In the tumult of a highly fractious general election campaign in 1991, the then finance minister of India, Yashwant Sinha remembers having signed only one file?the scheme to pawn 67 tonnes of India?s gold reserves to pay for imports.
As Sinha describes it in his memoirs, the officials travelled to the minister?s constituency, Patna one evening in January, to get the papers cleared for India to mortgage some of its gold reserves to the Bank of England and the Union Bank of Switzerland. That decision immediately played up in public memory as the final signature of a party that had done the ?horrific act? of selling the family treasure and led to its rout at the polls.
Since then, India ran through at least one decade, forswearing never again letting a balance of payments crisis, loom at any cost.
This is surprising. If one would check out the role gold has played in the decisions of the government and the Reserve Bank of India in their conduct of the monetary policy, the role of the yellow metal has been quite nominal. The reference to the role of the government in the conduct of monetary policy is intentional, as in the first few decades, post independence; New Delhi did play a strong role in deciding on the conduct of the monetary policy.
So at one level, India is the gold souk of the world, other than of course the Sultan of Brunei. Of the total 800 tonnes of the metal traded in the world every year, India accounts for nearly 700 tonnes (till October this fiscal it has imported 510 tonnes). That consumption has however never meant much to the RBI in its conduct of the monetary policy. It has stayed off the market to buy gold; that is till last week when it became the first central bank in the world to buy 200 tonnes of gold from the IMF reserves to add to its own reserves.
Despite the convulsions created by the Indian transactions, the events of the mortgage and now the transfer were most tepid. When IMF will give the gold to India, no high seas flotilla will set sail with the metal to land at some fortified Indian port. The crates will not even move in the vaults. There will only be a corresponding change in the entries in the records at the IMF office in Washington DC and in Mumbai. The 1990s transaction was at least slightly more colourful. Some of the crates held in the name of the RBI at the Bank of England, moved across to another room.
There is a good reason why gold has not figured in the RBI calculations. From the time all the countries of the world migrated from the gold standard as the base to calculate the amount of paper money they can issue, gold has been useful only in Fort Knox, the place where most of the reserves of the central banks have been kept. USA was the last country to migrate from the gold standard in 1971. This means from that day, the promise mentioned on a dollar note, or for that matter in the Indian rupee was just a promise. Anybody who walked up to a bank cash window to ask for redemption of her paper currency, could just get back a freshly printed another piece of currency of similar denomination. The note did not entitle the holder to redemption in gold-the original purpose for which the representative money was issued. The value of the currency now is therefore the total national income of an economy. Not surprisingly the exchange rate of the currency against other currencies moves up and down in tandem with the rate of growth of the country?s economy.
After that small primer, it is easy to understand why gold has never figured in the RBI?s calculations of the total money stock in the economy. Even in 1947, if the bank was compelled to use gold as a leverage basis on which to run its printing presses, it would have been possible to issue far less bank notes than was in circulation in the economy. So the Indian economy would have been less monetised and would have created far more difficulty for each citizen to get cash to transact in the market. The implication would have been less business, therefore less job creation and consequently more poverty in the economy. Surely that is a high cost to pay for the fun of running the economy on the gold standard.
This equation is also the reason why gold has the least transformational value among commodities. When rich families bury the metal in their backyard it does not create prosperity for the family. Only when it transacts with the metal does the living standard of the family go up.
So the problem of gold in India was exorcised to the non-monetary level. Gold has impacted India as a fiscal problem and in the celluloid history. No respectable film villain has been able to establish his credentials for decades, unless he has posed with at least one crate of gold biscuit?the standard term for gold bars.
At the other level, India?s longest serving finance minister Morarji Desai ran a long and unsuccessful war to clamp down on gold imports. The policy created a one way street to riches for any one who dabbled in the metal. Since it was known that the government frowned on the imports and imposed punitive duty to stop the citizens from using it as their favourite mode of savings, holding of gold was sure to gain in value every fiscal. So every household and small time jewellers jumped into the racket of speculating against the government.
This was the root cause of the huge surge in import of clandestine gold into India, immortalised by the James Bond film Goldfinger. A simple change in the fiscal laws in budget 1992-93, by Dr Manmohan Singh legalising import of upto 5 kg of the metal into the country by NRIs, smashed that entire build up.
It was from that year, that gold prices in India and the rest of the world fell in tandem. Gold prices this year have moved up in India to be sure, but quite in sync with the rest of the world. It will also come down, once the global markets develop a sense of direction of which way the dollar will move.
The Indian gold story therefore shows how prudent market led policies eliminated a state controlled shortage of decades into a demand and supply led phenomena, that does not convulse the economy.
Globally too, the lesson that hoarding of gold does not make a country strong is best demonstrated by Spain, which lost the battle for imperialism to industrialising England three centuries ago, despite having the world?s largest reserve of the metal.