Gold has long been king in India, a nation that battles it out with China for the title of leading international consumer of the yellow metal. However, could silver be set to unseat gold, potentially doubling demand worldwide?
It may, according to financial experts familiar with India’s track record over the last century. In recent years, the Indian government has implemented a number of measures intended to reduce its citizens’ demand for imported gold. The move is partly rooted in a crackdown on the use of gold as black market currency, but it will likely have unforeseen consequences based on the lessons of the past – specifically, going back to 1910.
Indians’ renowned fondness for gold has always had considerable, continuing economic impact. Case in point: It’s estimated 78% of a typical Indian’s household savings is held in gold. The result of this phenomenon is that India effectively has a dual currency system where the population saves mostly gold, rather than rupees. It’s a unique situation compared to other major economies of the world, and raises the question: How do you transition a majority of the population away from a precious metal in which they’ve placed centuries of faith?
The Challenge of Gold
As the bulk of India’s population builds their savings in gold rather than in bank accounts, the result has been a permanent drag on national economic growth. This type of savings doesn’t increase funds available for lending within the banking system – especially when many Indians’ gold investment is in the form of jewelry rather than bars or coins.
In addition, while India is the global leader in gold jewelry consumption, at more than 700 tons in 2015, it mines less than two tons per year. To absorb the deficit, India must import gold worth an estimated US$25 billion annually, dragging down the rupee’s value.
In an attempt to resolve the difference, the Indian government implemented a Sovereign Gold Bond plan allowing gold investors to trade their investment for interest-bearing bonds. The incentive did make a dent in the problem, but didn’t solve it.
As an alternative, the Indian government raised import taxes on gold imports in 2013 to the current rate of 10%. However during the same period gold prices fell. The bargain price on gold led to a 12% increase in imports in 2015, eliminating any potential benefit from the government’s standpoint.
Turning the Clocks Back 100 Years
India has fought precious metals imports for decades, back to 1910 when the government increased import taxes on silver from 5% to 11%. Demand in silver fell 28% within the three years following the move, and net imports in silver fell by two-thirds. From 1930 on, India became the world’s largest gold consumer, only displaced in 2015 by China, as it made its own push for the yellow metal.
What’s Next for Gold—and Silver?
It appears a return to silver as a major investment for Indian consumers is within the short term future. Indian silver imports grew 14% in 2015 after the recent heavy import taxes on gold, up from a record-setting 2014. At the same time, demand for gold jewelry is down 30% over the period of September 2015 to 2016, an impressive figure considering that jewelry accounts for three-quarters of all Indian gold. The pendulum may swing back to silver as a more profitable investment in India: Silver jewelry demand is up 600% in the last decade. As a swap to silver seems likely in India, it could have a major impact on prices.
Silver May be the Big Winner
A marginal substitution from gold to silver could have a huge impact to increase the price of silver – even a reallocation of 10% from gold to silver jewelry in India would double demand for silver worldwide. Since mines and other sources could not meet demand right away, prices would rise to further boost demand. It’s a point worth considering for any investor looking to capitalize on a unique situation developing in India.