As the pandemic shut traditional avenues of financing, consumers have moved to monetise their gold holdings. Compare this to the cumbersome process of getting a bank working capital loan and it’s not hard to see why demand for gold loans has surged. “Someone takes a loan (against gold) when there is a genuine need,” says George Alexander Muthoot, managing director at Muthoot Finance, disagreeing that his business has gone up only on account of the rise in prices. Instead, the rise in prices has made his business a lot safer as the value of the security held increased.
Over the last decade there has been a growing acceptance of loans against gold resulting in higher numbers. The increase in gold prices recently hasn’t hurt. Over the last decade the gold loan business has also, like several parts of the financial services business, moved from the unorganised to the organised sector. Where earlier moneylenders would charge upwards of 36 percent for loans against gold, banks and non-banking finance companies now charge between 12 and 26 percent. Organised companies stayed largely under the radar of regulators in the 2000s owing to their small size and the fact that they posed no risk to the financial system.
The rapid rise in gold prices from 2008 to 2013—they rose 170 percent in that period—had resulted in several unscrupulous practices among lenders with instances of companies lending as much as 100 percent of the value of the loan. They were vulnerable to a fall in gold prices. When prices fell in 2013 their loan books soured and the Reserve Bank of India decided to bring them under its supervision. To reduce aggressive lending practices the RBI stipulated that only 75 percent of the value of gold could be given out as a loan. They also have to be adequately capitalised with 15 percent Tier 1 capital.
But the additional regulation has not stopped the business from growing. Aiding gold loan companies has been the sentimental attachment Indians have towards gold. Indian households own an estimated 25,000 tons of gold worth ₹130,000 lakh crore, and the government’s attempts to monetise this hoard through sovereign gold bonds have been unsuccessful. Instead they prefer to pledge gold, take a loan, repay the loan and take back their jewellery thereby monetising an otherwise idle asset.
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September 25, 2020