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The Dark Day for Gold: How ?10 Lakh Crore in Wealth Vanished Overnight

The decline in gold prices significantly affects Indian households, which hold some of the largest gold reserves globally.

In a single stroke, a cut in gold customs duty led to a dramatic drop in gold prices by over five percent, erasing more than Rs 10.7 lakh crore in value in just one day. This move caused the sixth largest wealth erosion seen so far, even when compared to equity markets. What's more significant is the broader impact on households. Unlike the occasional downturns in equities, this plunge in gold prices has affected far more households, as gold ownership is far more widespread. Indian households, which collectively hold some of the largest reserves of gold in the world, are particularly affected. They currently own approximately 11 percent of the world's gold—more than the combined reserves of the USA, Germany, Switzerland, and the IMF.

 

Why did gold prices fall on Budget day?

Since the start of the year, gold prices have surged, climbing 14.7 percent and outperforming the Sensex, which has risen by about 11 percent in the same period. However, in July alone, MCX gold prices have dropped nearly 5.2 percent. During the Budget announcement, the Finance Minister revealed a reduction in Basic Customs Duty on gold and silver from 10 percent to 6 percent, and a cut in the Agriculture Infrastructure & Development Cess (AIDC) from 5 percent to 1 percent. This change will effectively lower the overall taxes on gold from approximately 18.5 percent (including GST) to 9 percent.

 

Who does it impact and how?

Gold traders were displeased with the move to reduce the value of the precious metal and started selling off their holdings to book profits. Gold financiers also reacted negatively, as the reduced value of gold will significantly lower their loan-to-value (LTV) ratios, making them less financially secure. A lower LTV ratio means the value of the gold used to secure loans is less compared to the total loans issued, thus reducing the companies' margin of safety. Even Indian households and temples, which together own over 30,000 tonnes of gold, saw the value of their holdings sharply decrease.

 

However, organized jewelry players stand to benefit from the move. The reduction in duty has been a long-standing demand from traders, as it is expected to curb smuggling. For the exchequer, lower smuggling is always positive. How this will impact the Centre’s revenues going forward remains to be seen, as India is a net importer of gold. Factors that could drive gold prices back up include a weak dollar, festive demand, the US elections, geopolitical risks, and Central Bank policies, noted Jigar Trivedi, senior commodities analyst at Reliance Securities.

 

In conclusion, The pen is mightier than the sword, and Finance Minister Nirmala Sitharaman's announcement in the Union Budget 2024 proved just that. While the reduction in gold customs duty aims to address long-standing issues like smuggling and benefits organized jewelry players, it has also led to significant short-term disruptions. The decreased value of gold holdings has impacted traders, financiers, and households alike. The broader economic implications and potential rebound in gold prices will depend on various factors, including global economic conditions and domestic demand. The true impact on the Centre’s revenues remains to be seen, highlighting the complex interplay between policy changes and market reactions.

- Team ELPL (IFA)