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When Will India Kick Its $200 Bln Gold Habit?: Andy Mukherjee
Aug. 3 (Bloomberg) -- If John Maynard Keynes were alive today, he would be horrified to see gold rallying again, and for a reason very familiar to the British economist: India's ``ruinous'' love of the ``barbaric relic.''

Almost 100 years after Keynes used those words to chide India for its extravagance, the billion-people nation shows no signs of losing its fondness for the metal. India accounts for 18 percent of world demand, more than any other country.

With the U.S. dollar looking vulnerable again against the euro and the yen, it's fertile ground for speculators to drive up the precious metal. Demand for gold, they reckon, is bound to rise amid the resumption of the Hindu wedding season in two weeks following a month's hiatus for religious reasons.

Prices have risen 4.1 percent to $437.40 an ounce in the past week on the Comex division of the New York Mercantile Exchange. Three out of four traders, investors and analysts in Bloomberg's latest weekly survey advised buying gold.

Gold traders aren't the only ones betting on Indian wedding demand. General Motors Corp.'s Indian unit is trying to whip up demand by throwing in a free gift of 30,000 rupees ($690) worth of gold jewelry for every purchase of its Chevrolet Optra sedan.

``Plush leather seats, jewel-effect headlamps and heaps of gold for your wife,'' says the GM ad line.

What's surprising to modern economists is that gold demand in India is on the rise when most of the traditional reasons for hoarding the metal -- high inflation, persistent rupee depreciation, rapacious taxation and low penetration of banking services -- are fading.

$200 Billion Locked Up

With increasing modernization and urbanization in the nation, the proportion of gold in the bridal trousseau should also have been on the wane. However, India's gold consumption rose 57 percent from a year earlier in the 12 months ended March 31, on top of a 63 percent jump in the previous year.

``Gold holdings among Indian households at current market value are about 2.5 times the current equity holding of $80 billion,'' said Chetan Ahya, a Morgan Stanley economist. In other words, some $200 billion, or the equivalent of 29 percent of India's gross domestic product, is locked up in jewelry.

Economists continue to debate whether Indian demand is excessive; social activists ask what it'll take to end the continual harassment of brides for dowry more than four decades after the practice was outlawed in 1961.

The question for gold traders is whether Indian demand will stay strong enough to push prices even higher. Investors such as Marc Faber in Hong Kong have predicted $5,000 an ounce. Much before prices scale those scary heights, the metal's appeal to Indians may start to diminish.

Fooling the Taxman

After all, Indians are no longer living in the 1970s when they were hard-pressed to protect their savings. Inflation averaged 9 percent a year then, and the income tax rate was as high as 97.75 percent in 1974. Gold jewelry was a handy option to store wealth and hide it from the state.

It was also a smart investment: Gold prices rose more than eightfold between September 1976 and January 1981, when they soared to a record $873.

India is now the world's 10th-biggest economy. The top tax rate is a reasonable 30 percent, while local inflation has averaged 5 percent since early 2000.

The Indian rupee, having weakened from about 7.5 to the dollar in 1966 to 49.06 in May 2002, has risen 11.5 percent against the U.S. currency since then.

Bollywood Smugglers

India has also liberalized gold imports, reducing smuggling of the metal and rendering anachronistic the plot lines of '70s era Bollywood movies that featured gold-smuggling heavies.

Why, then, are Indians still so enamored of gold?

Blame it on the government.

Over the past five years, the Indian government has added 16 percentage points of GDP to its public debt and spent 65 percent of the borrowed money on expenditure that doesn't create new capital such as salaries and pensions.

That inefficient allocation of savings by the government may have prompted individuals to become more risk averse and stock up on gold, Morgan Stanley's Ahya says.

``Instead of investing its annual savings in gold, if India were to invest this in productive business assets,'' said Ahya, ``GDP growth would be higher by 0.3 percent to 0.4 percent.''

A true test of Indian consumers' love of gold will be when the country fully opens its capital account and citizens are free to hold their wealth in any currency.

Wedding Season

Since that's at least a few years away, focus in the interim will be on more ostentatious weddings, bigger dowries and perhaps stronger gold prices. Most of all, the focus will be on India's youth bulge.

According to India's latest census, more than 47 million girls in the age group of 15 to 29 have yet to marry. Assuming 80 percent of them do so in the next five years, that's 38 million weddings. At a very modest 10 grams per wedding, or slightly less than one-third of an ounce, that would translate into 76 metric tons of demand a year, enough to buy a fifth of all gold mined in South Africa last year.

It's a good thing Keynes isn't around to see that.