How Gold Emerged As A Shield For Vulnerable Districts During Economic Shocks Of COVID-19

How Gold Emerged as a Shield For Vulnerable Districts During Economic Shocks of COVID-19

According to a study by the Indian Institute of Management, Ahmedabad (IIMA), households in India’s COVID-19 vulnerable districts increased their gold investments in their savings accounts during the pandemic. Other financial assets as well as cash holdings decreased as the focus shifted to gold. In accordance to the study, decreasing the preference for gold as a secure asset during crises might be accomplished by addressing geographic health disparities and enhancing financial access. The study emphasizes how the pandemic affected household gold savings and offers insights into the ramifications of such behavior for the economy.

Background

Widely regarded as a key component of diverse home portfolios is- Gold. Comparatively speaking to stocks, bonds, and equities, it has been shown to involve less risk. Numerous studies have shown how important it was as a safe haven during the COVID-19 crisis, stock market crashes, as well as financial crises. In reaction to unforeseen shocks to their income, which include health shocks, natural disasters, and asset loss, households frequently change the way they allocate their resources.

This study investigated whether the allocation of household savings to gold in India was impacted by the exogenous shock of the COVID-19 pandemic. Both salaried employees and those who work for a living wage saw their incomes significantly fall as a result of the pandemic and the ensuing economic disruptions. According to estimates, households suffered significant losses as a result of the prolonged period of lockdowns. Additionally, the pandemic’s increased level of uncertainty changed how people spent their money and saved it, causing them to turn away from equity investments in favor of safer alternatives.

In India, the second-largest developing market economy in the world, gold plays a huge cultural and socioeconomic role. Indian consumers have historically viewed gold as a secure asset and a store of value, which has caused a noticeable rise in gold consumption over the previous two decades. The typical Indian household makes investments of a sizeable portion of its wealth in gold, making India the second-biggest consumer of gold (that is, in the form of jewellery).

Household portfolio allocation

Numerous factors, such as time-based effects (inflation expectations, risk-return preferences), consequences of age (household age), as well as demographic impacts (wealth, race, education, etc.), affect household investment decisions. Studies have indicated that some variables, like age and wealth distribution, can have a significant effect on household portfolios, with those with greater incomes and college-educated families having a tendency to prefer riskier assets while retired as well as self-employed households have a tendency to favor more conservative assets. It has been found that there is inertia in household asset allocation, where fluctuations in wealth have little impact on the proportion of risky liquid assets and where households are inclined to rebalance their portfolios gradually for cost-effectiveness.

The diversification of portfolios across various assets with varied risks reflects expectations of the financial market, while families with low incomes may use savings for retirement as insurance against shocks. Financial assets can exhibit a reverse trend due to their enhanced liquidity, contradicting the life-cycle premise that families accumulate assets and spend them as they age. Additionally, a number of variables, such as the overall amount of financial assets owned, the purpose to take on risk, and financial market expertise, affect families’ propensity to hold risky financial assets. Current market returns have been proven to influence people’s preferences for particular assets, which has an impact on stock market participation across age groups.

According to certain surveys conducted all over the world, households may steer clear of financial assets despite their greater returns because of perceived hazards, difficult investment processes, and the requirement for a sizable initial commitment. Along with financial wealth, the marginal tax rate is a significant factor in how households allocate their assets between risky and safe ones.

Economic shocks and flight-to-quality

Previous research has looked at how households in different nations distribute their assets in response to income shocks. According to some studies, households in Sweden with more wage volatility are less exposed to hazardous assets, but households in Norway prefer to change their asset allocation towards safer options when the perceived possibility of job losses rises. Households that were negatively impacted by the Finnish slump were less inclined to invest in risky assets. Investment in risky assets was seen to negatively respond to income risk in households in both Italy and the United States.

Different home behaviors were highlighted by the Asian financial crisis. While some households cut back on semi-durable purchases while maintaining a steady level of food spending, others, particularly those in rural areas, turned to gold to smooth out their consumption. Any increase in unemployment following a crisis resulted in differential cashing out behaviors across income levels. During financial downturns, investors tend to herd, shifting from risky assets to comparatively “safer” ones deemed to be of greater “quality.” During Asia-Pacific financial crises, flight-to-quality effects have been documented, with investors shifting from volatile stocks to conservative long-term government bonds.

Health events also have an uneven impact on asset allocation, with a new disease diagnosis resulting in a higher drop in financial wealth for households compared to non-financial wealth. Household consumption, resource allocation, along with input choices are all influenced by exogenous forces like as the COVID-19 pandemic. Certain families in Uganda during the pandemic responded to income disruptions by borrowing money and using their savings, rather of selling cattle or liquidating fixed assets. In a similar vein, during COVID-19, investor preferences switched towards more conservative assets, according to surveys conducted in New Delhi and Mumbai.

To deal with the financial effects of COVID-19, lower-income households in the United States used savings, missed payments on bills, and applied for tax refunds. Households are advised to arrange their finances to assist them withstand the shocks of the epidemic. However, some researchers discovered that families did not actively tend to rebalance their portfolios in reaction to the stock market drop that followed the epidemic. Instead, modifications to assumptions regarding household debt as well as labor market participation were implemented.

Role of gold during crisis

A safe haven during rapid negative financial market shocks like stock market collapses and financial crises, according to researchers, is gold. For local investors, especially in developing nations and emerging markets, it has been noted to serve as a safe haven. Since the financial crisis of 2007, aggressive allocation to gold has produced stronger returns than it did during past economic downturns. In China, during volatile stock market circumstances and crashes, gold was seen as a potent safe haven.

Studies that compare the pre-COVID and COVID-19 periods demonstrate that gold outperformed other financial assets including U.S. stocks along with other precious metals like silver, palladium, and platinum as a safe haven asset throughout the pandemic. Gold served as a safe haven commodity for stock markets during the early stages of the COVID-19 epidemic, but when investors changed their portfolio allocation to gold, it later transformed into a “flight-to-safety” asset.

However, several research have offered conflicting results. For instance, one study found that considerable gold investment during the 2008 sub-prime crisis and the Lehman collapse reduced gold’s ability to serve as a safe haven. Another study discovered cases of hyperbolic discounting, when investors increased their investments in stocks rather than gold during slow economic growth periods because stocks offered superior short-term returns, particularly during non-crisis periods.

Household survey data by IIMA

The Household Survey of Gold Consumption, a unique and comprehensive household survey, was undertaken by the People Research on India’s Consumer Economy (PRICE) and India Gold Policy Centre (IGPC) during the COVID-19 period in the 2020–21 fiscal year to provide the data for the IIMA study. In 160 districts across 23 Indian states, 40,427 families participated in the survey. The estimations are based on a sample of 21,611 households in 142 districts across 21 states, relying on the data availability for the variables utilized in the analysis.

They used data from a prior representative survey conducted by PRICE in the 2015–2016 fiscal year to compare changes in household gold savings. Between the two surveys, they created a two-period panel data made up of 4,629 common homes spread throughout 119 districts and 19 states. The estimations employed a smaller sample of 2,647 households spread across 98 districts in 17 states due to the lack of data for the variables considered in the research.

Summary statistics of IIMA survey

Their sample’s typical household earns 438,011 Indian rupees annually. The average household has four people living in it. More than 80% of the household heads in their sample are men, and 89% of them are married. The average age of the household head is 43 years. Only 14% of the household heads had a college degree, which suggests that the bulk of those surveyed have less education. 38% of the households in their sample are in rural areas. In the year (2019–20) before the start of COVID–19, the average district in their sample experienced growth of 9.4%. About 52% of the district growth rates come from services.

Analysis of the IIMA survey report

The researchers of the study investigated if the pandemic’s effects on household savings’ composition across different asset classes. They used a comprehensive household survey which was carried out throughout the COVID-19 era to examine how households allocated their portfolios. The results corroborated the theory that during the pandemic, households in COVID-19 vulnerable Indian areas—the top tercile of districts according to the number of reported COVID-19 cases—flew to safety towards gold. Both a relative and an absolute shift were seen. Cash and other financial assets, which predominantly comprise other assets, have contributed to the larger allocation to gold.

The initial findings held up well when other measures of susceptibility were included, such as a continuous variable for COVID-19 instances per 1,000 people and nighttime lights (a measure of the economic burden). Panel data estimates offered more proof that people changed their portfolio allocation to safe assets like gold as a result of the COVID-19 pandemic’s economic impact. The effect was not uniform between districts, the researchers discovered. The increased allocation to gold in household savings varied across districts in terms of residents’ prior access to financial resources, health facilities, and gold holdings.

Prior studies on the role of gold as a safe haven during difficult times have typically relied on macroeconomic statistics at the national level or across emerging markets and advanced economies, or they have employed small-scale, non-generalizable surveys. Based on results from representative surveys done both during a typical era and during the COVID-19 pandemic, this study’s findings suggested that gold accumulating at the household level can have significant effects during times of increased uncertainty. For example, further research at the household level is required to fully comprehend the relationships between gold and the welfare effects of households’ reliance on this asset.

Policymakers can target interventions in regions with a greater frequency of gold savings by using household behavior as advice. The COVID-19 crisis has highlighted the crucial role that health infrastructure plays during major national or international health crises. The results indicate that resolving geographical disparities in the accessibility of health facilities will calm public anxiety and prevent a flight to safe assets like gold.

Additionally, the results imply that easier access to financial tools and institutions may lessen people’s desire to hoard gold in difficult times. Macroeconomic effects, such as a growing current account deficit because of the reliance on imports to meet the increasing demand, might result from a higher incidence of gold savings during uncertain times. The findings can aid in addressing external vulnerabilities, particularly in times of market volatility and general shocks.

The value of gold as a safe haven asset has become more apparent in this period of unheard-of global uncertainties. Numerous studies and polls taken throughout different economic shocks and the COVID-19 epidemic have shown how resilient it is as an investment choice for households looking for stability during challenging times. The results highlight the importance of comprehending family dynamics and the effects of gold accumulation during times of increased uncertainty.

Policymakers can use the research’s useful insights to focus initiatives in regions with a greater frequency of gold savings and address inequities in the health infrastructure, thereby reducing the “flight-to-safety” toward gold. Understanding household behavior patterns and the long-lasting value of gold can help us manage the intricacies of financial markets and meet the difficulties of a changing world, opening the door to a more stable and secure economic environment.