Government may have a big cost on sovereign gold bonds

24 Mar 2025 , 11:46 AM

WHAT MADE SGBS ATTRACTIVE, IS NOW MAKING IT EXPENSIVE

When sovereign gold bonds were launched by the government in November 2016, the idea was to offer a low-cost fund raising avenue for the government. More importantly, it would reduce the appetite for physical gold, and save forex reserves deployed in importing gold. That challenge was to make the sovereign gold bonds attractive. So, government offered 2.50% annual interest, redemption in units of gold equivalent price, and full LTCG tax exemption if held for 8 years.

The icing on the cake was a sovereign guarantee on interest payment and redemption of value in gold units equivalent. The government had estimated that in the light of global growth revival in 2017, gold price would either remain flat, or go up marginally. These maths went awry as gold rallied 3-fold since late 2016. It was largely caused by big uncertainties like the pandemic, inflation spike, trade wars, Russian conflict, Middle East crisis, and Trump economics. For the government, this unhedged liability is now coming home to roost.

UNDERSTANDING THE SGB NUMBERS SINCE 2016

It is interesting to look back at the sovereign gold bond numbers since launch. A total of 67 SGB series were issued between November 2016 and February 2024, selling a total of 146.96 tons of gold units. Cumulatively, government raised ₹72,274 Crore from SGBs. Out of these around 16.29 tons of gold bonds have been fully redeemed while another 0.55 tons of gold bonds have been redeemed early. That still leaves the government with 130.12 tons of gold bonds pending to be redeemed.

It is this remaining 130.12 tons of gold bonds that poses a real problem. Even at the current price, it is a huge liability as we shall see later. If the price of gold goes up from here, costs will proportionately escalate. Till the bonds are redeemed, interest at 2.5% per annum has to be paid. Above all, higher the capital gains people make, higher the cost for government and, additionally, higher the capital gains tax that the government loses on redemption.

HOW THE SGB NUMBERS STACK FOR INDIAN GOVERNMENT?

The table below captures the calculations of how much the government may end up bearing as cost on the SGB program.

Details	Amount
Gold Bonds Sold	146.96 tons
Gold Bonds Proceeds (A)	₹72,274 Crore
Gold Bonds Fully Redeemed	16.29 tons
Gold Bonds Full Redeem Value (B)	₹11,832 Crore
Gold Bonds Early Redeemed	0.55 tons
Gold Bonds Early Redeem Value (C)	₹478 Crore
Interest over 8 years on Cost (D)	₹14,455 Crore
Capital Gains Tax Lost (E)	₹9,034 Crore
Redemption of balance Gold bonds	130.12 tons
Redemption at last price of Rs8,624/gram	₹1,12,212 Crore
SUMMARY OF WHAT SGB CAN COST THE GOVERNMENT
Amount raised by the government (A)	₹72,274 Crore
Total Cost if balance units redeemed at CMP	₹1,48,011 Crore
If Average Redemption Cost is 20% higher	₹1,70,453 Crore
If Average Redemption Cost is 40% higher	₹1,92,895 Crore

Data Source: RBI

To understand the above table, let us look at some key aspects of the calculation.

• The gold bond proceeds (A) refers to the actual amounts raised by the government overall in 67 tranches via SGBs, based on the actual price of issue.
• For calculating the balance SGBs yet to be redeemed, the bonds fully redeemed and the bonds partially redeemed have been reduced from the total SGBs issued.
• Interest cost is calculated at 2.5% for 8 years since few investors opt for early redemption and lose on capital gains tax exemption. That is the experience so far.
• Capital gains tax foregone has been calculated based on average 100% capital gains. This is actually conservative, so the actual final number could only be higher.
• Redemption Option 1 for balance 130.12 tons of gold bonds is assumed at the current market price of ₹8,642 per gram. In that case, the actual cost to the government will be ₹1,48,011 Crore or 104.8% higher than the amount collected by the government.
• Redemption Option 2 for balance 130.12 tons of gold bonds is assumed at 20% above current market price. In that case, the actual cost to the government will be ₹1,70,453 Crore or 135.8% higher than the amount collected by the government.
• Redemption Option 3 for balance 130.12 tons of gold bonds is assumed at 40% above the current market price. In that case, the actual cost to the government will be ₹1,92,895 Crore or 166.9% higher than the amount collected by the government.

Unless the gold prices crash from current levels (which looks quite unlikely), the government may have to service a huge cost on the gold bonds. One can argue that the RBI holds reserves of 880 tons of gold, against the outstanding 130.12 tons of SGB. However, that can hardly be mixed up. Redemption of SGBs was not hedged by the government and that is likely to come back to haunt the Finance Ministry.