Sliding gold prices dampen India's firepower on imports

Falling gold prices pose a dilemma for the government as it continues to look for ways to show in its upcoming Budget it can control a record current account deficit.

The government has already targeted gold, second only to oil in value of imports, by hiking the duty to 6 per cent from 4 per cent on January 21, and could lift the tariff again on Thursday.

But since the last hike, prices in India have fallen by nearly 4 percent, potentially boosting demand, and an austere budget that leads to a stronger rupee could also lower domestic prices. Further tariff increases could stem the legal flow at a risk of increased smuggling.

"For months people were waiting for prices to go below Rs 30,000. Those people will now enter the market," said Prithviraj Kothari, director of RiddiSiddhi Bullions Ltd, a wholesaler in Mumbai.

The benchmark gold contract on India's Multi Commodity Exchange hit a seven-month low of Rs 29,263 on February 21, and traded at Rs 29,575 per 10 grams on Monday.

"If prices fall sharply, say to Rs 26,000, India would import more gold in 2013 than it had imported in 2012," said Mr Kothari, former head of importers' body Bombay Bullion Association (BBA).

Commerce and Industry Minister Anand Sharma said last week that he was discussing further curbs on gold imports with Finance Minister P Chidambaram, who will present the Budget 2013-14 on February 28.

Measures can also be announced outside the budget.

The Finance Minister needs to tame a current account deficit that hit a record high of 5.4 per cent of gross domestic product in July-September, which drove the rupee down and forced India to rely on volatile foreign fund flows to pay for imports.

So speculation is rife among traders that India could raise the import duty to as much as 8 per cent.

But this could encourage smuggling. As it stands, the duty on 100 grams already covers the cost of an airfare to Dubai.

"Smuggling has increased....Customs and the Directorate of Revenue Intelligence have seized gold smuggled at airports," said Mohit Kamboj, president of the BBA.

Another challenge for Mr Chidambaram is that a tough budget may strengthen the rupee, an important factor in the local cost of gold.

"The government is planning to cut down the fiscal deficit, which would support the rupee. And if the rupee strengthens, effectively it will bring down gold prices," said a Mumbai-based dealer with a private bullion importing bank.

Gold's attraction continues to be underpinned for India's billion-plus population not just by tradition, but also because of high inflation that eats into meagre savings rates.

The World Gold Council forecasts demand could rise nearly 12 per cent to as much as 965 tonnes this year, almost all of which would be imported.

"The government should explore other options like unlocking the thousands of tonnes of gold held by households," Mr Kothari said.

India is home to about 20,000 tonnes of gold holdings - more than double those of the US Federal Reserve - much of it with rural households in the form of jewellery or bars.

The Reserve Bank of India has said it would consider setting up a special 'gold bank' that would buy gold from individuals at much higher rates to help liquidate these idle stocks.

Copyright @ Thomson Reuters 2013