With redemption pressures looming on the government’s Sovereign Gold Bond scheme and the price of the precious metal defying gravity, India’s golden blunder is proving to be a costly lesson in the need for financial foresight. Tying payouts to market gold prices while offering guaranteed interest threatens to become a fiscal time bomb.

Financial planner and research analyst A.K. Mandhan said over the weekend that it is as much of a government "fiasco as demonetisation”.

When the government launched the Sovereign Gold Bond (SGB) scheme in 2015, policymakers saw it as a game-changer that would wean Indians off their deep-rooted love for physical gold while reducing the country’s huge gold import bill.

Nearly a decade later, the government’s ambitious bet on gold bonds has backfired, as gold prices have surged to record highs, leading to a staggering increase in liabilities.

"The poor design of SGBs led to a 930 per cent increase in government liabilities in just the last six years, which, at today’s gold price, stands at a whopping Rs 1.13 lakh crore,” Mandhan posted on X. "And with every passing tick in (the) gold price, this will keep inflating,” he warned.

So what exactly went wrong? At the heart of the government’s miscalculation was a failure to anticipate the meteoric rise in gold prices. When the scheme was introduced in 2015, the government assumed a steady, modest increase in gold value.

But global uncertainties — from the Covid-19 pandemic and the Russia-Ukraine war to inflation and aggressive rate hikes by the US Federal Reserve — sent gold prices soaring. In December 2015, gold was trading at Rs 25,500 for 10 grams. Now, 10 grams are priced at Rs 86,840.

The government “paused” the scheme in 2024 in the face of rising gold prices. But investors who locked into SGBs at earlier, lower prices are now set to redeem their bonds at much higher rates, leaving the government on the hook for large payouts.

The idea of the scheme was simple: investors would buy gold bonds — essentially debt securities issued by the Reserve Bank of India — or deposit their idle gold with an RBI-designated bank, receive 2.5 per cent annual interest, and redeem them at the full market price upon maturity.

Moreover, the interest earned on the gold deposits was exempt from capital gains tax, wealth tax, and income tax. This way, investors could earn returns, and the government would, it hoped, see a fall in gold inflows, reducing the pressure on the current account deficit, which is the gap between exports and imports.

By 2021-22, the Reserve Bank of India had sold the gold equivalent of 102 tonnes of these bonds, indicating a significant uptake. The bond has a full maturity of eight years, while the minimum holding period is five years.

But with gold prices far outpacing expectations, redeeming the bonds has turned into an unexpectedly expensive proposition for the government. If gold prices had remained stable, this might have been manageable. But as things stand, the scheme is proving to be a beneficial deal for investors and a financial headache for the government.

Moreover, despite the scheme’s attractions, it did not reduce Indians’ insatiable appetite for physical gold, which was one of the key aims. Even with the SGBs offering a hassle-free, tax-efficient way to hold gold, many Indians have continued to prefer physical gold over paper gold.

Gold imports soared from $27.5 billion in 2016-17 to $46.2 billion in 2021-22. While imports have since dipped to $37.4 billion in 2024-25, they remain significantly higher than pre-SGB levels. Indians’ gold obsession is unwavering, and the government’s attempt to outsmart it with the SGBs hasn’t gone as planned.

The scheme has seen "significant participation," but it has also created "unexpected fiscal burdens,” conceded economic affairs secretary Ajay Seth at a post-Budget press conference this year. The SGBs have turned out to be a “fairly high-cost borrowing” for the government, he said.

“As a result, the government has chosen not to follow that path,” he added.

Government officials are not yet saying that the scheme has been jettisoned, but it has slammed the brakes on fresh bond issuances. “We’re evaluating options to balance sustainability with investor benefits," said Seth.

Several options are on the table. The government may attempt to persuade investors to hold onto their SGBs for longer by offering higher interest rates or tax incentives.

It could also roll over existing liabilities by using fresh funds from new issuances, but that risks compounding the problem and merely kicking the can down the road. Future versions of the SGB scheme may come with staggered redemption options, revised interest structures, or incentives to minimise mass redemptions at maturity.

For investors holding SGBs, the key decision is whether to redeem them or wait for potential policy changes that could offer better incentives.

“The scheme has met its objectives in providing a safe investment option. Adjustments will ensure its long-term viability," Seth said, suggesting that the government is committed to salvaging the initiative. Whether the SGB scheme can be rescued or if it will join a list of government policy misfires remains to be seen.