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Tuesday, 24 November 2009

Mining Reflections: Proposition One

Proposition 1: Zambia earns very little revenue from its vast wealth of mineral resources
At first this appears to be an obvious statement to most regular readers of the Zambian Economist. However, it is worth stating this upfront because the current Rupiah Bwezani Banda (RBB) led government continues to dispute this basic proposition. Moreover, they (and their sympathisers) tend to advance misleading counter-arguments to justify their intransigence. Any counter-perspective to that offered by the powers that be, as I do here, must first debunk these flawed ideas before setting out a positive case. This is the approach taken. The government's arguments essentially rests on three arguments :
  • Investment in Zambia has grown significantly, as much as $4bn has been invested in the mines. Without the current fiscal regime Zambia would never have the sort of investment it has had. Indeed part of the reason why Lumwana was built was due to the favourable regime, For 25 years, Zambia had no new mines opening, now we see plenty of new ventures being proposed under the visionary policies of the MMD led government over the two decades.

  • Related to the point above, significant jobs have been created from new investment opportunities. Zambia may be losing out from mining taxes but it is benefiting significantly from new jobs. This is very much at the heart of the RBB thesis : "We must ensure that we do not kill the goose that lays the golden egg. There is little point in taking in a few million dollars in tax if thousands of jobs are lost as a result”. In short any appraisal of Zambia's mining policies must account for the huge benefits we have supposedly got from these new jobs.

  • It is a misconception that Zambia does not benefit from the good performance of mining companies because ZCCM –IH is a state owned venture and it owns share from in joint venture with foreign mining corporations. Therefore as the transnational companies soar in their mining profits ZCCM-IH gains significant windfall. A "them Vs us" approach does not therefore quite reflect reality on the ground, where ZCCM - IH is allegedly a "big player"with assets over $1bn.
Picking up these points at random. It is true that ZCCM-IH does have interests in many of these companies, but it hardly possesses a controlling interest stake in any of the key joint investments e.g. FQM’s Kansanshi and Vendata’s Konkola. More worryingly it’s been clear for a while that ZCCM –IH has not been receiving meaningful dividends from its jointly owned projects. A fact which led to rumours last year that government was planning to convert these financial liabilities into equity, thereaby raising substantially its stake in the mines. That the government recognised this possibility is a clear testament that the ZCCM-IH model has not worked. Indeed, what seems to concern many people is that ZCCM - IH is not "empowering" ordinary Zambans. If ZCCM-IH was owned by ordinary Zambians a potential argument can be constructed that some money does filter back to ordinary Zambians via the "theoretical dividends".

On the issue of investment, without doubt Zambia has significantly increased foreign direct investment to the mining sector. But the fundamental question : what has driven this investment? Although tax competition is used usually to justify the level of tax, it is clear from literature that the key driver of foreign direct investment tends to be political stability, cheap / diverse labour and, most importantly, prevailing global economic forces. Zambia’s mining industry is booming because the prices of commodities are high and will continue to be high for some time, aside from few fluctuations because of the long term global imbalance between demand and supply. Of equal importance is that the investors are confident of the political ambiance in the country. With these points in mind, and the fact that Zambia is already at the bottom of the world's mineral fiscal systems, the flexibility for increasing the level of taxation is huge. Zambia’s current low fiscal regime allows sufficient headroom for companies to make large profits even as they pay fair wages and mining taxes. There's no economist worth their salt who would argue that increasing mineral taxation, on its own, would reduce investment. The tax competition argument is therefore rejected in the Zambian case.

But there’s a broader point also to be made – lower taxes may attract “wrong investors”. Many of the investors Zambia has attracted in the mining industry have been nothing short of short term vultures (term used is "infestors"), whose primary interest is to come into the country to siphon resources on the cheap and vacate premises when the going gets tough. Poorly designed incentives coupled with a friendly regulatory structure continues to undermine Zambia and its workers. Jobs may have been created, but we have seen time and time again people only to be laid off.

With regards to the RBB thesis of job creation we can easily reject that because the counter-factual is all wrong. The so called jobs created by the MMD led government of the last two decades are essentially the jobs they destroyed through the disastrous privatisation project of the early 1990s. But suppose we can allow RBB the argument that he has created jobs, how far does the argument go? Not very far because the real the central question of course relate to the “quality of jobs”. The argument regarding job creation treats jobs as homogeneous and an end in themselves. The goal of government is to provide a conducive environment where individuals can create value adding jobs and thereby foster wealth creation. Pointing to jobs founded on casualisation is not wealth creation.

We shall return to one or two of these issues in future propositions. For now it sufficient to simply note that the above three government arguments do not sufficiently undermine our basic premise. Quite the contrary, the government's counter-arguments are useful in helping us identify some areas were potential exists for improvement but ignorance has led to sub-optimal outcomes and general injustice to our people.

With the counter-arguments disposed off we can now put forward five positive reasons that underpins my belief that Zambia is being fleeced.

First, the average tax rate implied by the RBB fiscal regime is significantly low. Zambia has one of the lowest tax regimes in the world. Prior to 2008, the effective tax rate stood at around 32%, with the Levy Patrick Mwanawasa (LPM) changes it was intended to rise to 47%. LPM put it best : "with these new measures, the Zambian tax regime still remains competitive and moves Zambia into the media position in international comparisons at 47% effective tax rate. The effective tax will not adversely affect the companies' viability as their returns will remain well within the international norms". In short Zambia was to tax more than Tanzania but less than resource rich nations Botswana, Mozambique and Angola. More on that in a second. What is clear is that RBB has now reduced Zambia's tax levels back to the lowest mining tax country in the world.

Secondly, the level of mining revenue actually collected under existing obligations is pitiful. There are many instances of mining companies refusing to pay taxes even where the Zambia Revenue Authority (ZRA) has correctly identified their obligations. In 2008, Zambia earned over $3bn from copper exports, but of the $421m that should have made its way into our Treasury, only $200m was actually collected - that is just over 6% (other estimates put this at around 3% to 5%). Even though we have some of the lowest taxes in the world, the mining companies threatened litigation. That was before the risk of redundancies, on the back of falling prices, offered them a new way to put pressure on our government. It is still unclear whether these companies have paid their windfall tax obligations under the 2008-2009 fiscal year. Arguably the biggest failure is the inability of ZRA to correctly overcome the asymmetric information problems, where the mining companies have more knowledge than ZRA on the exact nature of the mining costs. In addition, mining companies have erected sophisticated mechanisms of tax avoidance by channelling their profits through offshore companies in islands like Mauritius. This is effectively robbing a beggar.

Thirdly, our country compares very poorly to other resource rich nations. Chile is the usual comparator but more immediate abound. The Debswana model of 50% government ownership in Botswana diamond mines is well known. An even better example that puts us to shame is a neighbour recovering from a prolonged civil war. The rapid development of diamond mining activities in Angola has been heavily trailed in the last few years, but what is not often reported is the remarkable difference between its non-oil mineral framework and our own, which is allowing the Luanda government significant revenues. Typically, a diamond mining company in Angola has to take on a large number of associated Angolan personnel at the exploration stage, thereafter the developer is expected to fund 100% of the capital expenditure although owning only around 40% of the mine. The rest of the equity is held by the Angolan government through Endiama and by nominated private Angolan investors all of whom are entitled to a “free carry.” Once completed, the developer has priority over revenues until the capex outlay is recovered but may still get only about 80% of the initial revenues because of profit share agreements with the Angolans. It is therefore no surprise that Angola is benefiting greatly and growing at a faster pace than Zambia. The combination of oil and diamond revenue has paved way for significant investment in infrastructure.

Fourthly, Zambia continues to lose significantly from non-copper industries. A good example of this is emeralds. It has been known for a long time that Zambia has the world’s second largest emerald deposit after Colombia in South America and also boasts of Africa’s biggest amethyst and aquamarine fields, but the government coffers and the economic plight of our people does not reflect this reality. We get very little from this significant wealth. At the heart of this problem is that the industry remains unregulated and probably should have a stronger element of state production. This logical conclusion becomes self evident once we recognise that our current approach of simply providing licenses is irrational, as ordinary Zambians have have limited incentives to develop the mines in face of unregulated foreign emerald cartels. It is simply cheaper and more immediately rewarding for many Zambians to allow foreign production (by charging the "fee") rather than develop the mine themselves. To successfully develop these mines not only do you need credit, but also access to established supply chains. The foreign investor has all these things in abundance and crucially they are able to harness the economies of scale that are associated with pooling licences together. Bizarrely the more attractive gemstone becomes the more foreign investors push out the locals! Unfortunately for Zambia these foreign operators keep their cash abroad where they live! The gemstone industry (estimate over billions of dollars) is a classic example of wealth lost from Zambia. Time fails me to speak of other lost opportunities such as manganese and uranium.

Finally, the current GDP contribution of mineral resources is minimal. A huge fallacy perpetuated by ignorant observers is that copper is the life blood of Zambia's economy. Recent GDP numbers in face of a global down turn should help check that madness. Copper was the life blood of Zambia's economy prior to privatisation when it represented a greater share of government revenue and GDP growth. Purely in terms of actual contribution to GDP growth the mining sector has not contributed to the economy as it should. This of course comes as no surprise because with around 6% of mining revenue remaining in the country there’s not much contribution it can make to the economy.

Figure 1: Sectoral Contribution to GDP (2008)
With this in mind, it is clear that the country as a whole is losing out from this industry on a grand scale. When judged against other countries and considering that copper is our exogenous right the status quo represents substantial level of injustice and unfair play against our people. The definition of this gross injustice goes beyond revenue considerations. Proposition 2 will expand on this dimension.

Update (3rd December) :

Dr Mpande at the School of Mines, UNZA has put together this wonderful chart showing that Zambia's tax take is in effect negative given the VAT rebates.

Update (6th December):
In the narrative, I touched on the gemstone problem. The Gemstones and Allied Workers Union of Zambia is also equally concerned.


  1. Cho
    Promise me that you wont delete my responses to your propositions as you have done before.

    If you do so, I will then show you how utterly baseless your arguments are.

    Will you do so?


  2. Interesting article, particularly the reference to Zambia allowing outsiders to mine their minerals and just take a commission. In the long term this will cause problems as they are a decreasing resource and the government (as does Botswana today) should be looking to create other forms of revenue and job creation to protect against lost revenue from decreasing mineral revenues.

  3. Adam,


    I think you hint at the conundrum.

    Increasing revenues may perpetuate dependence in a depleting resource. The problem of course is that diversification requires access to revenue.

    I will revisit that aspect once I have dealt with the basic propositions.

  4. The data presented at the EAZ conference should be taken with a pinch of salt, since it only depicts one side of the story.

    The data show that the mining sector contributes a net negative amount to tax revenue which is mainly due to the large VAT refunds that the sector receives. However, there are two components missing.

    Firstly, any domestic transaction that attracts a VAT refund must have come from a supplier that also pays VAT to the government on that transaction (assuming no tax tricks by the mining firm). So the two payments, the refund to the mining firm and the VAT payment from the supplier will net out to zero. The large VAT refunds are being paid for by the taxes paid by the suppliers to the mines. Of course, you could say that this still represents a lost opportunity to further increase tax revenues but thats another story.

    The second component missing from the data is VAT refunds from overseas purchases. This component is not netted out by a corresponding VAT payment from the supplier since the supplier is overseas. It is this value that we need to know before we can say whether the mines are a net contributor to fiscal revenue.

  5. I started to read your article until I got to the point where you say "they (and their sympathisers) tend to advance misleading counter-arguments to justify their intransigence". I got the impression you are one of those who will accuse other of being MMD or having a loose wire just because they don't agree with your point of view. I got discouraged.


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