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An Indian bride wears gold ornaments on her wedding day in New Delhi. Taxes may rise, but gold is the investment of choice in India.ADNAN ABIDI/Reuters

In the glinting showroom of the Gem Palace in the city of Jaipur, Sanjay Kasliwal surveys his family business: strings of rubies, pearls the size of grapes, collars of emeralds and, everywhere, bright yellow gold.

The Gem Palace has supplied princes, prime ministers, socialites and no small number of families preparing for weddings, for hundreds of years. But in the past decade, the price of gold has surged to unprecedented heights – fetching close to $1,700 (U.S.) an ounce on Wednesday. Yet Mr. Kasliwal's business has not faltered.

"People have a budget, but they'll still put it in gold," the jeweller said. "If the price goes up, they buy 490 grams instead of 500 grams, that's all. The Indian hunger for gold, you can't change that."

That hunger for gold has also warped the country's economy. The Indian government is growing increasingly alarmed about a current account deficit in the July-to-September quarter that accounted for a record 5.4 per cent of gross domestic product.

This week it raised taxes on gold imports in an attempt to curb a shopping habit that goes back centuries.

That will be no easy task. Gold purchases make a lot of sense for Indians. Inflation has run at or near 10 per cent annually, while the best rate on a savings product from a bank returns 8 per cent. The stock market has had returns far below that in recent years.

The only other sensible place to put savings, then, is to buy land, but property prices are extremely high; buying and selling land is also time-consuming and complex. Rural residents who need some place to put their savings after harvest often lack access to financing to buy land, and may have only small sums to invest.

"Growing at 20 per cent for the last 10 years – the obvious choice is gold," said Jayadeva Prasad Moleyar, an economist in Mangalore who tracks gold consumption.

In addition, a huge amount of the money being invested in India is what is known as "black" money – earned in unofficial transactions and not declared for taxes. By some estimates, this covers as much a 25 per cent of transactions. And gold is the best place to put that cash, too.

Beyond the economic rationale, gold has a cherished role as an auspicious substance across the diverse cultures of India. "If there is a wedding, the father-in-law is not going to give the bride shares in the Tata Motors company," Mr. Kasliwal scoffed. "He buys gold."

India produces no gold domestically, and the import of gold is a key cause of the country's balance-of-payments deficit, outstripped only by the dollars India must spend to import fuel. This balance-of-payments problem is said by government to be weakening the rupee and undermining India's economic recovery. The country has a high rate of household savings, comparatively, but assets locked away in gold are not available for investment.

"If we have gold [mines] in the country then we will have no current-account problems, but we have to import every ounce of gold," Finance Minister Palaniappan Chidambaram said this week, after the government hiked the import duty on raw gold to 5 per cent from 2 per cent and the duty on processed gold to 6 per cent from 4 per cent. "[With] the increase of import duty we hope the import of gold will be moderated."

But the Finance Minister seems to be overlooking the lessons of recent history. "This will not work," Mr. Moleyar said. "Nobody is going to buy less just because the duty went up 2 per cent: The price has gone from 20,000 rupees to 30,000 rupees [from $375 to $560, per 10 grams] in the last 10 years and people have not reduced."

He said he understands Mr. Chidambaram's intention. "The only thing the Finance Minister is trying to do is reduce gold imports through the official route – then his rupee is protected. And now gold will come through the smuggling route which, for the time being, he is not bothered about. Right now his immediate problem is balance of payments."

Pranab Mukherjee, who was finance minister before becoming India's president last year, said Indians must be persuaded to stop tying up their assets in gold, an unproductive asset. "There is a need to spread financial literacy to encourage people to invest in market instruments" and not gold, he told business leaders last year.

A World Gold Council report said that about 75 per cent of Indians' gold purchases are in jewellery; most of the rest is in "savings" forms – gold bars and coins – which are popular, liquid savings vehicles.

India banned gold imports from 1947 to 1966, and then used a complex licensing system for imports; smuggling was rife. Gold imports were liberalized in 1997, and the smuggling died out, Mr. Kasliwal said, but the illegal trade grows a bit with every tax hike such as the one this week.

If the government wants people to stop buying gold, then it must give them another good option, Mr. Moleyar said. "This is not a very responsible finance minister; he has to provide alternatives. For him to appeal to people because India has a [balance of payments] problem – we know India has a B-o-P problem, but we have to survive."

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