More on RBI and gold prices

RBI reserves are not money owned by Indian govt - they are foreign exchange parked with RBI by various entities against which RBI releases Indian currency - and whenever these entities want to surrender Indian currency and take out foreign currency, RBI has to oblige.

Even a 10 billion dollar outflow over and above usual demands results in a 5-10% depreciation of Rupee - and vice versa - even a 10 billion inflow over and above the normal makes the Rupee appreciate.

That means that some 3% of our total reserves changing direction of flow in a fluctuating manner can cause our currency to see saw. We have all seen this over the last 5 years - very scary.

Even more scary is the fact that we are importing (50 plus) billion dollars worth of gold every year. We cant afford to do that and still have a stable currency - a self fulfilling vicious cycle of currency depreciation - gold appreciation - more investment into gold - more currency depreciation - as nauseum - can set in and depreciate our currency a lot within a short time.

50 billion dollars is some 2-3% of our GDP. 

And total value of gold in India is some 1 trillion dollars (58 lakh crore Rupees) according to a recent news article. That is almost as much as our stock market is worth.

Too much. This has to stop or govt has to stop it - either a big import duty or a full stop on e-gold (still only 11000 crores last I heard which is peanuts compared to physical gold). 

In which case gold will be finished. I would be quite careful with gold - too many uncertainties.

On gold and the current economy

Hi Wisey. You are right on three things:

1. Gold has never fallen in Rupee terms. That is a very significant thing. Very unlike gold in dollars and a point I hadnt thought of before (although stagnation of 10 years seems like opportunity lost to me, for a mango man, the impact of steady prices vs a 50% fall are very very different. Hence stability of gold is there.

2. This was a dismal Diwali in Delhi. I dont know about Mumbai and Bangalore, but in Delhi, people are switching into bracing against head wind mode. Malls are empty and many shops are shut. Many malls have 10-20% shops with renters and 80% are empty. There are no buyers. Multiplexes run a hit movie for one week because next week it is empty thanks to massive price hikes. Lines in the very few non multiplex theaters which have lesser ticket prices are long and you cant get tickets there. Restaurants are less crowded and even on weekends you can get table without waiting, thanks to menu prices approx doubling.

3. It is facing multiple whammies, with competition against the Wstern companies, dropping IT budgets and higher cost structure for employees.

I think currency depreciation is inevitable. So gold has to perform. SO called "reforms" - what a joke - have bombed at the "box office"

Another look at gold performance in Indian Rupees

Interesting chart. While we have looked at this data in Pune and Noida before, lessons are important. I am using approximate values and calculations for ball park figures in the analysis below:

From 1925 to 1937 gold gave lousy returns, less than double from 18 to less than 36 in 12 years which is about 6% per annum. This was the time of the great depression. Indian economy was also in doldrums as commodity prices were very low.

With Spanish civil war and WW2, gold went from 30 to 60 in 7 years from 1937 to 1945 which is 10% per annum returns. So in Rupees, even during world war, there was only 10% return. This did coincide with massive increases in prices of rubber, timber and other commodities exported from India and despite rice shortages, businesses did well.

From 1945 to 1953 a time of shortages and Korean war, gold went from 60 to 120 in 7 years which is about 10% per annum return. World was on Bretton woods system of gold standard and dollar peg. India was in transition and independence and partition gave rise to great uncertainty, with the princely states being in turmoil.

From 1952 to 1967 it was static for 15 years, a time of great growth and prosperity in West. In India it was a time of economic standstill and poverty stability in India under Nehruvian socialism. That reads 0% for 15 years. It is interesting to see that when Indian economy underperforms significantly, both during great depression and the late fifties and sixties, gold did not perform.

From 1968 to 1984 gold went from 100 to 1600 which is about 4 doublings so let's say it doubled every 4 years which is about 17.5% per annum (rough calculation using the 70 rule). This was a time of great inflation and the multiple gulf wars with Israel and the two oil crisis, end of Vietnam war, shah of Persia crisis, invasion of Afghanistan and in India the time of Janata dal and the return of indira. The end of Britton woods in 1971/2 also came about in this time. There was a global recession. In India also there was economic turmoil, license permit raj and nationalisation of banks.

Please note that gold peaked in international markets in 1980 and collapsed for 25 years. So from 1981 to 2001 and beyond gold collapsed from 850 to 250 and was at about 250 dollars an ounce with mild gyrations and remained static in dollar terms for 25 years.

But in India gold still rose. From 2000 in 1984 it became about 4000 in 1994 which is about 7% return in 10 years. This was a time of inflation and rupee depreciation but with a growing economy despite balance of payments crisis.

From 1994 to 2004 even in India gold stood still for 10 years moving from 4000 to 5000 in 10 years which in 0% return. Since this is recent, it is important to note that our FD rates were high at around 12%, stocks were in doldrums over the decade with relative outperformance of some sectors, there was a fair amount of growth, real estate was at a stand still.

From 2004 to 2010 it went from 5000 to 20000 which is two doublings in 6 years which is 23% in 6 years again rough calculation. 

Let us assume it goes to 40000 in 2013 which means another doubling in 3 years so for 9 years it would have given 23% returns in each year.

SO recently, the global turmoil and local inflation has again pushed up prices by 20% per annum, similar to the seventies but unlike the WW2 period when India was under the British and the Rupee was pegged to the Pound Sterling and there was no free float.

Let us try to get some takeaways:

In dollars gold gives about 15% return over times of turmoil in 5 to 7 year durations (dollar gold price charts are easy to get) . It tends to fall a lot after the turmoil ends. But in times of prosperity, it gives nil returns for 10-25 years at a time.

In Rupee terms, gold stands still for 10 year time frames (like from 1955 to 1965 and again from 1994 to 2004) but never falls, unlike gold in dollar terms in which we get falls. This is perhaps the main takeaway - IN INDIA, GOLD AND REAL ESTATE HAVE NEVER FALLEN IN PRICE.

The main reason for this is because once we gained an independent currency and the sterling linkage was removed, in times of global turmoil and local inflation, rupee depreciated and gave returns. When rupee was static, gold still did not fall because unlike all other countries, India is an end user of gold in jewellery and so prices are maintained in rupee terms. 

It gives 10% returns in times of inflation over 10 year time frames in the 1925 to 1937 and from 1984 to 2004. So it is a good hedge against local inflation.

In times of global turmoil combined with internal Indian economic turmoil accompanied by rupee depreciation it gives about 20% per annum returns from 1970 to 1980 and from 2004 to 2012 so far = inflation 10% plus turmoil value of 15% per annum (turmoil meaning the dollar or the sterling itself before dollar are depreciating as seen now with QEs.

As long as we don't get the stability of Nehru (even if it was stability of poverty) or good economics of Narasimha rao or NDA or Chidambaram under the Janata, as long as India has high inflation and rupee depreciation and internal economic problems, we can expect at least 10% per annum return from gold. Any global turmoil can add another 15% return, taking it to 25% return. Assuming that major disruptions from globe and internal disruptions which can give 20% returns are already behind us, as long as our local inflation is high, at least 10% return is assured.

Please note that in all previous 10% runs of gold, FD return was 12% and in all 20% runs for gold, FD returns were around 15%. Only in recent past has gold vastly outperformed FD returns by a wide 12-15% per annum margin. 

In normal inflation times, gold gives FD returns. Only when there is global turmoil, gold gives returns over and above FD returns.

Technology of the future

http://economictimes.indiatimes.com/opinion/comments-analysis/technology-advances-to-end-chinas-manufacturing-dominance-open-up-new-possibilities-for-india/articleshow/16909186.cms

Rent control

Rent control is most regressive and anticonsumer.

Rent control results in very few properties being rented out - and has the paradoxical effect of increasing the cost of renting because of massive undersupply of rental property. It also results in either pughreee system (Bombay) for which a massive upfront payment is needed to rent or with gundagiri for evictions (seen in Bombay and in Delhi unauthorised constructions).

Dharavi has its origin in rent control - without rent control, the massive slums would have been apartment blocks like in US and European cities. Because of rent control, it became a slum.

Rent control means you are forced to buy - because you cannot rent anything because of undersupply - and if there is so much demand to buy, prices shoot up. Bombay is a prime example of such massive flat prices, higher than Manhattan. Did you not see Gharonda? If you are from a new generation, please do see it.

So rent control has the opposite effect in a double whammy - it increases rent and it increases flat prices.

Only beneficiaries of rent control are goondas/politicians running tenements and crooked builders - and their political cronies who manipulate zoning laws, land ceiling acts and circle rates.

Best way to lower rent and apartment cost is through competition and oversupply. Build roads and new townships with good number of flats (with electiricity , water and transport unlike disasters like Narela) - and rent will come down automatically. So will flat prices.

GDP and mortgages

As a rule -

total mortgages of a country equal the annual GDP

stock market capitalization equals the annual GDP

For total mortgages, one should add the residential plus commercial. So if you add 20% commercial to 80% residential in USA, it adds up to the annual GDP:

http://seekingalpha.com/article/145361-composition-of-total-mortgage-amounts-outstanding-in-the-u-s

In India, equity markets are developed and market capitalization is equal to the annual GDP.

While mortgages do not equal the GDP.

However the amounts lent to builders should also be added and private equity should also be added as proxy for commercial mortgage   (amounting to probably about 5Lakh Crore = 5 trillion rupees = 100 billion dollars or 5% of GDP)

Since majority of the population (who contribute to maybe 25-50% of GDP) dont qualify for a mortgage, it is no wonder that mortgages form only 20-25% of annual GDP

Thoughts on inflation

Your assumption of 15% inflation may not be correct.

If we look at the items which have inflated (to the best of my memory and limited math ability in calculation of 70 divided by x which is how I have estimated the percentages:

1. Food. Has gone from around 6000 to 15,000 in 12 years. Thats approx 7% inflation (for a vegetarian). 

eating out has gone from 500 for a family to 1000 for a family in evergreen =5% inflation. In Pandara road it has gone from 1000 to 2000, multiplex tickets have gone from 125 to 250, popcorn from 50 to 100. So all are at 5% inflation ball park figure.

2. Manufactured items: have remained stagnant or fallen (durables and FMCG) so negative or 0% inflation

3. Electronics prices have fallen. Discretionary spend on fancy phones and lap tops has increased a lot - but that is discretionary. Again negative inflation. 

Phone bills have increased with usage, not by inflation. Again negative inflation

Power bills are also stagnant from 2006 to 2012 with similar AC usage. So 0% inflation

4. Cars prices are stagnant. 0% inflation

Flight costs have doubled in 12 years, so 6% inflation

5. Petrol: cant remember, but petrol probably went from 40 something to 70 or so now = 5% inflation over 12 years

6. School fees in 2003 was 45000PA, now it is 80000PA. That is around 6.5% inflation.

7. Clothes - cheapest Peter England used to be 400, now it is 700 or so = 5% inflation.

8. Gold has gone from 5000 to 30000 so about 15% inflation.

9. RE has gone from 25L to 1.25 crore for delhi 2bhk = 15% inflation.

10 dollar has gone from 40 to 55 = 3% inflation.

11. Rent has gone from 10000 to 40000 = 12% inflation.

Wisey, the only thing which is inflating so much is none other than RE prices and its derivative rent !!!!! And its inputs. Cement went from 150 to 300 per bag. 

And gold has also inflated.

Both are investible appreciating assets. 

Doesnt it make the case for RE bull theory proved right?

Basically, the inflation affects those who were earning almost the same salary as expenditure and had no surplus. For those with surplus, the absolute quantum of surplus has increased quite a bit freeing up money for RE.

The reason why we are worried about inflation is because it didnt happen for 6/12 years, all of it has happened all of a sudden after congress came to power and more recently than in the first half of the decade.

It is a fact that there are three important inflations seen in India. 

1. Food (linked to energy prices) affects the poor. 
2. Education (linked to the economic performance) affects the middle class
3. And real estate - it is always in short supply and just out of reach of the middle class. Those who have it become rich class. 

Everything else shows much less inflation.

Food and education (especially higher education) cannot be helped.

RE inflation you can do something about. Which has been my contention for a long time now

He who buys RE early in life in India always becomes a rich man. It is always a stretch to buy. EMI hurts awfully for 5 years, moderately for next 5 years and becomes insignificant after 10 years.

A corollary - if you have taken a home loan and the EMI is not hurting you - you are underinvesting in RE. 

Other inflating items: From nil, there are some 3 broadbands at 800 per connection. Cell phones cost 50,000 per annum. Restaurant and multiplex bills I had already calculated as some 5% from 2000 levels - not as high as I had suspected. Mall shopping (you can chose your brand) was also 5% per annum only compared to 2000 - when also one did mall shopping. Travel expenses in terms of air fares is also 5% per annum only, assuming 2 holidays per annum. Again - if your standard of living in 2000 was similar to 2012, then the actual percentage increase per annum is only some 5% or so. 

It seems more because after many years of price stability and price fall (in 2005 flights were cheaper than 2000) we have seen sudden dramatic inflation.

But one should always differentiate between inflation of essentials and discretionary. Housing is usually considered essential along with food, clothing and education. Disretionary spending comes down with inflation - it also comes down with sheer boredom (nothing is as boring as mall shopping or traveling to the same or similar hill station. And every international city feels exactly the same - though scenery is always refreshingly different)