Tax sops for pledging gold, higher import duties, demands RBI

Concerned over gold's impact on India's current account deficit (CAD) which has soared to all-time high, RBI today suggested higher customs duties on import of the precious metal and tax sops for pledging gold with banks.

The Reserve Bank's suggestions came on the day when Finance Minister P Chidambaram said the government is considering steps to make gold imports more expensive.

Pointing out that large gold imports are adversely impacting the CAD, a draft RBI report said there is a need to moderate the demand for gold imports, as ensuring external sector's stability is critical.

"There is a need to moderate the impact on the current account deficit. Fiscal measures to reduce the gold imports may be revisited," said a report of the Working Group on Gold.

Coming out with large number of recommendations to deal with the rising gold imports, the panel suggested that banks need to design innovative financial instruments that can provide real returns to investors.

Recommending "introduction of tax incentives on instruments that can impound idle gold may be considered," the report said there is a need to convert both rural and urban demand for gold into investment in gold-backed financial instruments through dematerialisation of gold.

It has concluded that gold loans have a causal impact on gold imports substantiating the emergence of a liquidity motive for holding gold. Also, international gold prices and exchange rate "significantly and positively" affect the gold prices in India.

The report further said going by the past trends, "sharp sudden drop in gold price by 30 to 40 per cent is a remote possibility causing financial distress to gold loan NBFCs".

Gold import is a major constituent of India's rising Current Account Deficit (CAD). The CAD, which represents the difference between exports and imports after considering cash remittances and payment, widened to a record high of 5.4 per cent of GDP, or USD 22.3 billion, in the July-September quarter.

Referring to the macro issues related with gold, the report said the demand for gold in India is not strictly amenable to policy changes and also is price inelastic due to various reasons.

"Banks' role in canalising gold imports is important, but has been declining over the years. There is scope for reviewing the current incentives available for banks to deal with gold imports," it said, adding it is critical to ensure real returns to investors through various financial savings products, so that attention can be diverted away from gold.

Other recommendations include, limits on the volume and value of gold to be imported by banks; imposing export obligation on bulk gold importers; and need to thoroughly review the operational practices followed by gold loans NBFCs.

It further suggested that "banks may expand their gold jewellery loan portfolio to monetise the stocks of idle gold. The debate on setting up of a gold bank may be revisited".

Also, banks may continue retailing of gold coins and they may continue their role as nominated agencies in gold imports, RBI said, adding there is an imperative need to consider introducing new gold-backed financial products to unlock the hidden economic value in the idle gold in the economy.

RBI pitched for introduction of products like Gold Accumulation Plan, Gold Linked Account, modified Gold Deposit and Gold Pension Product.

The Working Group was formed following announcement for the same in the Monetary Policy Statement 2012-13.

The large rise in the gold loan business, the branch network of gold loan NBFCs, volume of loans disbursed and the quantum of bank borrowings raised certain regulatory concerns.

The RBI said the panel believes that providing real rate of return to investors through alternative instruments holds the key to reducing the excessive demand for gold.

There is also a need to increase monetisation of idle gold stocks in economy for productive purposes. Encouraging loans against the collateral of gold for productive purposes may be a way to do this, the panel observed.

It further said the financial performance of the gold loans NBFCs and the current level of their borrowings from the banking system are not of significant concern.

"Banks and NBFCs may continue to deliver gold jewellery loans, which monetise the idle gold in the country...It is time for consolidation of the operations of the gold loan NBFCs," the draft report said.

"The gold loan NBFCs need to transform themselves into institutions free of complaints, have proper documentation and auction procedures, with rationalised interest rate structure and have a branch network that is fully safe and secure," it said. RBI has sought comments on the report till January 18.

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