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Picture Courtesy: INDIAN EXPRESS

Context:

The Reserve Bank of India (RBI) has introduced new rules for gold loans to control risks and fix problems in the system.

Background

The RBI introduced the rules because there was an increase in bad loans, called NPAs (Non-Performing Assets), in the gold loan sector. RBI data reveals that NPAs in gold loans have jumped 28.58% in a year.

Between December 2023 and December 2024, NPAs grew by over ₹1,500 crore, reaching ₹6,824 crore, as against Rs 5,307 crore a year ago, according to latest data from the Reserve Bank of India.

The RBI wanted to make sure banks and NBFCs (Non-Banking Financial Companies) follow stricter practices to avoid more losses.

RBI found Several Problems with gold loans

Third-party involvement: Some lenders used third parties to check gold quality without the customer being present. This created trust issues.
Improper monitoring: Lenders didn’t track how borrowers used the money or whether the value of the gold matched the loan amount.
Evergreening of loans: Borrowers could keep extending their loans by paying only interest, not the principal. This meant they never really paid back the full loan.
Lack of transparency: When borrowers failed to repay, auctions of gold jewelry were not always fair or clear.

To fix these issues, the RBI asked lenders to review their policies and improve controls over outsourced activities.

Changes introduced in the RBI’s new rules for gold loans

No loans against raw gold: Banks cannot give loans for raw gold like bars or bullion. They can only accept gold jewelry as collateral.
Loan-to-value cap: Loans cannot exceed 75% of the gold's value. For example, if your gold is worth ₹1 lakh, you can get a maximum loan of ₹75,000.
Ownership checks: Lenders must verify who owns the gold before giving a loan.
Shorter repayment period: Loans where both principal and interest are due at maturity cannot last longer than 12 months.

These changes aim to reduce risky lending and protect customers.

Why are gold loans so popular in India?

Easy process: Getting a gold loan is simple. Don’t need much paperwork, and approval happens quickly.
Cultural importance: Gold is very valuable in Indian culture. Families often save it for generations and use it during emergencies.
High gold prices: With gold prices rising sharply, people can borrow larger amounts using their gold.
Digital access: Fintech apps and online platforms now allow even people in remote areas to take gold loans easily.

How do rising gold prices affect gold loans?

When gold prices go up, the value of gold increases, people can borrow more money using the same amount of gold. For example, if gold was worth ₹70,000 per gram last year and is now worth ₹90,000 per gram, a borrower can get a bigger loan today. That’s why gold loans have become more attractive recently.

How does the new rule impact borrowers?

Stricter terms: Borrowers must repay the full loan amount (principal + interest) to extend the loan tenure -> making it costlier.
Transparency: Auctions of gold will be fairer -> reducing disputes.
Limited options: Raw golds are no longer allowed -> limiting choices for borrowers.

Way Forward

The RBI introduced new rules for gold loans to fix problems like bad loans and unfair practices. These include capping loan amounts, stopping loans against raw gold, and ensuring proper ownership checks. While the rules make borrowing slightly tougher, they aim to protect both lenders and borrowers.

Even with the new rules, gold loans are likely to remain popular. Rising gold prices and the cultural significance of gold in India mean people will still prefer them for quick cash.

Must Read Articles:

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RBI Plan on Rupee Depreciation

Source:

INDIAN EXPRESS

PRACTICE QUESTION

Q. What is the economic implication of increased gold loans?

1. Boosts liquidity in the market

2. Reduces the current account deficit

3. Increases dependency on non-productive assets

4. Encourages inflationary pressures

Select the correct answer using the codes given below:

A) 1, 2 and 3 only

B) 2, 3 and 4 only

C) 1, 3 and 4 only

D) 1, 2, 3 and 4

Answer: C

Explanation:

Statement 1 is correct: When individuals avail gold loans, they receive cash from financial institutions in exchange for pledging their gold. This injection of cash into the hands of borrowers increases the overall money supply and liquidity in the market.

Statement 2 is incorrect: The current account deficit arises primarily from a trade deficit (imports exceeding exports) and net outflows of income from investments and transfers. Gold loans are a form of domestic financial transaction and do not directly impact the flow of goods, services, or international income. Therefore, an increase in gold loans is unlikely to directly reduce the current account deficit.

Statement 3 is correct: Gold, while a store of value and a safe haven asset, is generally considered a non-productive asset in the sense that it does not generate income or contribute directly to the production of goods and services. Increased dependence on gold loans signifies that a larger portion of household wealth might be tied up in gold, and people are using this stored value to meet their financial requirements. This could indicate a higher dependency on such non-productive assets for immediate liquidity needs.

Statement 4 is correct: The increased liquidity in the market due to higher gold loan disbursements can lead to higher aggregate demand. If the supply of goods and services does not increase proportionally, this rise in demand can exert upward pressure on prices, potentially leading to inflation. Easier access to credit through gold loans might encourage more spending, further contributing to inflationary pressures in the economy.