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RBI's Gold-linked Products Idea



RBI's latest attempt to introduce gold-linked investment avenues must be applauded. 

Gold is an incredible source of protection in our inflationary financial system. Among all investments of gold, it is the physical gold investments which will give the maximum return over long term. However, not every body needs a physical investments and not in excess of some amounts of protection.

The present gold-linked products available are ETFs and gold funds (MFs). These are directly linked to the price of gold and has no fixed return component, even though that is not the primary motive of this investment. There are plenty of people who are looking to buy gold as well as looking for a fixed savings account type returns. Certainly, these returns can and should be less than the normal interest rates. 

Frankly, no bank will be able to offer a interest rate deposit on gold, with the interest payment to be made in fiat and principal in gold. Simply put, inflation-adjusted bank is guaranteed to make loss on the transaction. It may however offer a lower rate or a floating rate much below standard savings bank rates which will help a bit

If RBI and banks are create such a product, then the burden of gold imports would decrease sharply. It has several benefits right from decreasing the current account deficits, helping Rupee, reducing the tax evasion, providing returns to investors, enabling banks to access a much stable deposit avenue at low costs, freeing up capital and giving investors a proxy inflation hedge. It would be a win-win all around.

One major caveat, I would like to mention is that how the repayment of the gold deposited would be made by the bank, and what happens if there is a default. In both cases, it is best for the investor / depositor to be repaid in physical gold. To be paid by proxy fiat would be failure pf protection against inflation. At least  investor / depositor should have the ability to seek the payments in gold, if so desired.

All this is fine, but I still don't see a reliable way Banks can make use of the gold in productive way. They may use the holding partially in bullion leasing market and partly in loan collateral  The best way forward is probably in allowing banks to categorize the gold holdings are part of SLRs, which will enable Banks to free up their liquid cash which can in turn be used for more ROIs.

It is to be seen if this idea really takes off. The gold-deposit scheme that is currently in operation is pretty much defunct due to operational / logistical problems. 

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