Although gold imports through official channels has declined, unofficial channels are making good of the the vast, inelastic demand for gold which is fuelling the high domestic prices premium. Concomitantly, there has been a steep rise in seizures by the Directorate of
Revenue Intelligence (DRI). While there was no seizure of gold in the total seizures made in FY11, in FY12 gold accounted for 3% of the seizures and 8% in FY13. This speaks volumes of the negative externality that the gold import curbs have created. Drawing inference from the latest media reports, DRI officials estimate gold smuggling to the tune of 500 kg per day (182 tonnes a year) hapenning.
This implies a monthly expenditure of R4,500 crores! As per the World Gold Council November 2013 report, in the first eight months of FY14, India has already imported 450 tonnes and, with festive demand in the fourth quarter expected to be strong, the unofficial channels will relentlessly cater to this demand.
The massive diversion of household investible surplus into gold, irrespective of the channel through which it has been procured is a matter of serious concern. A close look at these trends reveals that the immediate solace on CAD figures attributed to the drop in gold imports may be short-lived. The comfort is ill-founded on three countsfirst, the trade data for gold is highly distorted on the account of over-invoicing of imports. For example, total imports of gold from Switzerland in 2012 were $26 billion while the corresponding export figures, made by Switzerland to India, is just $6 billion! Extrapolating similar trends in other commodities implies that the official CAD need not reflect the true CAD to the extent of such discrepancies. In fact, the
Financial Action Task Force survey in 2006 concluded that most of the customs agencies inspect only 5% of the cargo shipment entering their jurisdiction; the fact that the present machinery, not only in India but across the globe, is highly inadequate to assess the menace of over-/under-invoicing of shipments only strengthens our argument.
Second, the official national income figures, by construction, exclude smuggling. Hence, if one were to make a realistic assessment of the CAD, we may have to augment the standard saving-investment (S-I) identity for open economysavings minus investments equals CADfor smuggling. As argued above, the diversion of household investible surplus into gold will have the effect of reducing financial savings (S). The gold imports, under the present accounting treatment (which is itself debatable), are recorded as investments under a separate heading valuables. When augmented for smuggling, the S-I gap in the LHS will be higher because the unofficial gold imports will add to the official estimates of valuables thus increasing the S-I gap and the same will be mirrored in the CAD. The official CAD, therefore, represents a lower bound on the true CAD, albeit with considerable band of uncertainty to the extent of trade mispricing.
Lastly, with R4,500 crores of monthly purchases as DRI suggest, it is reasonable to assume that there is an organised parallel market in FX which caters to financing such operations. The domestic unofficial supplier who receives rupee must convert the same in some foreign currency to pay his foreign supplier for there is hardly any domestic production of gold in India. Thus, for e.g., the dollar-rupee unofficial rate and official interbank rate will have a bidirectional causal effect. In fact, a recent RBI study on NDF suggest such bidirectional relationship between onshore and offshore rupee markets rates which becomes unidirectional at time of distress and offshore markets determine the domestic rates. To what extent does the presence of such a domestic parallel FX market affect the official interbank exchange rates and the threat that it poses to financial stability remains unexplored.
In conclusion, in assessing the cost-benefits of import duty on gold, one has to be more realistic and factor in the ramification of gold purchases through unofficial channels and its impact on CAD. We have shown that CAD is negatively affected when standard savings-investment identity is augmented for smuggling. The extent of how such operations are financed through parallel FX markets could endanger financial stability is an area that remains unexplored. On a net, it now appears the cost of the gold curbs might have outweighed the benefits.
Co-authored with Saket Hishikar, economist, State Bank of India
The author is chief economic advisor, State Bank of India. Views are personal