Allow gold ETFs to unlock vaults

Source: The post “Allow gold ETFs to unlock vaults” has been created, based on “Allow gold ETFs to unlock vaults” published in “BusinessLine” on 14th May 2026.

UPSC Syllabus: GS Paper-3-Indian Economy

Context: India’s rising gold imports have become a major macroeconomic concern because they increase pressure on foreign exchange reserves and widen the current account deficit. Although Gold ETFs were introduced to reduce dependence on physical gold purchases, they are now contributing significantly to imports because every new ETF investment requires fresh physical gold backing. Therefore, there is a growing need to allow Gold ETFs to use exchange-traded commodity derivatives (ETCDs) or gold futures as part of their investment structure.

Nature of Gold Demand in India

1. Socio-cultural demand

1. Socio-cultural demand includes weddings, festivals like Dhanteras and Akshaya Tritiya, inheritance, and religious purposes.
2. This category of demand is emotionally driven and highly price-inelastic in nature.
3. Jewellery demand continues regardless of government appeals or rising gold prices.
4. Therefore, this segment is difficult to influence through policy measures.

2. Investment demand

1. Investment demand includes bars, coins, and Gold ETFs purchased for wealth preservation and financial security.
2. Investment demand for gold has increased sharply due to economic uncertainty and inflation concerns.
3. Gold ETF assets under management increased from ₹59,000 crore in March 2025 to ₹1.71 lakh crore in March 2026.
4. Demand for bars and coins increased by 34 per cent in the first quarter of 2026.
5. Hence, investment-related demand has become the major contributor to rising gold imports.

Problems with the Existing Gold ETF Structure

1. Increase in physical imports

1. Gold ETFs currently require full physical backing for every unit issued.
2. Every fresh investment in Gold ETFs forces asset management companies (AMCs) to import additional gold.
3. In January 2026, India’s gold imports reached nearly $12 billion.
4. Thus, Gold ETFs have unintentionally become contributors to the import burden.

2. Idle vaulted gold

1. By March 2026, Gold ETFs collectively held around 115 tonnes of physical gold in vaults.
2. This gold remains idle and generates no productive return for investors or the economy.

3. Additional storage and insurance costs

1. Physical gold holdings require vaulting, insurance, assaying, and security arrangements.
2. These activities increase operational costs for fund managers.

4. Contradiction in policy objective

1. Gold ETFs were originally designed to reduce physical gold dependence in the economy.
2. However, the present structure has increased the demand for imported gold instead of reducing it.

Regulatory Changes Supporting Futures-Based Exposure

1. SEBI allowed Gold ETFs in 2019 to invest in exchange-traded commodity derivatives (ETCDs) with gold as the underlying asset.
2. SEBI also permitted investment in gold-related instruments such as Gold Deposit Schemes (GDS) and Gold Monetisation Schemes (GMS).
3. In 2026, SEBI clarified that ETF NAVs would be based on exchange-polled domestic spot prices.
4. The same benchmark is also used for the settlement of gold futures contracts.
5. Therefore, the regulatory framework already supports the use of futures-based exposure in Gold ETFs.

Suggested Reform

1. AMCs should gradually release a portion of their physical gold holdings into the domestic market.
2. The released gold can be sold through structured auctions to refiners, bullion banks, and jewellers.
3. The proceeds from these sales can then be used to take long positions in domestic gold futures contracts.
4. Gold futures provide complete gold price exposure without requiring full physical ownership.
5. Futures contracts require only margin payments instead of full notional investment.
6. The surplus cash remaining after margin requirements can be invested in Treasury Bills and TREPS.
7. This mechanism can generate additional returns of around 6–7 per cent for investors.
8. Thus, investors continue to receive gold price exposure while reducing the need for fresh imports.

Benefits of the Reform

1. Reduction in gold imports

1. Existing vaulted gold can re-enter the domestic supply chain instead of remaining idle.
2. This would reduce the need for fresh imports of gold.
3. Consequently, pressure on the current account deficit and foreign exchange reserves would decline.

2. Better returns for investors

1. Investors would earn collateral returns from surplus cash invested in short-term financial instruments.
2. Under the current system, physical gold stored in vaults generates no income.

3. Development of commodity markets

4. Greater institutional participation in gold futures markets would improve market liquidity.
5. Improved liquidity would strengthen price discovery mechanisms on domestic exchanges.
6. Strengthening India’s bullion ecosystem: India could gradually evolve from being a passive price taker to becoming a benchmark setter in global bullion markets.
7. Efficient utilisation of financial assets: Financial exposure through futures contracts would replace unnecessary physical stocking of gold. This would improve overall financial efficiency in the economy.

Safeguards Required

1. ETFs should not hold excessive positions in any single futures contract month.
2. Position limits should be imposed to prevent market distortion and excessive speculation.
3. Monthly disclosures should clearly mention physical holdings, futures exposure, basis risk, and collateral returns.
4. Exchanges should improve liquidity through tighter spreads, lower rollover costs, and better market-making systems.
5. These safeguards would ensure transparency and investor protection during the transition process.

Conclusion: India’s challenge lies not in gold itself but in the import intensity of investment demand for gold. Allowing Gold ETFs to partially shift from physical holdings to exchange-traded futures can reduce imports, improve investor returns, and deepen commodity markets. Since SEBI’s regulatory framework already supports such a transition, the focus should now be on effective implementation and transparency. This reform can provide a structural solution to India’s gold import problem without affecting the country’s socio-cultural attachment to gold.

Question: Discuss the need for allowing Gold ETFs to use exchange-traded futures as part of their portfolio structure. Examine its implications for India’s economy and financial markets.

Source: Businessline