Central bank gold reserves lower sovereign credit risk: IIM Ahmedabad study

Mumbai: High levels of central bank gold reserves have a strong impact on reducing the sovereign credit risk of that country in international markets, found a study by the India Gold Policy Centre (IGPC) at the Indian Institute of Management Ahmedabad (IIM-A).

In the current scenario, the findings therefore seem to have positive implications for India. This study of global markets was conducted by a team comprising Sawan Rathi, a doctoral student in economics; Sanket Mohapatra, IIMA faculty in Economics, and Arvind Sahay, chairperson of India Gold Policy Centre (IGPC) and a faculty in marketing and economics at IIMA.

The researchers considered five-year sovereign credit default swap (CDS) spreads for 48 advanced and emerging market countries over a 20-year period, from 2000 to 2020 for measuring the economy’s default risk. The data was mapped against information on central banks’ gold stocks obtained from the World Gold Council database.

The study reveals that higher central bank gold reserves reduce future uncertainty and reinstate confidence among investors as well as policy makers. The research reveals a negative and significant association of sovereign CDS spreads with the central bank gold holdings of an economy and researchers noted that the likelihood of a credit ratings downgrade decreases with larger gold holdings of central banks by reducing future uncertainty and reassuring confidence in investors and policy makers.

Sahay said that due to necessary countercyclical fiscal stimulus and a build-up of government debt during the covid-19 crisis, sovereign credit ratings of both advanced and emerging market economies have come under pressure.

In 2020, Moody’s downgraded India’s sovereign rating to Baa3, highlighting its weak fiscal position as the primary cause of credit restriction.

“The findings of this cross-country study suggest that higher central bank gold reserves can help in stemming a further deterioration and provide support to the credit ratings of countries such as India,” said Sahay.

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