In recent months, there's been a spate of articles focussed on the success enjoyed by the leading players in the gold loan segment , and how more and more people are shedding age-old taboos to borrow money against their gold jewellery.

While this traditional business of lending money against gold was professionalised and scaled-up in recent years by the Kerala-based NBFCs, all the major national banks have now jumped into the fray with enthusiasm.

In India, savings habits differ widely across the social strata. . Not all sections have either the requisite capital or access to the investment options available to sections of the urban population. In fact, in rural areas, this is often a necessity because of the lack of access to banks. Also, there are strong cultural factors at work in India which make gold not only a desirable, but also a necessary asset to hold. With increasing prosperity and sophistication, the relative importance of gold to the well-off may have declined, but among the poor it continues to rule.

Defaults and roll-overs

People in a rural, agrarian society will necessarily face the problem of fluctuating or unsteady incomes. The bulk of their earnings come in the two harvest seasons and the rest of the year can be difficult. It is no surprise that they frequently resort to borrowing money. Quite often, this involves a trip to the local money lender. The money lender is willing to oblige, but the sky-high interest rates make repayment a challenge. . Loans go into a cycle of defaults and rollovers at ever higher rates of interest and, occasionally, the money lender ends up with the title to the property of the borrowers.

Borrowing against gold is an option for a potential borrower that is rarely exercised. It does not happen for reasons such as emotional attachment to our gold jewellery and, even in these more permissive times, there is a stigma attached to pledging gold to borrow money.

There are several plus points to gold loans. Unlike other secured loans, the underlying asset in a gold loan is not subject to depreciation. At the same time, unlike land, it is a liquid asset and the transaction costs involved when enforcing the security are minimal. Thanks to this, the lender always enjoys a degree of comfort not available in other loans, and he does not have to go chasing after the borrower for timely repayments of instalments.

Gold loans are also ideal for those employed in the informal or unorganised sector . This is a segment conventional banks generally avoid because their appraisal and credit scoring is based on formal documentation. Incidentally, more than 90 per cent of India's workforce is employed in the unorganised sector.

A subtle moral pressure is at work in gold loans. The market practice that gold loans are extended only against household used jewellery — not against gold in commercial form such as bars and coins — helps prevent default. The fact is, borrowers and their families are emotionally attached to their family jewellery.

It, therefore, stands to reason that banks and financial institutions that choose to scale-up their gold loan portfolio would be able to do so with minimum risks.

There are possible benefits for the larger economy as well. India has the world's largest stock of privately-held gold with informed estimates ranging from 15,000 to 20,000 tonnes of gold. When this gold is kept idle in our lockers and vaults, it is a huge drag on the Indian economy: It has the effect of keeping billions of dollars in savings (about $480 to $ 650 billion) out of the financial system. This is a huge sum that otherwise could have been lent out to industries and for building infrastructure. When people borrow against gold (technically called ‘monetisation'), the impact is to set in motion a whole new chain of economic activity boosting demand and consumption expenditure in the economy.

Shift in regulatory approach

There is an urgent need for the government and the regulators to recognise that the organised sector may bring in the much-needed transparency and professionalism. A useful beginning can be made by not treating this sector on a par with local moneylenders and pawnbrokers. And, it will help if gold loans are not clubbed with other NBFC lending when prescribing regulatory capital.

(The author is Executive Chairman of Manappuram General Finance and Leasing Ltd, Valapad, Thrissur. )

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