Calling FM's bluff: Why not ask RBI to sell its gold?
If Chidambaram really believes that gold is no different from copper or glass, why not ask the RBI to sell its gold and buy copper instead?
By Shanmuganathan Nagasundaram
After years of refusing to acknowledge the structural growth issues that have encircled the Indian economy, the Indian economic think-tank seems to be coming around to acknowledge the obvious. Raghuram Rajan, the Chief Economic Advisor, did not state anything more than the barest minimum that he could without sounding critical of the government, but he did indicate the necessity to deregulate the Indian economy in a recent interview.
As I have written before, the only way we can emerge out of the cycle of slowing growth and increasing consumer prices that we have created for ourselves is by a massive reduction of government expenditure, deregulation with a chain-saw and by increasing interest rates - that is, by following the basic economic principles of balanced budgets, limited government and sound money. There is no alternative to this solution and whatever else the government might try, will only backfire.
However, our Finance Minister P Chidambaram seems to believe that the problem lies elsewhere. As he said recently, "If we can have, for six months or one year, almost minimalgoldimports into the country, it will dramatically change the situation on the current account deficit (CAD) and we will see its positive impact on every other index that majors the economy, stock market, exchange rate, interest rates". He went to offer his expertise on gold by stating that "Gold is like any other metal; it only shines a bit more than copper or glass". He also offered his prognosis for the future by stating that gold is not a good investment and that one day people would realise the futility of buying gold.
I think Chidambaram couldn't be more wrong if he tried. But that's not the point that I want to emphasise in this article: if Chidambaram does genuinely believe that gold is like any other metal and that Indian import of gold is the main problem confronting the economy, and stopping this import is the solution to all our ills, the solution is fairly straight-forward.
The RBI has an estimated 550 tonnes of gold in its reserves. So instead of importing gold to meet the needs of citizens for the rest of the year, the RBI can sell the gold it is holding in its reserves to citizens. With the rupees raised, it can do an even better job of suppressing interest rates by buying government bonds. Even more attractive is the fact that there is no change in its balance-sheet, as it will be substituting one asset class with another. And going by Chidambaram's advice, the RBI is substituting a dumb non-productive metal with a government bond that would help the government do whatever it wants to do.
In doing so, citizens would get the gold they want, Chidambaram would get a lower CAD and the credit for the accompanying economic miracles, and the RBI can achieve lower interest rates. It's a win-win situation. What more can we all ask for?
If, for some reason, the RBI doesn't want to substitute the gold for bonds and prefers a hard asset, it can buy copper and glass by selling the gold - and hopefully, we can produce the copper and glass within our country. Not only will this reduce the CAD, it will stimulate the economy by creating additional demand for copper and glass. It could also stimulate the demand for construction to store copper and glass. What say Dr Subbarao?
If, for whatever reason, the RBI still wants to own gold, it can always buy long-dated futures contracts or exchange-traded funds by paying a fraction of the amount it would raise by selling the gold. Still, the CAD would go down, the RBI would have a claim on the gold (something that they have advocated themselves in asking citizens to buy ETFs instead of physical gold) and they can play in the bond markets as well. Or if they do not believe in futures, they can always lease the gold to the equivalent of bullion banks in the US and even show an income on the leased gold.
In any of the three options above, the CAD would go down, and as Chidambaram seems to believe, get the economy back on rails. In any case, if gold is nothing more than a barbaric relic, what is it doing anyway in the sacred vaults of the RBI?
Just to make it abundantly clear, I don't think any of the above suggestions can even be remotely considered as "wise". But these actions would be consistent with the talk that the government has been indulging in. So why not walk the talk? If Chidambaram is not doing the above, should we the citizens not know why he is not doing it? After all, the solution to solve the vexing problem of CAD, growth, inflation, tanking stock markets, weakening currency and all that seems be a very simple one.
Shanmuganathan "Shan" Nagasundaramis the founding director of Benchmark Advisory Services - an economic consulting firm. He is also the India Economist for the World Money Analyst, a monthly publication of International Man. He can be contacted email@example.com
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