Gold Prices and Financial Stability in India

Abstract

There has been an almost sustained rise in the international gold prices since 2002, with just one deep correction in 2008. As gold is an integral part of savings of a large number of investors, this has raised apprehensions whether any correction in gold prices will have destabilising implications on the financial markets. In this backdrop, the paper makes an attempt to analyse the implications of the correction in gold prices on financial stability in India.The paper covers empirical analysis on the inter-linkages between domestic and international gold prices and then it examines the nature of changes in the factors affecting international gold prices during the last two decades. While validating empirically the existence of complete inter-linkages between domestic and international gold prices, the paper goes on to conclude that there has been a structural shift in the factors affecting international gold prices in 2003. Short-run volatility in international gold prices used to be traditional factors such as international commodity prices, US dollar exchange rate and equity prices. However, since 2003, the same is largely due to the volatility in the US dollar exchange rate and mildly due to volatility in equity prices.In conclusion, the findings of the paper show that domestic and international gold prices are closely interlinked. Based on empirical evidences, the paper also concludes that implications of correction in gold prices on the Indian financial markets are likely to be muted.