How do Indians use their gold loans?

In our previous post we spoke about why Indians buy gold. Citing another important finding from our gold-loan study, we highlight the various purposes for acquiring gold loans in this post.

According to the revised norms of Microfinance Institutions (Development and Regulation) Bill, microfinance clients are required to use 70% of their loans for income generating activities or productive purposes [1]. This guideline has been extensively debated among policy makers and microfinance practitioners since there's no clear demarcation between productive and non-productive purposes. For example, expenditure on health/education is not considered as an income generating activity but it could be categorized as a productive purpose because good education/ good health improves one's productive capacity, making the expense an investment in human capital.

However, the gold loan market does not impose any restrictions on the usage of loans. Therefore, it is interesting to analyze if poor people use gold loan for productive or non- productive purposes in the absence of a borrowing constraint. This study attempts to investigate various purposes for which clients acquire gold loans and finds that 24% of the clients mentioned consumption smoothing as the primary reason for taking gold loans. Most low-income households do not have a stable path of consumption due to the nature of their employment resulting in a lack of regular income. The second leading category is health as 18% of respondents acquired gold loans for expenditure on health, followed by a close 17% for business expenditure, which involves smoothing cash flow problems, repaying old business debt, investment for innovation in the business, etc. Other reasons include purchase of household assets (16%), education (10%) and marriage (9%).

Figure 1. Purpose for acquiring gold loans

To dig deeper into our research question, we try to see various reasons for acquiring a gold loans per loan type. In other words, does the source of the loan vary depending on the reasons for obtaining a gold loan? Referring to figure 2, we observe that, for instance, 50% of gold loans for health purposes are acquired from private money lenders. Similarly, 60% of loans for consumption smoothing purposes are obtained from private money lenders. On the other hand, more than 55% of loans for purchase of household assets and approximately 45% of loans for education are obtained from commercial banks. These findings have an important implication. The results lead us to believe that clients prefer approaching informal institutions for short term or emergency needs but prefer formal institutions when it comes to other specialized loan products such as home or bank loans. Since formal players are relatively new to the gold loan market, there is definitely scope for innovation and scale, in order to provide a wider array of choices to low-income households.

Figure 2. Purpose for acquiring gold loans per loan type

Going by our data, it would be safe to say that gold loans are mostly used for productive purposes, if not for an income generation activity per se. Investing in health, education and business, which comprises of 45% of the total expenditure via gold loans, can certainly be classified under productive purposes and thus signifies the importance of gold loans as an alternative to cater to the needs of the bottom of the pyramid. With formal organizations emerging in the gold loan domain, the future definitely seems bright for gold loan clients.


Recommended Reading:
1. RBI Report, Study of issues related to gold imports and gold loans by NBFCs, 2013
2. Cognizant 20-20 Insights, Surveying the Indian Gold loan market, 2012
3. Livemint, RBI norms on gold imports may deal a blow to domestic jewellers, 2013

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[1] CMF Focus Note on microfinance bill