Sovereign Gold Bonds Scheme: All You Need To Know

The Sovereign Gold Bonds scheme was launched in the budget session 2016 and approved by the cabinet to reduce the demand for physical gold.

Background

• India is one of the largest importers of Gold in the world
• The demand for Gold in India is rising rapidly
• Imports from India see a hike, with Gold as the primary contributor
• This affects the balance of trade figures for India
• GOI needed to restrict Gold imports to have a positive balance of trade
• This created the need for a Gold bonds scheme
• Gold Bonds are seen as an alternative to purchasing gold metal

About Sovereign Gold Bonds

• Gold Bonds are issued by RBI with a fixed interest rate
• Ministry of Finance is the concerned ministry
• RBI, in consultation with Finance Ministry, determines the issuing amount
• Risk of gold price changes borne by the Gold Reserve Fund created by RBI
• GOI aims to shift 300 tonnes of Gold purchased annually as bars and coins into the Gold Bond Scheme
• This Gold Bond scheme is expected to help GOI sustain the current account deficit

How do Sovereign Gold Bonds Work?

• Gold Bonds are sold in banks.
• Investors can buy gold bonds from banks, preferably where they have Saving Bank accounts.
• Gold Bonds are treated similarly to a Bank Fixed Deposit
• The interest rates are fixed at 1 to 2 percent
• The tenure of the bond is from 5 to 7 years
• The value of the bond is determined by the gold price movements in the market.
• Gold Bonds have an attractive feature.
• The investor will get the value of the bond according to the prevailing gold prices in the market at the time of redemption.
• In this manner, the investor will get the same benefit of purchasing the metal gold without actually buying it.
• In this manner, GOI can restrict Gold imports to a certain extent
• Returns on gold bonds can be positive or negative
• All risks of the gold bond are covered under the Gold Reserve Fund

Features of Sovereign Gold Bond

• Bonds issued by RBI with a sovereign guarantee
• Bonds can be easily traded and sold on exchanges
• Gold Reserve Fund will be created by GOI through RBI
• On gold bond maturity, redemption will be made in Rupee only
• The price of gold bonds will vary with the market prices of gold
• Investor needs to be aware of this price volatility
• Gold bond deposits will not be hedged
• RBI has a fixed tenor of the bond from 5 to 7 years to protect the investors from medium-term volatility

Limitations

• An NRI cannot buy gold bonds issued by RBI
• Common Indians buy gold for marriage and other occasions as Jewellery and not for investment purposes.
• The attitude of a typical Indian towards gold is not of an investor nature
• This attitude will see a Luke warm response to the Gold bonds scheme
• Also, the interest rate offered is meager, to the tune of 2.5%

Conclusion

• The scheme’s effectiveness will depend on the investor’s attitude toward the gold bond scheme.
• GOI must take steps to change the mindset of Indians from viewing gold as jewelry or a status symbol to an investment avenue
• This transition in the behavior of Indians will take time
• Overall, the Gold bond scheme is a welcome measure to cut imports of gold purchase.