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India’s "Golden" Opportunity?


The massive run up in gold prices over the last decade has been one of the major stories in global financial markets.  The metal, which offers no financial returns in the way that investing in stocks or bonds does, has been favoured by an increasing number of investors as a way of hedging against the “debasement” of fiat (paper) currencies as central banks across the globe continue to undertake quantitative easing policies. 

From lows of under USD$260 per (troy) ounce in the first half of 2001, the metal climbed fairly consistently up to highs of more than USD$1870 per ounce in 2011. After that, the metal has pulled back fairly steadily and remained in a $250 dollar band between $1550 and $1800. 

That was the status of gold, that is, until last week.. On April 12 and April 15, Gold saw its biggest two-day drop in decades, as prices plummeted by up to $200USD per ounce   The argument over whether or not gold prices have been in a bubble intensified. “Goldbugs” (those calling for even higher prices in future years) saw a buying opportunity, whilst the bears sensed that the bubble is finally bursting. Meanwhile several investment banks’ research outfits started calling for lower prices by year end. Gold seems to have stabilised for now below $1400 per ounce.

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One country for whom the gold price is particularly important is India. As Pacific Money has previously covered, Indian economic policy is complicated greatly by the large current account deficit facing the country.  As gold’s dollar value has soared over recent years, it has become a major cause of India’s chronic trade deficit – with the country importing USD$56billion of the metal in 2012.  Furthermore, gold makes up roughly two thirds of India’s deficit.

The central bank’s desire to ease policy is partially constrained by the current account deficit, so the fall in the market value of gold, should prices stay lower, will eventually provide more room for easing as growth struggles. 

However, India is also struggling with inflation and a fall off in foreign investment. The reduction in the trade deficit, which will occur if gold (and general commodity) prices stay suppressed, should eventually lead to a relative strengthening of the Rupee too.  A stronger currency can help in the fight against inflation, giving further room for easing should the government and central bank deem it necessary. Inflation has already showed signs of easing, as wholesale prices rose at their slowest rate in over three years at 5.96%. 

India’s economic road ahead is still fraught with difficulties, but lower gold prices certainly provide some welcome relief after months of tough policy dilemma. 

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