New measures by the world's top gold consumer to reduce imports could erode global bullion demand, experts say.
Indian finance minister Arun Jaitley announced the creation of sovereign gold bonds as an alternative to purchasing physical gold during the government's annual budget presentation on Saturday. While concrete details have yet to be fleshed out, these bonds will have a fixed interest rate and will be redeemable for cash on the face value of gold.
The intention is for investors and households, the largest gold hoarders, to move away from physical gold and towards this type of paper gold, which should see demand for the physical metal decline if the bond is successful, explained Radhika Rao, economist at DBS.
"[Sovereign gold bonds] could potentially reduce investment demand for physical gold," agreed analysts at Morgan Stanley in a new report. Asia's third-largest economy overtook China as the largest gold consumer in 2014, according to the World Gold Council; slower Indian consumption tends to impact global demand.
The sovereign gold bond follows many government-led initiatives to reduce physical demand in recent years. India's massive appetite for gold jewelry boosts imports, which widens the current account deficit – a wide current is often negative for emerging economies.
Every year, India imports between 800 and 1,000 tons of bullion. Data from January this year showed imports soaring 55 percent on year to $1.5 billion.
"Even a modest 20 percent decrease in Indian gold imports will be negative for global gold demand" Victor Thianpiriya, ANZ commodity strategist told CNBC. However, Thianpiriya warned that reducing import volumes through a scheme like the sovereign gold bond will likely take years.