Indian Informal Gold Loan Business Growing Like Topsy

The informal gold-loan business is like pawnshop lending, only it's done at a fixed rate and over a fixed term. The rates are usually high: 24% per year is typical. Thanks to an unusually low default rate, due to the pledged gold having sentimental value, these businesses are becoming money machines in India. As a result, the business is expanding hugely.

The opportunity is clear: Indians have traditionally used gold as a store of wealth and hold 10 percent of the global supply, much of it in jewelry. At the same time, more than half of Indian adults operate outside of the formal financial sector, according to the Reserve Bank of India.

The risk for the industry is that high interest rates and margins and the potential excesses of accelerating competition will draw a regulatory backlash of the sort that has crippled India's once-soaring microfinance sector.

This type of loan business works well in India, because a lot of people own a lot of gold for largely traditional reasons. Unfortunately, this model won't set down roots in North America because gold is held as investment rather than savings. Also, the pawnshop business is far more disreputable in this continent than in India. Any such loan shop would be heavily regulated because of the risk that it would turn into a disguised fencing operation.