To understand why SEBI was particular about regulating digital gold, let us know the product. Digital Gold is typically issued in India by institutions like MMTC-PAMP and Augomont. Of course, many players are offering digital gold, but these players have a dominant market share.
An investor can decide to invest as low as Rs250 with the gold directly credited to their digital gold accounts based on market price. Investors can sell their gold at any time with the funds transferred immediately. For the Indian market used to centuries of gold investing, this was a genuinely appealing product.
Apart from allowing investment in gold in fractions and SIPs in gold, digital gold also was a lot simpler and did not entail elaborate KYC. The majority of investors are small-ticket items. Many investors are happy with the assurance that an organisation like MMTC-PAMP provides. The full backed gold in a secured vault is undoubtedly a confidence booster for Indian investors.
The reason NSE and BSE barred brokers from selling digital gold was that it was not secure. Now securities are defined under the Securities Contract Regulations Act (SCRA). Registered members of stocks exchanges can only deal in such securities. Since digital gold was not a security, exchange members could not sell in digital gold.
But the problem was more fundamental. While SEBI and RBI regulated the existing gold products like sovereign gold bonds and gold ETFs, digital gold was outside the purview of regulation. Also, while MMTC-PAMP assured physical gold backing the digital gold units, there was no regulatory verification or audit trail of the entire process. SEBI felt that in an extreme event, it could expose investors to counterparty risk.
Here is what you need to know about regulating digital gold.
a) As the first step, the exchanges asked brokers to desist from offering digital gold on their platforms. SEBI barred the RIAs from offering digital gold in October.
b) SEBI's decision to bar regulated players created a division among the industry. Unregulated entities continued to sell digital gold, all while the regulated were barred. Many brokers had found digital gold as an excellent gateway to onboard clients and diversify them.
c) The next step would be to classify digital gold as security under the SCRA and the SEBI Act. The classification will give it the same status as equities, bonds, and F&O. Registered entities will be allowed to deal in digital gold and offer it to customers.
d) The following regulation insists that all entities offering digital gold be made liable to some form of compliance, regulation and periodic submissions to SEBI concerning the net worth, liquidity and others
e) The big challenge will be to make digital gold part of the investment ecosystem by offering it on regular platforms and including it in the trade guarantee framework. That would require a better hang on the entire creation process of digital gold, redemptions, evaluating physical gold, and others.
Suppose digital gold must not become another of those products like plantations, chit funds and unregulated FDs. In that case, digital gold must be regulated. There is no better assurance of orderly growth of a product than a regulated ecosystem.