the report. correlation with other assets. most notably by Argentina. Germany. inaccessible or insecure banks. Belgium. say.including the United States.this was held by Western investors. The stability has been particularly marked among the larger holders . suffice to observe here that an investor who wants exposure to gold. Current holdings by different countries are quite diverse both in terms of absolute quantity and as a proportion of their total external reserves. Canada.000 ounces. or where trust in the government is low. the prime attraction of gold is as an investment which has very low or negative. anonymous and readily marketable anywhere. Gold holdings twenty years ago are a good predictor of a central bank‘s holding today. it does not need to be held in physical form. will normally be able to achieve an increase in return of perhaps 1% by lending out his gold over the return he would gain by holding physical gold. and which may hold or increase its value if for some reason investors flee from purely financial assets like bonds and equities. 10. Reasons for holding physical gold vary widely. In markets with poorly developed financial systems. the Netherlands. the largest being Taiwan and Poland. the possibility of changes in policy has had a substantial impact on the gold price. and the way in which decisions on reserve policy are taken. the overwhelming majority is now thought to be held in other parts of the world. gold is attractive as a store of value which is portable. Australia. There have been substantial sales.

although many other weights exist. however. 1oz bar. Theoretically in the latter case. Alternatively. It is decided to only count physical bullion coins and bars. Making an allowance for this is. for example in Europe these would typically be in 12. with these in turn defined by the standard adopted by the European Union. as the part of the former would be lent out. low mark-up jewellery purchased with an investment motive). In addition. like Argentina.5kg or 1kg bars (1kg = 32. to complicate matters still further. The problem with such a definition is that it is highly subjective as well as excessively elastic. private investor metal account holdings are included. Austria. 10g.15072 Troy ounces).. This would include so-called ―investment jewellery‖ (generally high carat. In counting such bullion. For example. or 1 33 . Bars are available in various sizes. changing tastes in jewellery and the shift to lower-carat articles in some parts of the world. makes it impossible on a systematic and regular basis to measure ―investment jewellery‖ demand worldwide. there could be a problem with unallocated as opposed to allocated gold holdings. such as the Tael. Finally. It is subjective because purchase-motive is extremely difficult to measure on a scientific basis.Investment vehicles Retail Gold Investment The definition excludes so-called ―investment jewellery‖. 10oz. these can easily be bought or sold "over the counter" of the major banks. The broadest definition of retail investment would incorporate any private sector demand for gold that was not related purely to adornment or industrial purposes. the definition of retail investment demand excludes all institutional investment. impractical. Bars The most traditional way of investing in gold is by buying bullion gold bars. wedding-related demand for high-carat jewellery in India has an important investment motive but it is also purchased for adornment. however. For example. there are bullion dealers that provide the same service. In some countries. one is dealing with a dynamic situation. where highcarat was formerly predominant. Liechtenstein and Switzerland.

due to the fact that they are much easier to store. Again. kilo gold bars. [27] The PAMP certificate Coins Buying gold coins is a popular way of holding gold. the large Swiss and Liechtenstein banks buy and sell these coins over the counter.9999 fine (99. Kilo gold bars are . Typically bullion coins are priced according to their weight. an increasingly popular method of investing in gold bars for the small investor is via allocated holdings using a gold account .Tola. held directly by you or in your own safe) or indirectly (held in a safe deposit box or bank vault on your behalf). Bars are increasing in popularity as investment vehicles. storing and verifying pure gold bars.9999 fine (99. by the Department of Treasury. Gold bars can be held either directly (i. The most commonly available kilo gold bars are the PAMP and the Royal Canadian Mint (RCM) gold bars. It is estimated that the premiums on kilo gold bars can be at least $50 per ounce less than the premiums on bars such as the American Gold Eagles. Gold bars for sale include 1-oz gold bars. The American Eagle coins contain a stated amount of pure gold and are made in four denominations. actually consists of the PAMP hallmark on the gold bars. and 100gram gold bars. plus a premium above the gold spot price. PAMP kilo gold bars usually come with certificates.99% pure) and contain 32.99 pure. [26] It seems that the gold bars are primarily sold as kilo bars rather than 1-oz gold bars. All these gold bars are . One of the most popular gold coins is the American Eagle bullion coin. which is guaranteed by the United States Government and has been in circulation for over 300 years.e. 10-oz gold bars.see 'Accounts' below. RCM bars do not come with either protective cases or certificates.15 troy ounces each. Because of the many difficulties of transporting. 34 .). as they carry lower premiums than gold bullions.

¼ and 1/10 ounce sizes. Gold certificates may be described as the first paper bank notes. Gold ETFs represent an easy way to gain exposure to the gold price. was launched in March 2003 on the Australian Stock Exchange. but that differ from traditional open-end companies and UITs. The actual gold content of these coins is 1. or ETFs. The annual expenses of the fund such as storage. [28] Exchange-traded funds Gold exchange-traded funds (or GETFs) are traded like shares on the major stock exchanges including London. Also. and management fees are charged by selling a small amount of gold represented by each certificate. These US gold eagle coins are also minted in ½. Exchange-traded funds. The first gold ETF. instead of storing the actual gold bullion.The standard gold eagle coins have a fineness of 0. Gold certificates allow investors to buy and sell the security without the inconvenience associated with the transfer of actual physical gold. The main differences are that ETFs do not sell directly to investors and they issue their shares in what are called "Creation Units" (large blocks such as blocks of 50. Gold Bullion Securities (ticker symbol "GOLD"). are investment companies that are legally classified as open-end companies or Unit Investment Trusts (UITs). the Creation Units are split up and re-sold on a secondary market.103 grs).000 shares).0 troy ounce (31. Typically a small commission is charged for trading in gold ETFs and a small annual storage fee is charged. insurance. without the inconvenience of storing physical bars.916 and have a face value of $50. New York and Sydney. Certificates A certificate of ownership can be held by gold investors. Usually. and originally represented exactly one-tenth of an ounce of gold. so the amount of gold in each certificate will gradually decline over time. the Creation Units may not be purchased with cash but a basket of securities that mirrors the ETF's portfolio. They were first issued in the 17th century when they were used by goldsmiths in England and The 35 .

Two centuries later. for example through bailment or within a trust. gold futures are primarily traded on the New York Commodities Exchange (COMEX). CMC Markets. Gold accounts are typically backed through unallocated (fungible or pooled) or allocated (also known as non-fungible) gold storage. Digital gold currency accounts and the BullionVault gold exchange work on a similar principle. a division of the New York Mercantile Exchange (NYMEX). In the early 1930s the US Government restricted the private gold ownership in the United States and therefore. In the U. Nowadays. Different accounts impose varying levels of intermediation between the client and their gold. IG Index and City Index.S. the gold certificates began being issued in the United States when the US Treasury issued such certificates that could be exchanged for gold. Bailment is the legal action of a client entrusting their physical property to another party for safekeeping. In India. Derivatives. CFDs and spread betting Derivatives. futures and options. 36 . as well as by banks in Germany and Switzerland. currently trade on various exchanges around the world and over-the-counter (OTC) directly in the private market. and paying for the service.Netherlands for customers who kept deposits of gold bullion into their safe-keeping. all from the UK. provide contract for difference (CFD) or spread bets on the price of gold. the gold certificates stopped circulating as money. gold futures are traded on the National Commodity and Derivatives Exchange (NCDEX) and Multi Commodity Exchange (MCX). Firms such as Cantor Index. such as gold forwards.. and NYSE Liffe US. Accounts Most Swiss banks offer gold accounts where gold can be instantly bought or sold just like any foreign currency. gold certificates are still issued by gold pool programs in Australia and the United States. The United States Government first authorized the use of the gold certificates in 1863.

With respect to producer hedging. the bullion banks sell an equivalent amount of gold borrowed from central banks. the bullion banks contract to buy gold forward from mining companies. thus maintaining the liquidity to fund further derivative transactions. This is why hedging of this nature is sometimes termed ―accelerated supply‖. In theory. the producer delivers either newly-mined gold or gold purchased in the market to the bullion bank at the contract price. contracts to buy gold forward from a speculator (eg a hedge fund or a bank‘s proprietary trading desk). this can place pressure on the gold price. The transaction in respect to speculative short-selling has an identical effect on the gold market to that of mining companies (except possibly that mining transactions typically involve a longer time horizon). The proceeds of this sale are invested and earn interest at money market rates. 2. Thus under these conditions. the bullion bank then repays its borrowed gold to the central bank and the transaction is unwound in its entirety. 37 . instead of contracting to buy gold forward from a mining company. which effectively adds to supply in the very short term. 4. However. the transaction can be described as follows: 1. It is this liquidity which then allows for the execution of all further derivative transactions. In essence it mobilises metal inventories by bringing this metal into the active market. the central bank rolls over the loan.Gold derivatives: basic principles In its most simplified form. more commonly. 3. the borrowed gold is sold.Gold is leased by central banks and other holders to commercial/bullion banks and thus earns for the lender a return in line with the gold lease rate. To fund the purchase. To fund the transaction it once again sells the gold borrowed from the central bank and invests the proceeds on the money market. When the forward sale comes to delivery. In this case the bullion bank. In the absence of compensating factors.

From this perspective it is not surprising that gold. 38 . Demand for individual financial assets tends to be highly elastic. The lending market for gold is also far more developed than for a typical commodity. which pays no dividends or coupons. Demand for financial assets tends to be measured as a stock – so many billion dollars – rather than as a flow – so many dollars per year– because investors who currently hold the asset can and will sell their holdings in their entirety if the expected return is too low. If gold behaves like a typical financial asset one would expect it too to have a very elastic price schedule. or that a moderate reduction in expected returns on gold would cause most holders to liquidate their portfolios. can be borrowed at a rate close to zero. and buy or sell the underlying asset. In classic portfolio theory. The pattern of investors who hold gold is not like that for other financial assets. Even if the derivatives market causes investors to rebalance their portfolios. If gold were like any other financial asset the evidence in the preceding section suggests little reason to believe that the derivative market is likely to distort the cash market. but like financial assets. Most of the gold that has ever been produced is still available and could come back to the market under appropriate conditions. The existence of an active lending market with rather stable and low interest rates is quite typical of financial assets. large changes in holdings can be accommodated with very little shift in prices. Investors buy an asset if its risk adjusted return is higher than the market.What is special about investing in gold? Gold is in many ways more like a financial asset than a commodity. If a derivatives market does make it easier for producers and speculators to sell gold short. In many markets equities can be borrowed at a rate which is only a small margin above the dividend yield. Liquid bonds can be borrowed at a rate only a small premium to their running yield. Most private and institutional investors hold little or no gold. then a small price reduction would suffice to attract new investors into the market to take the opposite side of the transaction. All these features of financial assets help ensure that the growth of a derivatives market is unlikely to have a destabilising effect on prices. Unlike most other commodities. demand depends not on the price of the asset but on its expected return. But there are reasons for doubting that the elasticity of demand for gold is so high. gold is bought to be stored or kept rather than to be consumed. There are very many different financial assets. most of which are very close substitutes for each other.

For example. For these investors.Investors who hold gold do so at least in part because gold has certain properties which make it peculiarly attractive in the event of acute political or financial instability. Their response to changes in expected returns may be relatively small. since a 10% increase in the gold price will reduce the volume of gold bought by 10%. someone who holds all their financial wealth in the form of gold will have a cash demand for gold which may be largely independent of either the price of gold or of the expected rate of return on holding gold. gold is not readily substitutable by other assets. it is likely that both the price level of gold (for consumption) and the expected return on gold (for investment) play a part in determining demand. This means that the price elasticity of demand is close to unity. 39 . While it is hard to separate consumption and investment motives for purchasing jewellery.Gold is also unlike a financial asset in that there is substantial consumption demand for gold.

Inflation's effects on an economy are manifold and can be simultaneously positive and negative. Variables such as exchange rates. the annualized percentage change in a general price index (normally the Consumer Price Index) over time. and debt relief by reducing the real level of debt. selling stocks and buying gold.g. but their predictive power has been found to hold only for some periods. 40 . GOLD V/S INFLATION (CPI) Inflation is a rise in the general level of prices of goods and services in an economy over a period of time. to name but a few. as the capital required to retool companies becomes more elusive or expensive. When the price level rises. Positive effects include a mitigation of economic recessions. High inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future. A chief measure of price inflation is the inflation rate. Negative effects of inflation include a decrease in the real value of money and other monetary items over time. inventories and durable consumption.6. Financial asset prices have also been found to possess useful leading indicator properties since their rates of return should embed inflation expectations. uncertainty about future inflation may discourage investment and saving.1. annual inflation is also erosion in the purchasing power of money – a loss of real value in the internal medium of exchange and unit of account in the economy. This can reduce overall economic productivity rates. e. Several leading indicators are monitored by central banks and other agents in the economy in order to forecast the inflation rate.6. each unit of currency buys fewer goods and services. are closely monitoredand scrutinized in order to determine whether the economy is accelerating or decelerating in order to determine future movements in the rate of inflation. GOLD IN CORRELATION WITH THE ECONOMIC INDICATORS 4. and only for certain countries.4. or may lead to reductions in investment of productive capital and increase savings in non-producing assets. consequently.

To get the correlation between the gold and the inflation the percentage changes were considered compared to the previous year.A cursory glance at gold‘s performance in the years since The Golden Constant was first published shows an intuitive relationship between changes in the gold price and changes in the US consumer price index. FIGURE SHOWING THE RETURN ON GOLD AND THE CHANGE IN INFLATION 40.037945.00 Gold price 10.037945. indicating that with every one point of change in the gold price there is a very minimal change in the inflation (CPI) of 0. 4.1.00 change in inflation -10. We can visibly infer that the correlation between the gold returns and the inflation differential is negligible. with peaks in the gold price tending to lead peaks in the CPI.00 -20.00 20.00 0. The Correlation between the returns on gold and the differential annualised inflation CPI (with the base year of the year 2000) is 0. 41 .00 The above graph shows the movement of returns on gold and the differential inflation 1981 to 2009. Therefore we can safely assume that there is no prominent relationship that exists between gold and inflation. Further the calculation of the regression gave the Beta as 0.106131.00 30.

4. exhibited reversal in trend in November 2009 with an increase of 2. GOLD V/S IMPORTS India‘s imports. import growth averaged at 43. Cumulatively. The uptrend in imports continued through February 2010. oil imports have increased during the recent period.0 per cent. witnessed considerable growth.21502 is the correlation that exists between the returns on gold and the differential imports of India. imports recorded a decline of 13. precious and semi-precious stones. Between December 2009 and February 2010. during 2009-10 (AprilFebruary).9 per cent a year ago. chemicals. after declining since December 2008 for eleven months. Reflecting the increase in gold prices and the higher volume of gold imports on account of the economic recovery.4. The commodity-wise imports during April-September 2009 indicated slowdown in non-POL imports.5 per cent in contrast with a growth of 25.3. which was mainly due to sharp decline in imports of capital goods.6. Imports of edible oil and pulses. iron and steel. 42 . however. reflecting domestic supply constraints and higher prices 4. FIGURE SHOWING THE RETURN ON GOLD AND THE CHANGE IN THE IMPORTS OF INDIA 140 120 100 80 60 40 20 0 1971-72 1973-74 1975-76 1977-78 1979-80 1981-82 1983-84 1985-86 1987-88 1989-90 1991-92 1993-94 1995-96 1997-98 1999-00 2001-02 2003-04 2005-06 -20 -40 -60 2007-08 gold prices Imports 0. gold and silver. which resulted from lower international crude oil prices during the period and slowdown in domestic economic activity.6 per cent. pearls.

One can identify the booms and busts of the Indian stock market through SENSEX SENSEX is calculated using the "Free-float Market Capitalization" methodology. FTSE. there was no scale to measure the ups and downs in the Indian stock market. The "Free-float Market Capitalization" methodology of index construction is regarded as an industry best practice globally. All major index providers like MSCI. STOXX. 2003. The index is widely reported in both domestic and international markets through print as well as electronic media. 128 years of experience seems to be a proud milestone. As per this methodology. GOLD V/S SENSEX For the premier Stock Exchange that pioneered the stock broking activity in India. First compiled in 1986. The Index was initially calculated based on the "Full Market Capitalization" methodology but was shifted to the free-float methodology with effect from September 1. A lot has changed since 1875 when 318 persons became members of what today is called "The Stock Exchange. SENSEX is not only scientifically designed but also based on globally accepted construction and review methodology. the country's capital markets have passed through both good and bad periods. The Stock Exchange. The SENSEX captured all these events in the most judicial manner.4.Since then. the level of index at any point of time reflects the Free-float 43 . The journey in the 20th century has not been an easy one. The base year of SENSEX is 1978-79 and the base value is 100. The growth of equity markets in India has been phenomenal in the decade gone by. Mumbai (BSE) in 1986 came out with a stock index that subsequently became the barometer of the Indian stock market. Right from early nineties the stock market witnessed heightened activity in terms of various bull and bear runs.4. liquid and representative companies. SENSEX is a basket of 30constituent stocks representing a sample of large.6. S&P and Dow Jones use the Free-float methodology. Mumbai" by paying a princely amount of Re1. Till the decade of eighties.

This is often indicated by the notation1978-79=100.178412. which is not a very strong relationship. FIGURE SHOWING THE RETURN ON GOLD AND SENSEX RETURNS 100 80 60 40 20 0 -20 -40 gold prices annualized sensex The return on gold correlates to the return on the BSE SENSEX to the extent of 0. The calculation of SENSEX involves dividing the Free-float market capitalization of 30 companies in the Index by a number called the Index Divisor. The regration of the gold returns to that of the BSE comes up to 0.069205.5. are used by the trading system to calculate SENSEX every 15 seconds and disseminated in real time. During market hours. prices of the index scrips. 4. The base period of SENSEX is1978-79 and the base value is 100 index points.market value of 30 component stocks relative to a base period. This market capitalization is further multiplied by the free-float factor to determine the free-float market capitalization. The market capitalization of a company is determined by multiplying the price of its stock by the number of shares issued by the company. The Divisor is the only link to the original base period value of the SENSEX. replacement of scrips etc. Therefore it is apparent that the effect of gold prices in negligible when it comes to the BSE SENSEX. It keeps the Index comparable over time and is the adjustment point for all Index adjustments arising out of corporate actions. at which latest trades are executed. 1990-91 1991-92 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 44 .

Gold relative to Silver increased in value. GOLD V/S SILVER The prices of gold & silver are viewed differently in different market environments. 4. doubling from 40 times silver in 1998. Here we can clearly see that the interrelationship between gold and silver is quite strong. During the period between 1990. 1974-75 2002-03 1970-71 1972-73 1976-77 1978-79 1980-81 1982-83 1984-85 1986-87 1988-89 1990-91 1992-93 1994-95 1996-97 1998-99 2000-01 2004-05 -10 -20 The price relationship with silver is 0. to 80 times silver in 2003 & 60 times silver in 2005. 45 2006-07 . As fear replaced confidence.Silver ratio varied between 50 and 70.4. the commodity was considered to be much more valuable to gold & hence preferred to gold.740537. the Gold.1998.6. stabilizing and narrowing towards a mean of 60. through the start of the Iraq war. Gold Mumbai Rupees per 10gms.6. FIGURE SHOWING THE RETURN ON GOLD AND 70 60 50 40 30 20 10 0 Silver Mumbai Rupees per kg. Gold began to be accumulated more than Silver.5. through the Y2K scare and the economic collapse of 2000. This is because in a booming economy where silver has a number of industrial uses. From early 2004 to now. starting with the Hedge Fund and Asian crises. the price of silver was rising consistently. Suddenly Gold as money was deemed an important crisis commodity. From 1998 through 2008. which is about where we are now.

 The Reserve Bank of India (RBI) holds 357. Findings Gold Standards The gold standard is a monetary system in which the standard economic unit of account is a fixed weight of gold. Sales have averaged 676 tonnes per annum over the past decade Indian gold demand is firmly embedded in cultural and religious traditions. The main producers of Gold are Hutti Gold Mines and Bharat Gold mines Ltd 46 .75 tons of gold forming about 6 per cent of the current value of its total foreign exchange reserves. one that has expanded considerably during its period of liberalisation. 400 million in value held in gold. have been major holders of gold for more than 100 years. in theory. and official international institutions.   Gold can play a crucial and strategic role in central bank reserve mobilisation in case of need.1. with not less than Rs. FINDINGS AND CONCLUSION 5. Traditionally most investment has taken the form of physical gold. Role of Gold in Indian Economy      India is the world‘s largest gold market in volume terms. The original RBI Act (1934) obliged the Reserve Bank to hold 40% of its assets in gold coin. gold bullion and foreign securities.5. limits the power of governments to cause price inflation by excessive issue of paper currency Gold as a Reserve Asset  Central banks.   The essential features of the gold standard in theory rest on the idea that inflation is caused by an increase in the quantity of money The gold standard.

which is not a very strong relationship. Investment vehicles o Bars o Coins o Certificates o Exchange-traded funds o Accounts and o Derivatives. Gold V/S Imports  0. CFDs and spread betting Gold V/S Inflation (Cpi)  The Correlation between the returns on gold and the differential annualised inflation CPI (with the base year of the year 2000) is 0. Gold V/S Silver  The price relationship with silver is 0. 47 . The regration of the gold returns to that of the BSE comes up to 0.\ Gold V/S Sensex   The return on gold correlates to the return on the BSE SENSEX to the extent of 0. Private sector holdings come in the form of bars and coins.106131.21502 is the correlation that exists between the returns on gold and the differential imports of India.069205. private and publicsector holdings.Gold as an Investment Instrument    Gold investment demand can be split broadly into two.740537.178412. Here we can clearly see that the interrelationship between gold and silver is quite strong.

We observed how gold affected the world economy during the prevalence of the gold standards. investors turn towards gold when there is a bearish trend. The same thing holds true for the relationship between gold returns and the returns on SENSEX.5. Not only economical but also culturally. the gold prices do not really indicate the course of the economy. as gold is perceived as an hedging instrument. its rise to its eventual fall. Conclusion Throughout the report we can clearly make out the importance of gold in India. By establishing the relationship between the return on gold over a period of years and the various economic indicators we can come to the conclusion that though gold is one of the most valuable metal and the most sought after commodity. Through the studies done in tis report we can conclude that the gold price is not the best of the indicators of the economy.2. The relationship that gold has with inflation is nothing but a perceptual link that exists only in the minds of the investors and buyers. 48 . as emotional sentiments play a major role where gold is considered.

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