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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.
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. 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
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.
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.
54 billion in various NRI deposit schemes during April-June 2011. NRIs invested US$ 1. 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. while the number of deals increased by 33 per cent to 195. Exports in the referred period increased on back of demand for engineering and petroleum products. according to data released by the Reserve Bank of India (RBI). according to Mr Rahul Khullar. according to a release by the Ministry of Commerce and Industry. gems and jewellery and readymade garments. 'World Investment Prospects Survey 2009-2012' by the United Nations Conference on Trade and Development (UNCTAD).24 billion) by companies through external commercial borrowings (ECB) or foreign currency convertible bonds (FCCB) for infrastructure projects in the financial years 2009-2011. nearly 57 per cent higher than the US$ 10. The total FDI stood at US$ 16. Private equity (PE) investments in India stood at US$ 6.950 crore (US$ 13.83 billion during January-June 2011.74 billion received during the same period last year. Commerce Secretary. The increase in Forex is largely attributed due to valuation changes.65 billion.3 billion. as compared to US$ 4. according to a report on world investment prospects titled.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. It is the highest monthly inflow during the last 11 years. India's foreign exchange (Forex) reserves have increased by US$ 1. Exports during April-July 2011 reached US$ 108. according to data compiled by Chennai-based Venture Intelligence. 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$ 5.04 billion raised during 2010.14 billion in value terms. during January-June 2011. 5 . 2011.3 billion. The Government has approved fund raising worth Rs 60.6 billion to register US$ 318 billion during the week ended August 19. 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 rise in the value of the deals so far (June 2011) recorded a growth of 52 per cent.
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.3. To study the relationship between that exists between gold prices and the various economic indicators. To study the role of gold in the Indian economy. Title of the study ―The impact of gold on the Indian economy and its evolution as an investment option‖ – A Study 3. This report also throws a light on the gold standard. It gives an overview on the investment scenario concerning gold in its various forms.3. 3.2. Objectives To study the emergence of the gold standards and its decline. RESEARCH DESIGN 3. The study the evolution of gold as an investment option. it rise in the international economy and its eventual fall.1. 6 . 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.
magazines company websites are the key source of information. Further the so collected data will be processed with the help statistical tools.4. 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. Massachusetts.5. "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. Layna. or to Economic and Monetary Union. however. Aug 28. Boston Marriott Copley Place. as well as the free flow of capital and goods. Governments? monetary policy autonomy was surrendered in service to the gold standard regime. Sheraton Boston & Hynes Convention Centre.1. I argue that the classical gold standard regime served as both a constraint and an opportunity for governments. 3. Research Methodology This is partly a descriptive and partly a causal research study. in a way similar to present-day currency boards. this paper focuses on the impact of the gold standard on sovereign borrowing.5.3. commitment to the gold standard allowed governments to access international capital 7 . This research will be conducted mostly with the help of secondary data. This is data collected from literature review. Boston. 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. the gold standard privileged external commitments (the maintenance of par values) over nations? Internal conditions. White papers. At the same time. such as monetary restraint and the facilitation of trade flows. news papers. Mosley. Because it required automatic adjustment in response to balance of payments imbalances. Literature Review 3.
Modern gold mining dates from the year 1870.markets at lower rates of interest. as well as future debt servicing capacity.5. 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. which was not thoroughly explored and mined. still dominates the world scene. Ltd. 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.. From the past history of gold mining and striking similarities in geological environment with the leading gold producing countries of the world. The Hutti Gold Mines Co. Considering the big gap in ever increasing demand for gold and the insignificant indigenous supply from the mines. 3.5 tonnes of gold during 1995 as against the world's total of 2. Hutti. and Hutti Gold Mines Co. Gold production in India was not significant when compared to world standards. gold convertibility appeared to signal sound government finances. At present. The repeal of the Gold Control Order and economic liberalisation have thrown open new vistas for growth of gold mining in the country. Indian mine production has been insignificant and remained static between 1. Extensive and intensive ancient gold mining activity. throughout the country testify the flourishing nature of the gold mining industry in India. and the vast geological potential. as evidenced by numerous ancient workings.. Ltd.5 tonnes per annum during the last 10 years. Gold exploration and mining scenario in India Raju k. India offers a good potential for 8 . K. Government of India liberalised the mineral policy. are the two primary gold producing units in India. There is ample market potential available in the country for indigenously produced gold as India is highly deficient in gold production. the oldest metal known to man. Bharat Gold Mines Ltd.6 and 2. While production has fallen to very low levels in recent years.272 tonnes.2. India was renowned for its gold from time immemorial. and produced together about 2. INDE Abstract Gold.
A change in the general rate of inflation should. 3. because they do not share gold's high liquidity.5. 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. And The Prices Of Land And Gold M. Feldstein Harvard University and the National Bureau of Economic Research. gold. Inflation.4. The increase in returns. 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. This suggests that gold can play an important role in a diversified portfolio. Tax Rules.5. Jaffe 1989 CFA Institute. cause an equal change in the rate of inflation for each asset price. Adding a combination of these gold proxies to the hypothetical diversified portfolios raises their mean returns but also increases their standard deviations. The experience of the past decade has been very different from the predictions of this theory: the prices of land.gold. 3. Gold and Gold Stocks as Investments for Institutional Portfolios Jeffrey F. Gold stocks might be expected to be better investment vehicles than gold itself. consumption and convenience values. its returns are generally independent of those on other assets. Cambridge. more than compensates for the increased risk.3. in equilibrium. and other 9 . Tests of four hypothetical portfolios of varying risk show that the addition of gold in each case increases average return while reducing standard deviation. The Archaean greenstone belts and the other favourable geological horizons have to be thoroughly explored systematically by the latest state-of-art technology. Abstract While gold is quite risky as an individual asset. however. MA 02138.
Henderson The Journal of Political Economy. in an economy with an income tax. No. 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. Announcements making a government auction more probable cause a sudden drop in the price. 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. Although the risk of a future government gold auction depresses the price. pp. 4 (Aug. More specifically. an increase in the expected rate of inflation causes an immediate increase in the relative price of such ‗store of value‘ real assets. 10 . Vol. Salant and Dale W. 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. 627-648 Abstract This paper is an analysis of the effects of anticipations of government sales policies on the real price of gold. 3..5. Market Anticipations of Government Policies and the Price of Gold Stephen W.5. it also causes the price to rise in percentage terms faster than the real rate of interest and at an increasing rate. 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.such stores of value have increased by substantially more than the general price level. 1978). 86.
Why gold? Because of its rarity and durability. When several nations are using such a fixed unit of account. DATA ANALYSIS 4. gold has long been used as a means of payment. or lent at interest. as well as by the desire of governments to control or regulate the flow of commerce within their dominion. 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. Early monetary systems based on grain used gold to represent the stored value. the rates of exchange among national currencies effectively become fixed. resistance to corrosion. 11 . density. The early development of paper money was spurred originally by the unreliability of transportation and the dangers of long voyages. the function of paper currency is to reduce the danger of transporting gold. and the notes issued are often called certificates. 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. Money backed by specie is sometimes called representative money. though it is believed by historians that gold's high value for its utility. reduce the possibility of debasement of coins. The exact nature of the evolution of money varies significantly across time and place. to differentiate them from other forms of paper money.1. Banking began when gold deposited in a bank could be transferred from one bank account to another by a giro system.4. GOLD STANDARD The gold standard is a monetary system in which the standard economic unit of account is a fixed weight of gold. uniformity. and avoid the reduction in circulating medium to hoarding and losses. with a weight in gold used as the token to transport value. When used as part of a hard-money system.
before 2000 BC. the peak of the Italian trading states during the Renaissance. Gold would supplant silver as the basic unit of international trade at various times. However. They were forced to mix more and more base metal with the gold until. and later in Egypt. which was approximately 7 grams of gold alloyed with silver. and most prominently during the 19th century.2 was gold. The paying of mercenaries and armies in gold solidified its importance: gold became synonymous with paying for military operations. long before this time gold had been the basis of trade contracts in Akkadia. a means of maintaining general liquidity. The Roman Empire minted two important gold coins: aureus. Early coinage The first metal used as a currency was silver. 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. and remains an important hedge against the actions of central banks and governments. 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. millions of coins during the course of the Republic and the Empire. when conquered by Alexander the Great. however. which weighed 4. and circulated. and it was not until 1500 years later that the first coinage of pure gold was introduced. the coinage in circulation was only 25% gold by weight. silver was the primary circulating medium and major monetary metal. The Persian Empire collected taxes in gold and. After the collapse of the Western Roman Empire and the exhaustion of the gold mines in Europe. and the smaller solidus. including the Islamic golden age. The Roman mints were fantastically active — the Romans minted. when silver ingots were used in trade. and as a store of value. of which 4. by the turn of the millennium.4 grams.Through most of human history. this gold became the basis for the gold coinage of his empire. the Byzantine empire continued to mint successor coins to the solidus called the nomisma or bezant. as mentioned by Niccolò Machiavelli in The Prince two thousand years later. Silver remained the most common monetary metal used in ordinary transactions through the 19th century.
He removed depictions from coins. respectively. The wide availability of milled and cob gold coins made it possible for the West Indies to make gold the only legal tender in 1704.95% pure Roman coins. the Republic of Venice coined their first solid gold coin. and guinea. and fixed ratios of silver to gold. and that uncertainty over the future purchasing power of money depresses business confidence and leads to reduced trade and capital investment. because of Venice's preeminent role in trade with the Islamic world and its ability to secure fresh stocks of gold. The dinar and dirham were gold and silver coins. or "doubloon". produced from African gold: the dinar. using current measures. originally minted by the Persians. and the basic coin the 8 escudos piece. which was originally set at 27.4680 grams of 22 carat gold. grosh. In 1284. The circulation of Spanish coins would create the unit of account for the United States. Other coins. The Caliphates in the Islamic world adopted these coins. Thus. the florin. the ducat. were also introduced at this time by other European states to facilitate growing trade. 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. trade was increasingly conducted via the coinage in use in the Arabic world. which was to become the standard of European coinage for the next 600 years. noble. and was valued at 16 times the equivalent weight of silver. an idea advocated by David Hume. and it continued to be one of the predominant coins for hundreds of years afterwards. zloty. Spain had access to stocks of new gold for coinage in addition to silver. 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. would remain the standard against which other coins were measured. The ducat. the "dollar" based on the Spanish silver real. The primary Spanish gold unit of account was the escudo. 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. established standard references to Allah on the coins. The central thesis of the 13 . and Philadelphia's currency market would trade in Spanish colonial coins.
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. Differing definitions of "gold standard" If the monetary authority holds sufficient gold to convert all circulating money. or a full gold standard. In much of gold standard theory. 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. 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. advocates of the gold standard often believe that governments are almost entirely destructive of economic activity. In an internal gold-standard system. and that a gold standard. 14 . and possible limitations in future trading partners will dramatically benefit an economy. will increase personal liberty and economic vitality. large inflows or outflows occur until the rates return to the official level. gold or a currency that is convertible into gold at a fixed price is used as a means of making international payments. International gold standards often limit which entities have the right to redeem currency for gold.gold standard is that removing uncertainty. In an international gold-standard system. Some believe there is no other form of gold standard. Under the Bretton Woods system. gold coins circulate as legal tender or paper money is freely convertible into gold at a fixed price. which may exist in the absence of any internal gold standard. then this is known as a 100% reserve gold standard. these were called "SDRs" for Special Drawing Rights. the solidity of its credit. friction between kinds of currency. by expanding both the market for its own goods. by reducing their ability to intervene in markets. Others. and the markets from which its consumers may purchase goods. Under such a system. the benefits of enforcing monetary and fiscal discipline on the government are central to the benefits obtained.
compared with only 700 tonnes in 1870. 15 . France 1. The Bank of England. Some other countries had by then accumulated much larger stocks: the United States had 2. 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. Central banks started building up their stocks of gold from the 1880s. and paper money was convertible into gold at a fixed price. the amount of money in circulation was linked to the country's gold stock.233 tonnes. GOLD AS A RESERVE ASSET Central banks. Russia 1. 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. its reserves were 161 tonnes and by 1913 this had risen to a still moderate figure of 248 tonnes. The development of banking and credit meant that the amount of money in circulation was greater than the gold stock itself. In 1870.2. As other countries decided to join the gold standard. the then dominant economic.100 tonnes in 1913. but everybody had sufficient confidence in convertibility that there was no danger of this option actually being exercised. Argentina 440 tonnes. Austria 378 tonnes and Italy 356 tonnes. they also started to accumulate gold so as to be able to maintain convertibility at a fixed price. for countries on the gold standard. Germany 439 tonnes. at 310 tonnes. and official international institutions. Even Australia had more than the UK. have been major holders of gold for more than 100 years and are expected to retain large stocks in future. Under that system. during the period of the classical gold standard. political and financial power.4. They currently account for about 20% of above-ground stocks. The world's total of official gold reserves is estimated to have been about 8. That at least was the case during the height of the gold standard for the UK. as the central bank at the centre of the system.293 tonnes. commanded such universal confidence that it actually needed very little gold.030 tonnes.
up to that point. when it had about 60%of all the official stocks of gold. US official holdings rose from 6. directly or indirectly.67 an ounce to $35 an ounce. gold was still the primary "reserve asset". Mobilising gold As the ultimate form of payment. official gold stocks reached about 38. was faced with the choice of deflating.000 tonnes in 1925 to 18. and dollar convertibility. This new higher price caused holders of gold around the world to sell their holdings to the United States.or perhaps slightly more . In 1933-34.000 tonnes and probably accounted for about 50% . as the pivot of the system. most gold had always been held privately. with President Nixon "closing the gold window". as central banks created more money than was consistent with stable prices. the United States under President Roosevelt devalued the dollar in terms of gold. raising the price from $20. Central banks kept gold because.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 . But gradually. through the fixed official dollar price of gold. when used either as cash or as collateral. gold has sometimes proved the only asset. circulating as currency among citizens and across borders in commercial trade transactions. it abandoned the system. Central banks could convert dollar balances into gold at the official price. Gold can indeed play a crucial and strategic role in central bank reserve mobilisation in case of need. it was still the foundation of the international monetary system. the fixed official gold price again became unrealistic. Although there was no direct link between gold holdings and national money supplies (as there had been under the classic gold standard). So gold provided the "anchor" to which all currencies of member countries were linked. acceptable to counterparties. and after several years of moderate but persistent inflation. Gold. and the United States. devaluing or abandoning the system. At their peak in the 1960s. In August 1971. which had been the foundation of the first genuinely international monetary system during the period before World War 1. 16 .of all above ground stocks.000 tonnes at the end of World War II. came to be used as a weapon in economic competition and national rivalries.
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. 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. First the government swapped 20 tonnes on the Swiss market and. So the U. gold in the private sector can provide a vital support for public sector purposes. The gold collected was either placed directly in reserves. dollars in return for releasing the American hostages it held. 17 . Iran refused to accept U. India had to rely on its bullion holdings to survive. of course. shipped a further 46 tonnes to London as collateral for a loan from the Bank of Japan. regards the US gold stock as part of our national patrimony and of value as a precautionary asset. so there was no net cost to US reserves. South Korea and Thailand among them. or sold for dollars which could be used to repay external debt or in intervention to support their ailing currencies. In the aftermath of the 1997 Asian currency crisis several countries in the region announced plans to mobilise residents' gold holdings ."The Treasury.S.Some examples of where gold has been used in political or economic emergencies are as follows: For example." The US government simultaneously took ownership of an equivalent quantity of Iranian gold that had been frozen at the New York Fed. Hit by a short-run foreign exchange crisis in 1991. 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. thereby adding to credibility.S. As then Treasury Assistant Secretary Manuel Johnson went on to say in Congressional testimony in 1983 . later.and in the light of this recent experience ." Finally. transferred 50 tonnes of gold instead. in the 1981 Iranian hostage crisis.Malaysia.
However. It is sometimes suggested that maintaining such holdings is inefficient in comparison to foreign exchange.but so too do the exchange and interest rates of currencies held in reserves. 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.similar to their holdings 60 years ago. Why central banks hold gold Monetary authorities have long held gold in their reserves. in the public domain and report them regularly to the IMF. including gold.000 tonnes . whereas currencies and government securities depend on government promises and the variations in central banks‘ monetary policies. Diversification In any asset portfolio. Gold has good diversification properties in a currency portfolio. These are recognised by central banks themselves although different central banks would emphasise different factors. Today their stocks amount to some 30. However. including reports made under the Standard Data Dissemination Standards. 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. In addition holdings may not always be reported in a way that facilitates analysis. These stem from the fact that its value is determined by supply and demand in the world gold markets. it rarely makes sense to have all your eggs in one basket. there are good reasons for countries continuing to hold gold as part of their reserves.Tracking central bank gold holdings Most central banks place data on their reserve assets. A strategy of reserve diversification will normally provide a less volatile return than one based on a single asset. The price of gold therefore behaves in a completely different way from the prices of currencies or the exchange rates between currencies. Official holdings are therefore generally more transparent and easier to track than those of other large holders such as most major private investors. Obviously the price of gold can fluctuate . 18 .
Economic developments both at home and in the rest of the world can upset countries‘ plans. Unexpected needs If there is one thing of which we can be certain. gold is much less vulnerable. Where appropriately located. while global shocks can affect the whole international monetary system. It provides a form of insurance against some improbable but. total asset freezes. Gold is liquid and is universally acceptable as a means of payment. Reserves are for using when you need to. a regression to a world of currency or trading blocs or the international isolation of a country. Nor is there any risk of the liability being repudiated. In contrast. a generalised crisis leading to repudiation of foreign debts by major sovereign borrowers. if it occurs. Reserves held in the form of foreign securities are vulnerable to such measures. Its status cannot therefore be undermined by inflation in a reserve currency country. Physical Security Countries have in the past imposed exchange controls or. 19 . paper currencies always lose value in the long run and often in the short term as well.Economic Security Gold is a unique asset in that it is no one else's liability. It can also serve as collateral for borrowing. an unexpected surge in inflation. Total and incontrovertible liquidity is therefore essential. it is that today‘s status quo will not last for ever. Such events might include war. 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. at the worst. highly damaging event. In emergencies countries may need liquid resources. Gold provides this. Owning gold is thus an option against an unknown future.
There may be an "opportunity cost" of holding gold but. this is less than is often thought. The other advantages of gold may well offset any such costs. in a world of low interest rates. Such an event might be war. Income Gold is sometimes described as a non income-earning asset. 20 . a generalised debt crisis involving the repudiation of foreign debts by major sovereign borrowers. an unexpected surge of inflation. The same applies to gold held on the balance sheet of a central bank. It is the price deliberately paid to provide protection against a highly improbable but highly damaging event. Some countries give explicit recognition to its support for the domestic currency. a regression to a world of currency and trading blocs. or the international isolation of a country.Confidence The public takes confidence from knowing that its Government holds gold .an indestructible asset and one not prone to the inflationary worries overhanging paper money. representing the world's governments. And rating agencies will take comfort from the presence of gold in a country's reserves. Insurance The opportunity cost of holding gold may be viewed as comparable to an insurance premium. This is untrue. The IMF's Executive Board. There is a gold lending market and gold can also be traded to generate profits. has recognised that the Fund's own holdings of gold give a "fundamental strength" to its balance sheet.
75 tons of gold forming about 6 per cent of the current value of its total foreign exchange reserves.3.7 million at today‘s exchange rate and is tiny in comparison to India‘s total foreign exchange reserves of 151. gold bullion and foreign securities. It also revalued its gold reserves from Rs. The RBI currently olds 357.7 tonnes of gold.1150 million of its assets in gold (this did not imply the need to acquire additional gold. which though small in comparison to total reserves (4.6 billion. Rs. under the Reserve Bank of India Amendment Act 1956.. RBI and Its Gold Policy Measures The Reserve Bank of India (RBI) holds 357.1150 million equates o just $24. weaning away people from gold. with not less than Rs. viz.4% as at September2006). Between May and July.4. that required the bank to hold at least Rs. is still he fifteenth highest of central banks in tonnage terms in the world. regulating the supply of gold. The move vastly improved India‘s reported import coverage ratio. THE RESERVE BANK OF INDIA The Reserve Bank is required to hold a fixed amount of gold under the Reserve Bank of India Act. 400 million in value held in gold. The funds were used to help India meet its short-term debt obligations and import bill. The original RBI Act (1934) obliged the Reserve Bank to hold 40% of its assets in gold coin. India mobilised its gold reserves during the 1991 balance of payments crisis. The RBI bought back all 67 tonnes of gold later that year. as the value of existing gold reserves were revised up at the time). The system was later amended. 21 . 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.72 billion. The evolution of the gold related policy since independence was centred around some major objectives. as it moved from using an outdated gold price4 to valuing its reserves at close to he international market price. to the minimum reserve system. reducing the domestic demand and prices and curbing smuggling.28 billion to Rs.
It looks at all the major aspects of demand and supply. The country has one of the most deeply religious societies in the world. This part of the report provides a broad overview of the gold market within the context of India‘s new super charged economy. The Government decided to sell confiscated gold in small quantities through the RBI. who symbolises fertility.4. 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 goddess Lakshmi. However. productiveness and prosperity. one that has expanded considerably during its period of liberalisation. the role of the Reserve Bank of India and on the supply-side. it was felt in some circles that it would be feasible to make a frontal attack on demand for gold in India. 4. it was thought as an impossible proposition. Gold is seen as a symbol of wealth and prosperity in the Hindu religion. mine production and the scrap market. The origins of gold demand Indian gold demand is firmly embedded in cultural and religious traditions. 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. Accordingly. banning the making and selling of jewellery above 14 carats. it did not have any major impact on smuggling. is said 22 . including how the jewellery sector is being affected by the current social and economic changes. 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. Official imports to discourage smuggling was first mooted in 1977 but viewed against the forex reserves available then.. which is practiced by around 80% of the population. This coupled with complexities resulted in the failure of the Gold Control order. the Gold Control Order 1962 was issued.In the wake of the Chinese war. new ways to invest in gold.
Akshaya Thrithiya. Indeed. Gold is especially important in this respect as it remains directly under her control. falling in April or May. Gold also plays an important role in the marriage ceremony. where brides are often adorned from head to toe in gold jewellery..to have been bathed by elephants who carried pure water in golden vessels. With an estimated 10 million marriages a year taking place in India. Not all gold demand is allied with cultural and religious beliefs. Hindus consider gold an auspicious metal. which has also resulted in a significant rise in gold sales in these regions. The most important of these is Diwali. which marks the beginning of the Hindu New Year and usually takes place in October or November. She is depicted as a beautiful woman of golden complexion. Akshaya Thrithiya has become a major gold-buying occasion in the South of India. Over the past five years. the idea has been promoted across the North and West of the country. with gold coins flowing from her hands. which they like to buy or gift during religious festivals. Gold has the added virtue of being an inflation hedge. it is customary for the parents of a baby girl to start accumulating gold for this purpose soon after the child is born. 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. where around 70% of the population lives. Gold is also viewed as a secure and easily accessible savings vehicle by the rural community. Since it is suggested that those who worship her gain wealth. 23 . wedding-related demand is big business. dressed in gold-embroidered red clothes. Much of this demand takes place in the wedding season. 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. as Hindu tradition dictates that the family‘s assets are only passed down to sons. The association between gold and ―auspiciousness‖ has been used in recent years to promote the idea of buying gold. where sales have reached record levels. has also become an important day to buy gold. and April and May. though a good many purchases will be made well in advance of the wedding. whereas she may not be privy to the family‘s other financial affairs. Since 2005. Most of this will be a gift from her parents as a way of giving her some inheritance. Purchases on this day are considered auspicious (it is the third most auspicious day in the Hindu calendar). especially in the State of Tamil Nadu. which falls between October and January.
Gold sales were broadly stable in the three years that followed. During the first period. 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. India is now the fifth largest economy in the world (on a PPP basis) having posted average annual growth rate of 6%p. A noticeable feature of India‘s development has been the strength of its domestic economy relative to most emerging markets in Asia. something which is changing theface of retailing and will affect traditional gold retailers. and 20022005. 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.more than four times the 22 million square feet estimated in 2005. which has allowed the economy to start reaping the benefits of globalisation on a truly massive scale. The economy shows no signs of slowing either. Shopping centres are starting to spring up across urban India. when sales were broadly stable in value terms.224-316 billion a year. Sales in tonnage were more volatile over the period. which has accounted for the lion‘s share of growth over the past decade. The higher variability of volume as oppose to value spending is a function of both the retail price setting mechanism in Indian. thanks to the progressive liberalisation of its economy and the consequent inflow of foreign direct investment.Recent Economic Trends The Indian economy has enjoyed rapid growth over the past decade. Spending was especially strong in 1998 thanks to the release of pent up demand following the removal of import controls in November 1997. as well as the origins of demand. The country‘s $200 billion retail industry is changing.a for the past decade. 24 . spending averaged Rs. with the mergence of new large-scale retailing. held back by relatively weak income growth. when sales accelerated strongly. This is particularly true of consumer spending. averaging 709 tonnes and fluctuating between 506-810 tonnes.284 billion per annum and fluctuated in a relatively narrow range of Rs.
with spending increasing from Rs. when gold demand rose steadily from Rs. as was the case in Q1 2006. 25 . the value of gold sales is often quite price inelastic. who will usually purchase acertain monetary value of gold each month.15. The same message would seem to come from H1 2006‘s experience. Consumers are wary about purchasing when the price is volatile for fear that they buy and then find the price falls. especially where gold is being used as a long-term savings vehicle.The price of jewellery changes in line with changes in the international market price in India. with each item weighed then priced according to the prevailing daily market rate.026 to Rs. which is supporting discretionary spending on consumer goods. Last year. as India continues to attract large volumes of foreign direct investment. especially into the outsourcing and IT sectors.19. The retail mark up is also normally relatively small in relation to the value of the piece. What does seem to adversely impact on demand is a pick up in the pace of daily price fluctuations or volatility. as gold price volatility spiked upwards. when the value of spending fell by 7%.276 billion to Rs. 473 billion in 2005. Indeed. More workers are moving from low income to middle and high income quartiles. 276billion in 2002 to Rs. Indians are enjoying a rapid acceleration in income growth. Still. 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 2005.473 billion (or 571 tonnes to 750 tonnes)despite a coincident rise in the gold price from Rs. including gold. A prime example would be the parents of a baby girl saving for a future Streedhan. 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.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. although the volume of gold they can afford each year will rise and fall with the price. The main theme of the past few years has been a solid upswing in gold sales.599. That Indian demand is not necessarily adversely impacted by rising prices is clear from the experience of the past few years (2002-2005).
Of course. such as mobile phones and home computers.economic changes will be positive for gold sales. 30 million and 3 million respectively by 2015. it seems likely that the net impact of these socio.estimated 110million households were earning between $10-30K. combined with a significant increase in their personal wealth. with households increasingly demanding all the conveniences of the modern world. especially with the relevant marketing initiatives targeted at India‘s new affluent young middle class. However. gold must compete with a growing desire for other luxury goods too. Recent experience supports this premise. 87% and 200% in real terms to 167 million. found that the increasing independence of woman in developing countries and shifts in attitudes and behaviours. expects the number of people earning between $1330K. A recent WGC study. an economic forecasting agency. while tastes are becoming more international. has meant that gold has become a more relevant and desirable product to a greater number of women. 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. young middle class Indians are more willing to spend than their parents‘ generation was. as there is a much bigger pool of money available. $30-80K and $80K+to increase by 52%.Social trends are also changing. Global Insight. with the rise in gold sales outstripping the rise in general retail spending indices. including India. These socio-economic changes have led to enormous growth in the potential market for gold jewellery. conducted across six key gold markets. 16 million between$30-80K and just short of a 1 million earning over $80K. Equally importantly. 26 . 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. More women are seeking their independence by entering the workforce.
leading to more skewed income distribution. has contributed to gold as store of value. The next major development is likely to be the arrival of Exchange Traded Funds(ETFs). the two largest being he Multi Commodity Exchange of India Ltd(MCX) and the National Commodity and Derivatives Exchange Ltd NCDEX). small savings. The increase in the irrigation.Factors Influencing Demand for Gold Following are the factors influencing the demand for gold. Indians bought 102 tonnes of gold coins and bars. the demand for gold as a store of value can be expected to rise. 27 . Ways to buy gold Traditionally most investment has taken the form of physical gold. 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. Hence income generated in these service sectors can be treated as a determining variable Since bank deposits. etc are alternative avenues for investing savings. But there are new ways toinvest in gold. Inflation redistributes incomes in favour of non-wage income earners. like real estate and public sector. expected before he end of 2006. Mutual funds. Since October 003 the government has allowed futures trading and there are now three futures exchanges. technological change in agriculture (through mechanization and high yielding varieties). 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. Black money originating in the services sector. and to buy and sell that interest through the trading of a security on regulated stock exchange. These instruments give investors a relatively cost efficient and secure way to access the gold market. have generated large marketable surplus and a highly skewed rural income distribution is another factors contributing to additional demand for gold. In 2005. With incremental income of non-wage earners.
had hit a trough in the 2001 fiscal with volumes crashing by over 50 per cent to less than 140 tonnes.Major Markets in India Mumbai Mumbai is the major wholesale trading centre in India. Mumbai was losing its shine due to high sales tax of 2% prior to April 2002. Ahmedabad The bullion market of Ahmedabad. Delhi prices command some prominence in some parts of the country. price quoting in Mumbai market is taken as reference price in most other parts of the country. Delhi Delhi is another major gold market in the country. 28 . the Ahmedabad bullion juggernaut has slowed down perceptibly to Rs6000 crore worth of business in the last fiscal. Delhi Gold market constitutes about 15% of total Indian gold trade. In rupee terms. However. Delhi was gaining prominence when Mumbai was loosing its shine. which at 280 tonnes accounted for a high 40 per cent of the entire country's 700-tonne market in 2000-01. but the rationalization of the local taxes in Maharashtra in April 2002 which brought sales tax level to 0. Still Ahmedabad is considered one of the important bullion markets in the country. became the largest landed destination in the country for the yellow metal after the Gold Control Act was scrapped in 1991-92. The physical delivery in bullion for the both NCDEX and MCX also generally takes place in Ahmedabad. after the VAT implication in Rajasthan and Gujarat there should not be major difference in the tax structure.The Gujarat bullion market.000 crore worth of transaction in the previous year. 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. Mumbai and Ahmedabad together account for about 45% Indian gold trade.
would have cost $ 2. India‘s demand will continue to be satisfied almost entirely from imports. For instance.32 in 2003. continue to boost discretionary spending on gold. In the Indian context. the decline in scrap supply in 2005. in tandem with new successful marketing campaigns.68 in 2002 and $363. very little supply comes from domestic sources.Above ground stocks Supply from above ground stocks is much more important in India. in the face of high prices and generally good economic conditions. 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. with the main source of domestic supply coming from recycled jewellery. as aside from the scrap market. intermediates and capital equipment) needed for current production and to expand productive capacity. Over the past five years. However the foreign exchange used for importing it in effect reduces the availability of this resource for other imports (including raw materials. 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). Economic Implications of Gold Imports Gold by it self does not add much to production or productive capacity. Scrap supply is sensitive to general economic conditions.2 billion. India‘s imports at the prices prevailing in the world market at that time. Price expectations also matter. Indians have recycled an average of 105 tonnes of gold per annum. Mean while. the price of gold and price expectations. thanks to the influx of foreign capital. (Equivalent to about one fifth of exports and one sixth of imports). equivalent to about one eighth of merchandise exports and 8 percent of merchandise imports and the corresponding figures for 1997 was $ 7.5 billion. 29 . the magnitude of FOREX expended on gold imports has been large and growing in 1970. India looks poised to remain the world‘s foremost gold consumer in tonnage terms for many years to come. as well as a higher high gold price the gold price averaged$309.In summary. rapid income growth. notwithstanding temporary fluctuations associated with spikes in price volatility. should. is attributed to expectations of still higher prices6.
a large part of it is held in the form of bars. 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. Altogether from country‘s point of view. But this function does not in any way dilute its advantage as liquid. not all gold is held in the form of ornaments. So far Gold is treated as ornament. the availability of FOREX for other purposes and the health of the balance of payment. it can be treated as durable consumer good.Prior to 1992. Their continued rapid growth can have significant consequences in the terms of scale and functioning of the hawala market. gold imports being illegal were financed by the proceeds of under invoicing of the exports.000 tons valued at current price at $ 165 billion. The other characteristics of gold are that it is a highly liquid store of value. Clearly they. Though it does not earn any interest and though it is no longer used as the standard for fixing currency values. as well as the resources needed for the still substantial smuggled gold. 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. The nature and sources of the latter are not indicated for lack of information. In any case. over invoicing of imports. 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. These transactions did not figure at all in the country‘s trade or payment statistics. are no different from FOREX holdings. 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. risk free asset. 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. must have been derived from one or the other of the extra legal sources cited earlier. 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 . gold‘s holding whether in the form of bars or ornaments. After 1992. 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.
Whereas thirty years ago. although in the Middle East coins and small bars are often incorporated into jewellery. the value of additions to gold stock accounts for over 20% of private noncorporate sector‘s investment in financial instruments. 4. and this bias has been increasing from the last two decades. Private investment holdings amount to just under 25. India lost an estimated Rs6000 crores (Rs 60 billion) of foreign exchange. It is significant that during the last five years. The amount of duty released from gold imports indicates an annual figure varying from Rs. If accumulating gold.1000 to Rs. is no different from accumulation of FOREX reserves or investment in foreign financial assets.220 per ten grams upto January 1999. As a result. Smuggling gradually came down when the duty was reduced to Rs250 per ten grams on April 2001 and subsequently to Rs100 per ten grams.000 tonnes. a substitute for investment in other assets. GOLD AS AN INVESTMENT INSTRUMENT Of all the precious metals.2. gold is the most popular as an investment. private and public-sector holdings. 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. in real sense. Exclusion of gold from the estimates of domestic savings thus understates the household and overall domestic savings rate. More interestingly the location of the bulk of these holdings is believed to have shifted.5. in principle. The more so because investment in gold. Investment demand can be split broadly into two. Private sector holdings come in the form of bars and coins. and does not detract from this feature.000 crore per annum since 1997. Unlike jewellery. which is held at least in part for decorative purposes. these holdings are purely a store of value. then they must be properly counted as part of the economy‘s savings.after which it was increased to Rs400 per ten grams. a substantial portion of 31 . this led to increased gold smuggling. Of course. it is important to such a context. a figure that has been growing slowly over time.assets is another matter. Tariff Structure The import duty on Gold was Rs.
including the United States. 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. These differences can partly be explained by the way in which reserves are viewed nationally. or where trust in the government is low. gold is attractive as a store of value which is portable. the overwhelming majority is now thought to be held in other parts of the world. the prime attraction of gold is as an investment which has very low or negative. and the way in which decisions on reserve policy are taken. There have been substantial sales. particularly if his position is more than. inaccessible or insecure banks. There have also been confirmed buyers. Reasons for holding physical gold vary widely. correlation with other assets. In countries with a stable political and financial system. 10.000 ounces. the International Monetary Fund and France. Switzerland and the UK. anonymous and readily marketable anywhere. say. Germany. Given the size of official reserves relative to consumption levels. it does not need to be held in physical form. the Netherlands. the largest being Taiwan and Poland. and which may hold or increase its value if for some reason investors flee from purely financial assets like bonds and equities. The stability has been particularly marked among the larger holders .this was held by Western investors. Current holdings by different countries are quite diverse both in terms of absolute quantity and as a proportion of their total external reserves. most notably by Argentina. 32 . Canada. In addition he will save on the storage costs. Gold holdings twenty years ago are a good predictor of a central bank‘s holding today. The investor could hold gold-linked paper assets or could lend out the physical gold on the market. Australia. suffice to observe here that an investor who wants exposure to gold. Belgium. If gold is held primarily as an investment asset. While proper discussion of the gold lending market is reserved to the second chapter of the report. In markets with poorly developed financial systems. the possibility of changes in policy has had a substantial impact on the gold price. and also by the very large size of reserves relative to the underlying flow of production and consumption.
It is decided to only count physical bullion coins and bars. 1oz bar. In addition. to complicate matters still further. such as the Tael. Alternatively. For example. private investor metal account holdings are included. as the part of the former would be lent out. 10g.15072 Troy ounces).. The problem with such a definition is that it is highly subjective as well as excessively elastic. In counting such bullion. Bars The most traditional way of investing in gold is by buying bullion gold bars. these can easily be bought or sold "over the counter" of the major banks. impractical. This would include so-called ―investment jewellery‖ (generally high carat.5kg or 1kg bars (1kg = 32. In some countries. changing tastes in jewellery and the shift to lower-carat articles in some parts of the world. 10oz. Making an allowance for this is. low mark-up jewellery purchased with an investment motive). one is dealing with a dynamic situation. Austria. although many other weights exist. however. like Argentina. Theoretically in the latter case. Finally. however. makes it impossible on a systematic and regular basis to measure ―investment jewellery‖ demand worldwide.Investment vehicles Retail Gold Investment The definition excludes so-called ―investment jewellery‖. or 1 33 . Liechtenstein and Switzerland. the definition of retail investment demand excludes all institutional investment. for example in Europe these would typically be in 12. The broadest definition of retail investment would incorporate any private sector demand for gold that was not related purely to adornment or industrial purposes. with these in turn defined by the standard adopted by the European Union. Bars are available in various sizes. It is subjective because purchase-motive is extremely difficult to measure on a scientific basis. there are bullion dealers that provide the same service. For example. where highcarat was formerly predominant. there could be a problem with unallocated as opposed to allocated gold holdings. wedding-related demand for high-carat jewellery in India has an important investment motive but it is also purchased for adornment.
 It seems that the gold bars are primarily sold as kilo bars rather than 1-oz gold bars. Gold bars for sale include 1-oz gold bars.9999 fine (99. actually consists of the PAMP hallmark on the gold bars. Because of the many difficulties of transporting. 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. PAMP kilo gold bars usually come with certificates. One of the most popular gold coins is the American Eagle bullion coin.99 pure.see 'Accounts' below. Again. The American Eagle coins contain a stated amount of pure gold and are made in four denominations. kilo gold bars. 10-oz gold bars.).9999 fine (99. by the Department of Treasury. and 100gram gold bars. All these gold bars are . plus a premium above the gold spot price. storing and verifying pure gold bars. an increasingly popular method of investing in gold bars for the small investor is via allocated holdings using a gold account . the large Swiss and Liechtenstein banks buy and sell these coins over the counter. Gold bars can be held either directly (i.Tola.99% pure) and contain 32. Kilo gold bars are . due to the fact that they are much easier to store. Bars are increasing in popularity as investment vehicles.e. Typically bullion coins are priced according to their weight. which is guaranteed by the United States Government and has been in circulation for over 300 years. 34 . The most commonly available kilo gold bars are the PAMP and the Royal Canadian Mint (RCM) gold bars.15 troy ounces each.  The PAMP certificate Coins Buying gold coins is a popular way of holding gold. as they carry lower premiums than gold bullions. RCM bars do not come with either protective cases or certificates. held directly by you or in your own safe) or indirectly (held in a safe deposit box or bank vault on your behalf).
¼ and 1/10 ounce sizes.  Exchange-traded funds Gold exchange-traded funds (or GETFs) are traded like shares on the major stock exchanges including London.000 shares). so the amount of gold in each certificate will gradually decline over time. The first gold ETF.916 and have a face value of $50. Typically a small commission is charged for trading in gold ETFs and a small annual storage fee is charged. These US gold eagle coins are also minted in ½. was launched in March 2003 on the Australian Stock Exchange. Gold Bullion Securities (ticker symbol "GOLD"). insurance.103 grs). 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. the Creation Units are split up and re-sold on a secondary market. Usually. New York and Sydney. without the inconvenience of storing physical bars. but that differ from traditional open-end companies and UITs. instead of storing the actual gold bullion. The actual gold content of these coins is 1. They were first issued in the 17th century when they were used by goldsmiths in England and The 35 . or ETFs. are investment companies that are legally classified as open-end companies or Unit Investment Trusts (UITs). the Creation Units may not be purchased with cash but a basket of securities that mirrors the ETF's portfolio. Gold certificates allow investors to buy and sell the security without the inconvenience associated with the transfer of actual physical gold. and originally represented exactly one-tenth of an ounce of gold. Also. Exchange-traded funds. Gold ETFs represent an easy way to gain exposure to the gold price. The annual expenses of the fund such as storage.The standard gold eagle coins have a fineness of 0. Gold certificates may be described as the first paper bank notes. Certificates A certificate of ownership can be held by gold investors.0 troy ounce (31. and management fees are charged by selling a small amount of gold represented by each certificate.
Nowadays. In India. In the early 1930s the US Government restricted the private gold ownership in the United States and therefore. Different accounts impose varying levels of intermediation between the client and their gold. In the U. currently trade on various exchanges around the world and over-the-counter (OTC) directly in the private market. futures and options.. and NYSE Liffe US.Netherlands for customers who kept deposits of gold bullion into their safe-keeping. CFDs and spread betting Derivatives. Digital gold currency accounts and the BullionVault gold exchange work on a similar principle. CMC Markets. gold futures are primarily traded on the New York Commodities Exchange (COMEX). the gold certificates stopped circulating as money. IG Index and City Index. all from the UK. Bailment is the legal action of a client entrusting their physical property to another party for safekeeping. Two centuries later. the gold certificates began being issued in the United States when the US Treasury issued such certificates that could be exchanged for gold. gold certificates are still issued by gold pool programs in Australia and the United States. a division of the New York Mercantile Exchange (NYMEX). 36 . Accounts Most Swiss banks offer gold accounts where gold can be instantly bought or sold just like any foreign currency. provide contract for difference (CFD) or spread bets on the price of gold. Firms such as Cantor Index. gold futures are traded on the National Commodity and Derivatives Exchange (NCDEX) and Multi Commodity Exchange (MCX). Gold accounts are typically backed through unallocated (fungible or pooled) or allocated (also known as non-fungible) gold storage. The United States Government first authorized the use of the gold certificates in 1863. Derivatives. for example through bailment or within a trust. and paying for the service.S. such as gold forwards. as well as by banks in Germany and Switzerland.
The proceeds of this sale are invested and earn interest at money market rates. In this case the bullion bank. With respect to producer hedging. In essence it mobilises metal inventories by bringing this metal into the active market. contracts to buy gold forward from a speculator (eg a hedge fund or a bank‘s proprietary trading desk). However.Gold derivatives: basic principles In its most simplified form. 2. the producer delivers either newly-mined gold or gold purchased in the market to the bullion bank at the contract price. the bullion banks sell an equivalent amount of gold borrowed from central banks. the bullion banks contract to buy gold forward from mining companies. more commonly. 4.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. When the forward sale comes to delivery. 37 . In theory. the borrowed gold is sold. Thus under these conditions. this can place pressure on the gold price. instead of contracting to buy gold forward from a mining company. the bullion bank then repays its borrowed gold to the central bank and the transaction is unwound in its entirety. the transaction can be described as follows: 1. which effectively adds to supply in the very short term. 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). It is this liquidity which then allows for the execution of all further derivative transactions. the central bank rolls over the loan. To fund the purchase. 3. thus maintaining the liquidity to fund further derivative transactions. This is why hedging of this nature is sometimes termed ―accelerated supply‖. To fund the transaction it once again sells the gold borrowed from the central bank and invests the proceeds on the money market. In the absence of compensating factors.
The existence of an active lending market with rather stable and low interest rates is quite typical of financial assets. Investors buy an asset if its risk adjusted return is higher than the market. 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.What is special about investing in gold? Gold is in many ways more like a financial asset than a commodity. All these features of financial assets help ensure that the growth of a derivatives market is unlikely to have a destabilising effect on prices. From this perspective it is not surprising that gold. But there are reasons for doubting that the elasticity of demand for gold is so high. which pays no dividends or coupons. If gold behaves like a typical financial asset one would expect it too to have a very elastic price schedule. 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. most of which are very close substitutes for each other. large changes in holdings can be accommodated with very little shift in prices. In classic portfolio theory. Most of the gold that has ever been produced is still available and could come back to the market under appropriate conditions. The pattern of investors who hold gold is not like that for other financial assets. The lending market for gold is also far more developed than for a typical commodity. 38 . and buy or sell the underlying asset. If a derivatives market does make it easier for producers and speculators to sell gold short. Liquid bonds can be borrowed at a rate only a small premium to their running yield. Even if the derivatives market causes investors to rebalance their portfolios. In many markets equities can be borrowed at a rate which is only a small margin above the dividend yield. gold is bought to be stored or kept rather than to be consumed. but like financial assets. or that a moderate reduction in expected returns on gold would cause most holders to liquidate their portfolios. demand depends not on the price of the asset but on its expected return. Demand for individual financial assets tends to be highly elastic. Unlike most other commodities. then a small price reduction would suffice to attract new investors into the market to take the opposite side of the transaction. Most private and institutional investors hold little or no gold. There are very many different financial assets. can be borrowed at a rate close to zero.
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. For these investors. This means that the price elasticity of demand is close to unity. 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. For example. 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. 39 . Their response to changes in expected returns may be relatively small.Gold is also unlike a financial asset in that there is substantial consumption demand for gold. since a 10% increase in the gold price will reduce the volume of gold bought by 10%. gold is not readily substitutable by other assets. While it is hard to separate consumption and investment motives for purchasing jewellery.
A chief measure of price inflation is the inflation rate. inventories and durable consumption. as the capital required to retool companies becomes more elusive or expensive. 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. each unit of currency buys fewer goods and services.1.6. but their predictive power has been found to hold only for some periods. or may lead to reductions in investment of productive capital and increase savings in non-producing assets. High inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future. uncertainty about future inflation may discourage investment and saving. 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. When the price level rises. selling stocks and buying gold. 40 . and only for certain countries. This can reduce overall economic productivity rates. GOLD IN CORRELATION WITH THE ECONOMIC INDICATORS 4. Inflation's effects on an economy are manifold and can be simultaneously positive and negative. Financial asset prices have also been found to possess useful leading indicator properties since their rates of return should embed inflation expectations. Variables such as exchange rates.6. Positive effects include a mitigation of economic recessions. to name but a few. Negative effects of inflation include a decrease in the real value of money and other monetary items over time. e. the annualized percentage change in a general price index (normally the Consumer Price Index) over time. consequently. and debt relief by reducing the real level of debt. 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.4.g. Several leading indicators are monitored by central banks and other agents in the economy in order to forecast the inflation rate.
106131. We can visibly infer that the correlation between the gold returns and the inflation differential is negligible.00 30.00 -20.00 change in inflation -10.1. 4. Therefore we can safely assume that there is no prominent relationship that exists between gold and inflation. FIGURE SHOWING THE RETURN ON GOLD AND THE CHANGE IN INFLATION 40.037945.00 0.037945. To get the correlation between the gold and the inflation the percentage changes were considered compared to the previous year. Further the calculation of the regression gave the Beta as 0.00 Gold price 10. indicating that with every one point of change in the gold price there is a very minimal change in the inflation (CPI) of 0. 41 .00 20. with peaks in the gold price tending to lead peaks in the CPI.00 The above graph shows the movement of returns on gold and the differential inflation 1981 to 2009.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. The Correlation between the returns on gold and the differential annualised inflation CPI (with the base year of the year 2000) is 0.
6. import growth averaged at 43. iron and steel. Reflecting the increase in gold prices and the higher volume of gold imports on account of the economic recovery.9 per cent a year ago. after declining since December 2008 for eleven months.0 per cent. oil imports have increased during the recent period. gold and silver. GOLD V/S IMPORTS India‘s imports. which resulted from lower international crude oil prices during the period and slowdown in domestic economic activity. witnessed considerable growth. exhibited reversal in trend in November 2009 with an increase of 2.4. 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. pearls. The commodity-wise imports during April-September 2009 indicated slowdown in non-POL imports. reflecting domestic supply constraints and higher prices 4. 42 . during 2009-10 (AprilFebruary). imports recorded a decline of 13.21502 is the correlation that exists between the returns on gold and the differential imports of India.3.6 per cent.4. precious and semi-precious stones. chemicals.5 per cent in contrast with a growth of 25. The uptrend in imports continued through February 2010. Imports of edible oil and pulses. however. which was mainly due to sharp decline in imports of capital goods. Between December 2009 and February 2010. Cumulatively.
First compiled in 1986. 2003. The base year of SENSEX is 1978-79 and the base value is 100. liquid and representative companies. 128 years of experience seems to be a proud milestone. Mumbai" by paying a princely amount of Re1. 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. Right from early nineties the stock market witnessed heightened activity in terms of various bull and bear runs.Since then. STOXX. The journey in the 20th century has not been an easy one. The Stock Exchange. The SENSEX captured all these events in the most judicial manner.4. there was no scale to measure the ups and downs in the Indian stock market. the level of index at any point of time reflects the Free-float 43 . The index is widely reported in both domestic and international markets through print as well as electronic media. SENSEX is not only scientifically designed but also based on globally accepted construction and review methodology. 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 a basket of 30constituent stocks representing a sample of large. GOLD V/S SENSEX For the premier Stock Exchange that pioneered the stock broking activity in India. S&P and Dow Jones use the Free-float methodology. Mumbai (BSE) in 1986 came out with a stock index that subsequently became the barometer of the Indian stock market. the country's capital markets have passed through both good and bad periods.6. As per this methodology. The growth of equity markets in India has been phenomenal in the decade gone by.4. Till the decade of eighties. All major index providers like MSCI. The "Free-float Market Capitalization" methodology of index construction is regarded as an industry best practice globally.
It keeps the Index comparable over time and is the adjustment point for all Index adjustments arising out of corporate actions. replacement of scrips etc.market value of 30 component stocks relative to a base period. During market hours. are used by the trading system to calculate SENSEX every 15 seconds and disseminated in real time.5. 4. Therefore it is apparent that the effect of gold prices in negligible when it comes to the BSE SENSEX. prices of the index scrips.178412. which is not a very strong relationship. This market capitalization is further multiplied by the free-float factor to determine the free-float market capitalization. The Divisor is the only link to the original base period value of the SENSEX. The regration of the gold returns to that of the BSE comes up to 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. 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 . 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. at which latest trades are executed. The base period of SENSEX is1978-79 and the base value is 100 index points. This is often indicated by the notation1978-79=100.069205. The market capitalization of a company is determined by multiplying the price of its stock by the number of shares issued by the company.
740537. starting with the Hedge Fund and Asian crises. This is because in a booming economy where silver has a number of industrial uses. During the period between 1990.1998. Gold began to be accumulated more than Silver. Gold relative to Silver increased in value. Gold Mumbai Rupees per 10gms. GOLD V/S SILVER The prices of gold & silver are viewed differently in different market environments.5. 45 2006-07 . doubling from 40 times silver in 1998. From early 2004 to now. which is about where we are now. FIGURE SHOWING THE RETURN ON GOLD AND 70 60 50 40 30 20 10 0 Silver Mumbai Rupees per kg. the commodity was considered to be much more valuable to gold & hence preferred to gold. 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. As fear replaced confidence. From 1998 through 2008.6.6. the Gold. through the start of the Iraq war. 4. Here we can clearly see that the interrelationship between gold and silver is quite strong. stabilizing and narrowing towards a mean of 60. the price of silver was rising consistently.4. Suddenly Gold as money was deemed an important crisis commodity. through the Y2K scare and the economic collapse of 2000. to 80 times silver in 2003 & 60 times silver in 2005.Silver ratio varied between 50 and 70.
in theory. The Reserve Bank of India (RBI) holds 357.75 tons of gold forming about 6 per cent of the current value of its total foreign exchange reserves. The original RBI Act (1934) obliged the Reserve Bank to hold 40% of its assets in gold coin. Role of Gold in Indian Economy India is the world‘s largest gold market in volume terms. Sales have averaged 676 tonnes per annum over the past decade Indian gold demand is firmly embedded in cultural and religious traditions. 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.5. Findings Gold Standards The gold standard is a monetary system in which the standard economic unit of account is a fixed weight of gold. and official international institutions. have been major holders of gold for more than 100 years. limits the power of governments to cause price inflation by excessive issue of paper currency Gold as a Reserve Asset Central banks. FINDINGS AND CONCLUSION 5. Gold can play a crucial and strategic role in central bank reserve mobilisation in case of need. The main producers of Gold are Hutti Gold Mines and Bharat Gold mines Ltd 46 . 400 million in value held in gold.1. with not less than Rs. Traditionally most investment has taken the form of physical gold. gold bullion and foreign securities. one that has expanded considerably during its period of liberalisation.
Private sector holdings come in the form of bars and coins. 47 .21502 is the correlation that exists between the returns on gold and the differential imports of India. Gold V/S Silver The price relationship with silver is 0. Investment vehicles o Bars o Coins o Certificates o Exchange-traded funds o Accounts and o Derivatives.069205. which is not a very strong relationship. Here we can clearly see that the interrelationship between gold and silver is quite strong.106131.Gold as an Investment Instrument Gold investment demand can be split broadly into two.178412.740537. 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. private and publicsector holdings. 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. Gold V/S Imports 0.
as emotional sentiments play a major role where gold is considered. 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 gold prices do not really indicate the course of the economy. Through the studies done in tis report we can conclude that the gold price is not the best of the indicators of the economy. as gold is perceived as an hedging instrument. its rise to its eventual fall. 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 . The same thing holds true for the relationship between gold returns and the returns on SENSEX.5.2. 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. Not only economical but also culturally. Conclusion Throughout the report we can clearly make out the importance of gold in India.