The hard economic reality

Banks borrow (as interest-bearing deposits) and lend them judiciously to make profits. That is their business. But, they realized that borrowing (not as deposits, but as loans) is a better way to reduce cost of capital. They borrowed, and they invested; in their quest to out-pace one another, banks invested borrowed money in risky business of speculation -- they provided 100% mortgages (or zero-down payment mortgages), they provided funding to unregulated hedge-funds.

Banking is a sensitive business. A bank's deposit risk is proportional to the risk of the bank's loans (investments). In the quest for increased profits, banks took undue risks by investing in unregulated instruments.

Governments have since realized that they cannot let banks with customer deposits fail. It is clear that money from retail banking should not be used to fund risky loans -- venture capital, hedge funds, zero down mortgages. The owner of the money must be aware of the risks that they take. Retail banks must also be prevented from investing in complex derivative instruments where risk assessment is complex, or even impossible. Banks must also provide customers with an option to deposit in safe custody deposits -- where banks do not invest capital, but keep it in safe custody.

The central banks must give its own ratings for banks based on its investment risk, and must be re-assessed and declared periodically. Banks must disseminate this information in customer bank statements prominently. It gives customers the required information to move their money into a central bank backed safe deposit, or move their money to another bank. It gives banks an incentive to be diligent in their investments.

Governments, on the other hand, rode the real estate inflation as if it was real growth. In reality, governments turned a blind eye to real estate inflation because it brought them revenues. They are supposed to act to temper undue upswings as they are acting now in a hard downswing. If they had acted during the upswing, there would have been far less pain.

Economic stimulus packages

Stimulus packages funded by large government deficits are being done. The idea is to increase economic activity. The years from 2004 to 2008 saw enormous rise in asset prices. Assets traded on exchanges have lost all of that increase. But, real estate holds its value. The stimulus packages try to make the current prices permanent. This is, by no means, correct. This affects the poorest in the long term. There are many who made a bad choice by investing in the bubble; they must lose, not the common man who will not be able to afford a home at the inflated prices.

Deflation

However painful it is to richer sections of society, deflation is essential. It is happening across the spectrum, but large scale deflation is needed in real estate today. Not withstanding the demand to spur growth, the need of the hour is to ensure affordable land and good infrastructure. Current land prices keep a good house outside the reach of the common man; India's infrastructure cannot support any more growth. Time has come to aid infrastructure projects alone. Anyone else in business must take care of their business, tax payer must not.

Problems with government policies in Kerala and some suggestions

The government in Kerala, whichever party heads it, is unfair to the people. Let me cite a few cases.

1. The Kerala State Housing board behaves worse than a fly-by-night property developer. They do not create a title deed for the property even decades after construction and possession. The title deed is not handed over even after dues are paid. In some cases, they have re-sold parts of the property that had a different use according to the approved plans. The buyer is at the mercy of the bureaucrats, and are doomed to endless number visits to their offices to obtain a legal right.

2. The government accepts that there is widespread evasion of Value Added Tax, and stamp duties on land registration. Instead of putting measures in place to reduce evasion, the governments have relied on imposing higher tax rates on paying citizens. The government encourages honest people to be dishonest. For example: imposing 15.5% stamp duty on land sales (should be 4%), and 4% on gold (should be 1%).

3. Kerala is not the United States of America. Not everyone has a car, our roads are nearly not good enough. People do not want to travel large distances to buy groceries and vegetables. Yet our politicians seem to think that organized retail stores, that are usually centered around affluent pockets, can work only at the peril of unorganized retail. The infrastructure and conditions that made Walmart a success in the USA does not exist in Kerala.

Organized retail brings efficiency; it trims excesses in supply chain in the unorganized sector also by market force. In effect, they reduce price for the consumer, and does not evade sales taxes because of their corporate structure. Our government has been foolish to discourage them by becoming a tool in the hands of the retailers who evade 75% tax! (see item 2).

Suggestions:
1. Reduce taxes. Crack down on evasion. Post tax officials at stores randomly to ascertain quantum of business.
2. Simplify procedures and computerize. Reduce paper.
Example #1: Why does the village officer have to issue an identification certificate to a woman that he sees for the first time on the basis of an election identity card so that she can apply for a pension from the panchayat? Why can't the panchayat accept the election identity card?
Example #2: Why can't a citizen pay government dues in any government cash counter, or better still, through the bank?
Example #3: Why can't stamp paper be abolished, and payments accepted through banks? The transaction number can be quoted on the agreement and attested by the bank manager. Since a bank transaction is involved, there is no way to pre-date the registration of an agreement. Many employees who handle stamp paper sales can be put into work in preventing sales tax evasion.
3. Allow electronic payment of taxes, and electronic submission of taxes. Allow accounting software to integrate into government systems for this purpose.

Investing in gold

Option 1: Buy physical gold and store it in a vault:

When you buy physical gold, you have to pay VAT @ 1%.
You pay 1% in wealth tax on assets above 15 lakhs.
Ascertaining purity and selling are the major problems.

Option 2: Buy gold ETFs.

You pay brokerage commissions on buy and sell (approx. 1%)
You pay 1% in fund management charges per year.
But, you do not own the gold. The fund may not have enough gold to cover all the units sold.

Option 3: Invest in gold through commodity exchanges.

You pay brokerage commissions on buy and sell (approx. 1%)
You pay 1% VAT on sales
You pay 1% sales agency charge on sales
You pay Rs. 7,200 per kg for custody and storage.
You pay 1% in wealth tax on assets above 15 lakhs.

Option 4: Use bullion vault (http://www.bullionvault.com)

You pay brokerage commissions on buy and sell (1.6%)
You pay 0.12% for vault and storage.
You pay 1% in wealth tax on assets above 15 lakhs.
You are allocated physical gold by serial number. But, you are not allowed to take delivery of physical gold. You can only sell it at market value and get the proceeds credited to your linked bank account.
You can store gold in London, Zurich, or NewYork.

ETFs are by far the cheapest method, but whether they have enough gold reserves to cover *all* units is a concern. The second best option is bullion vault.