Wednesday, December 2, 2015


Indians love gold, and Indian governments find that galling. They come up with all sorts of schemes and tricks to make things difficult for gold lovers. This comment in Business World of 10 November 2003 relates to one such trick of Reserve Bank.

Underhand bowling

Politicians are well known for helping friends and benefactors and for being innocent of propriety. But Reserve Bank has kept its reputation more or less intact. It could not have been easy when politicians wanted banks to give loans to their sons, typists and peons. But they were all packed into agriculturists, small industrialists and such innocuous categories and absorbed into the system.
Those who respect Reserve Bank and its upright governor will be shocked at what it has done to gold trade. On October 1 it banned third-party imports of gold. For those more familiar with the old system of import controls, it is equivalent to imposing an actual user condition on gold importers. Ages ago, in the 1930s, anybody could import and export anything without asking for anybody’s permission. Then came the great war, followed by the socialist blight: it became necessary to extract an import licence out of the official labyrinth called the Chief Controller of Imports and Exports before one could import anything. The licences were given to Actual Users or Established Importers; as time went by, Established Importers were squeezed out and only Actual Users could import. To be called an Actual User, one had to go and get another licence – this time from another labyrinth called Directorate General of Technical Development. Industrialists spent so much time getting licences that they had no time to learn to produce; that is how India became the pariah of the industrial world. That great commerce minister, P Chidambaram, tore down the structure of import controls in 1992.
Many a babu had fattened on them; to prevent them from sabotaging the reforms, he wrote out the 1992 import policy on his laptop himself. When they read it, the clerks of DGTD went to beat him up. He was not there, so they damaged his office.
Just when we thought we had outlived those nightmares, we have got a government that shows great ingenuity in designing new tortures. It once decreed that tyre producers could import rubber only through Vishakhapatnam – the port furthest away from them. Any monopolist has just to go to the right politician or bureaucrat; if he knows his beans, he can have a 150% import duty put on any foreigner who has the temerity to compete with him.
And now, surprisingly, Reserve Bank has got into the act of grace and favour. Gold has never been freely importable. But when he was finance minister, Chidambaram did the next best thing – he allowed a number of banks to import gold and sell it. That broke the monopoly of Minerals and Metals Trading Corporation, which used to make such profits on gold imports that it did not have to trade in anything else. The banks first imported gold and sold it. But then they found a much simpler business: they just gave an importer a letter of authority, he asked the exporter abroad to route the gold through them, and collected it when it arrived. By paying the banks a small commission, jewelers were virtually importing gold directly.
And they soon found out that foreign gold suppliers were willing to give them extremely cheap loans against the gold. Gold is the most easily marketable commodity; its producers and traders have much money, and they are prepared to lend it. All they want is a letter of credit which would ensure that if the buyer does not pay them, his bank will. A gold importer could get a letter of credit from a bank for a commission of, let us say, 1.5%, he could get a letter of authority from an authorized importer for say, 0.1%; and then he could import gold and get a year’s credit at little above LIBOR – say, 1%. He could sell the gold and keep the money for a year at a total cost of 2.6%. He could put it in a one-year deposit with an Indian bank and earn, say, 5.6%. He could thus earn 3% without investing anything.
It is this business that Reserve Bank acted to stop. But its remedy is worse than the disease. It is not those who were borrowing abroad and relending at home that will be stopped; all jewelers and other users of gold will be. For only the nominated banks and MMTC will be allowed to import; and amongst the banks, Bank of Nova Scotia will recapture the bulk of the business. That is why Reserve Bank’s decision is flawed: it should not be lining the pockets of a few, however well connected they may be.

Reserve Bank’s problems arise because it has no respect for arithmetic. The difference between overseas and home rates of interest must be equal to the rate of change of the exchange rate. Reserve Bank cannot keep domestic interest rates above international levels and keep appreciating the Rupee. Either it must allow interest rates to drop, or it must go back to depreciation of the Rupee.