Tuesday, January 22, 2013

Import tax on Gold

News Article : India raises gold import tax to tackle trade deficit

The import tax on gold has been increased 50% this week. Anyone who buys gold for Rs.100/- has to pay Rs. 6/- as tax to the Indian Government. So the cost of Rs. 100/- value gold is Rs.106/-. It is more expensive to buy gold compared to last week. The expectation is that, this will discourage people from buying/investing in gold.

The trade deficit in India is negative. It means the total value of the exports is less than the total value of our imports. Healthy economies export more and import less. This helps balance of payment. It is like typical household, you don't want to BUY more than you can EARN.
Bulk of our imports as a country is Oil and Gold. This is contributing to trade deficit. If we leave out oil and gold while calculating trade deficits, we are having a deficit of less than one percent of GDP which is supposed to be better.

So the government has come up with this plan on increasing the taxes. The following are the reasons why it will not work.

  • Gold has appreciated eight times when measured in global currency (USD) in the past decade. Much more in Indian Rupees. So 2% is not a big margin.People will still choose it as investment.
  • Demand of gold in India is not price driven - The demand for gold has gone high even though the price went up many folds.
  • Demand of gold in India goes back centuries and it is more cultural. People buy it irrespective of its pricing.
  • Unlike oil which is imported and consumed., Gold is locked up and has value in global market anytime. It can be encashed any time in future. It is really savings of the nation. Government might argue that capital allocation to gold is unused resources. But it can help on a rainy day.
  • Black market to smuggle gold into the country will increase. It cannot be stopped.
  • Poor people will not be able to afford gold investment. They would get cheated by dishonest jewellers/merchants. (Rich people can afford the higher prices and shop at the honest merchant.)

 What should the government do instead?

  • Allow the India rupee to appreciate significantly, so that return on currency is equal (or more) to return on gold. This would encourage savings in cash and hence capital formation.
  • Stop inflation and lets go into a deflation period. Lowering prices is exactly what India needs. Growth with double-digit inflation is useless.
  • Allow the gold to be market based. Minimum tax is good for all. How wise is the government going to spend its money?
  • Set oil prices to market value. Abolish subsidies for it.  This will bring down trade deficit. When resources are scarce, proper utilization of those occur.