Find us on Google+

Sunday, 18 January 2015

State of the economy

At the turn of the year the GRZ gave its assessment of the 2014 macroeconomic performance and the outlook over the 2015-17 period. Here the key quotes from Finance Minister Alexander Chikwanda :

“The economy in 2014 has remained strong with preliminary real GDP growth of 6 percent; making Zambia the seventh and tenth fastest growing economy in sub-Saharan Africa and the world, respectively”

“The positive performance was driven by agriculture, manufacturing, construction, energy, transport, communication, and the financial sector. Preliminary data shows that mining is expected to contract on account of operational challenges at some localities during the year under review. Considering that growth has been driven by non-mining sectors, this is clearly a reflection of the Government’s relentless efforts in diversifying the country’s sources of growth, income and employment”

“Going forward, it is the intention of the Government to continue with policies and strategies that will further consolidate the diversification of the economy, and in the process ensure resilience to any adverse external developments, such as those associated with volatile copper prices” 
“Over the medium term, 2015 - 2017, real GDP growth is expected to escalate to an average of 7 percent principally as a result of increased agriculture production, electricity generation, construction and growth in transport and communication….Investor confidence continued to be strong in 2014. Evidence to this was re-affirmation of the country’s sovereign credit ratings at a ceiling of B+ coupled with the continued rise in FDI inflows…”


“Some economic analysts have been raising concerns over the outlook in the mining sector. There is no cause for alarm. As Government, we are confident that working in collaboration with mining companies, the concerns will not be insurmountable as they will be resolved with reciprocal amicability”

“The Government remains committed to resolving the matter of VAT refunds to mining houses and other sectors. Movement on this issue has been delayed on account of the court actions which some mining companies have instituted. Our hope is that we can still resolve this matter…. For 2015, we have made provisions to cover normal VAT refunds as well as dismantling prior claims”

“Following the approval of the 2015 Budget and in particular the new mining fiscal regime, Government fully recognizes the reported concerns by some mines…Government will engage the concerned mines within the framework of the existing statutes, upon presentation of the likely adversity on their operations… while taking due consideration for the Zambian people to benefit from their natural resources. The current tax structure is a final tax that has replaced the profit based tax, which was largely illusory and disadvantageous to the country..”


“The Government in 2014 made progress towards fiscal consolidation. Our assessment of the deficit in 2014 indicates that it will be contained around 5.4% of GDP, a rate lower than the 6.5% of GDP registered in 2013. For 2015, the projection is an even lower deficit of 4.6 percent, while in the medium term; the Government will reduce the deficit to around 3 percent of GDP, in line with the policy of promoting the availability of capital for private sector growth. The reduction in the deficit will be firmly anchored on continued re-alignment of expenditures to priority areas such as infrastructure, improved public service delivery, and rationalizing the Government wage bill to forestall structural imbalances and deformities. Recurrent expenditures of up to 70% largely emolument and emolument related cannot be a recipe for country-wide sustainable development..”

“The Government takes the issues of debt sustainability very seriously…The last Debt Sustainability Analysis (DSA) was conducted in June 2014 and the full report is ready. Total public debt is in the order of 32 percent of GDP, a level that is below the internationally accepted threshold of 40 percent. Our external debt as at end-September 2014 stood at US $4.7 billion. In net present value terms, this represents 17.6 percent of GDP. The domestic debt as at end-September 2014 was at 13.6 percent of GDP”

“Regarding the exchange rate, the trend this year has been towards depreciation, especially during the first half of the year. Some measures undertaken by the Bank of Zambia have led to relative stability of the currency…Going forward, the Government will continue to monitor exchange rate developments to ensure stability as continued tight liquidity conditions may overtime harm the economy”

“We have noted that credit conditions have generally remained supportive of economic growth. For the year to September 2014, domestic credit increased by 14.8 percent. Government however, remains committed to ease liquidity conditions in the financial sector once relative stability in the exchange rate has been attained”.

(Source: Ministry of Finance, December 2014)
Four things worth noting. First, it is correct that Zambia’s economy is growing well and the growth is increasing more broad based. However, it worth remembering that the 2014 growth rate is lower than the GRZ target – something the minister neatly side steps. And it is not just the growth target out of sync. The inflation target was also missed despite falling oil prices [a testimony to our flawed procurement strategy]. More importantly the minister should have been more upfront to acknowledge that Zambia’s failure to register spectacular growth, rather than merely “good growth” has been down to lack of policy consistency.

Secondly, whilst it is true strong growth should continue over the medium term, it is not by all means guaranteed. Zambia faces important external risks than need to be actively managed. Global growth is likely to slow down further, as the Eurozone continues to experience stagnation. We have also seen China record it’s slowest growth for two decades, sending copper prices below $6000 per tonne with every possibility that copper will fall further. Though this risk is manageable, it would have been more helpful for the finance minister to set out a clearer strategy for dealing with the inevitable negative headwind, especially given the mining taxation debate. Is there sufficient fiscal space to stimulate the economy if the need arises in 2015?

Thirdly, related to the second point the statement notes the alleged progress Government has made in 2014 towards fiscal consolidation. The finance minister says “our assessment of the deficit in 2014 indicates that it will be contained around 5.4% of GDP, a rate lower than the 6.5% of GDP registered in 2013”. What he does not seem to mention is that the 2014 deficit is based on a different definition to the 2013 deficit because the economy was rebased last year. Zambia’s is only looking better on this issue due to the rebasing of GDP which suggested the economy was 20% larger than previously estimated. More importantly as we noted yesterday, the deficit is likely to worsen in 2015. Here again the issue is not simply that we need strong stability in 2015, it is vital that government is proactive in engaging various players so that they understand the risks e.g. public sector unions need to realise that now is not the time to lift the wage freeze.

Finally, the statement by the minister that “credit conditions have generally remained supportive of economic growth” is clearly misleading. Liquidity conditions may have eased after the stabilisation of the Kwacha after the chaos of the first half of 2014, it is hardly true to say “credit conditions” are enabling as that is a wider problem. The cost of borrowing remain a huge constraint to entrepreneurship. The scale of the challenge appears too great for short term solutions here. As we have noted before the route to lower borrowing costs is through reducing exchange rate volatility, revising inflation expectations downwards; improving competition in the banking sector; credit bureau support; sorting out our address system (and housing) to be able to track defaulters; improvement in policy consistency – including syncing economic and political issues - ; and, tackling land reform to help release collateral.

Chola Mukanga 
Copyright © Zambian Economist 2014


    Parliament recently approved the changes to the mining fiscal regime that has introduced a Mineral Royalty Tax of 20% for open cast mines and 8% for underground operations which will be applicable from 1st January 2015. The Mineral Royalty will now apply as the final tax, i.e. there will no longer be a tax on profits as previously structured. Information available indicates that, other copper producing countries in the African region charge Mineral Royalty Taxes of between 3% - 9%.
    In practice, the new measures will require mining companies to remit to ZRA, the cash equivalent of the value of the minerals produced as the Mineral Royalty tax monthly, i.e. before they actually realise any respective sales proceeds. This means that the Tax is on production rather than profits realised after taking into account of the costs incurred. It is therefore likely to increase costs of production faced by the mining companies by the tax rate imposed, according to type of mining operations, i.e. open cast or underground mining.
    Granted that the Mineral Royalty Tax will be the final tax, it does not help the investor’s cash flows and ability to manage the increased tax compliance without adopting cost cutting measures and, in extreme cases, divestment. To put it simplistically, it is like requiring the farmer to pay upfront as a final tax to the ZRA, 20% of the value of the maize produced lying in their fields, i.e. before taking account of the production costs and realising any actual sales proceeds. A cynic could argue that the government is in such severe need of revenue that it can’t wait to properly tax profits of the mining companies but compel them to remit higher rates of Mineral Royalty upfront.
    From 2008, it can be argued that the Mining fiscal regime has faced a series of policy changes, instigated by successive Heads of State. For example, late Mr. Levy Mwanawasa introduced the Windfall Tax; Mr. Rupiah Banda removed the Windfall Tax and focused on taxing profits, inclusive of a Variable Tax; and the PF Government initially doubled the Mineral Royalty Tax under the late Mr. Sata from 3% to 6% and, withdrew the suspension of the 15% duty on the export of concentrates. Added to this has been the PF government’s withholding of the VAT refunds due to the mining companies since the beginning of this year, estimated to have accumulated to over US$600 million.

  2. The recent changes to the mining fiscal regime have not been well received by the Chamber of Mines as a collective. In defending the changed mining fiscal regime, the Minister of Mines, Energy and water Development was quoted by the Zambia Daily mail edition of 27th December 2014 as stating that: the increase in mineral royalty taxes would not affect profits of the mining companies. The Minister went on to warn mining companies not to hold the country to ransom by threatening to close operations. Specifically referring to Barrack Gold Corporation, the Minister dismissed the company’s claims that: “the measures will kill its business when it has not presented a scientific argument on how it will fair under the new tax regime”.
    The Minister did not however share with the public, “the scientific basis” that the Government used to arrive at his new tax regime and indeed to support his assertion that the mining companies are already making a lot of profits. Neither did the Minister explain how mining companies operating both open cast and underground mines will apportion the value of ores going through the concentrator and smelting facilities in order to determine which batches will attract 20% and 8% Mineral Royalty tax, respectively. There is also the little matter of toll processed and/or bought in concentrates from the DRC and other locally based mining companies.
    More worrisome is the direction of the political response given by the Minister that can have the effect of casting mining investors as exploitative and making unfair profits, thus denying Zambians a rightful share from their resources. This sort of reaction clearly has some public appeal, typical of the UNIP era prior to the nationalisation of industries. It is also likely to invoke emotions that are devoid of reasoned arguments other than been highly politicised, with proponents of the measures accusing those that do not favour it as being “unpatriotic”.
    There is nothing to stop the government from strengthening mining tax administration and ensure that mining companies pay the right amount of tax when it is due. Ideally, the PF government should have focused on ensuring that the capabilities of the Mining Tax Unit (MTU) in the ZRA were strengthened, especially in the analysis of costs associated with mining operations, identifying cases of transfer pricing and enforcement of Zambian tax laws. Despite the MTU being established in 2009, little information is available as to its effectiveness or if its staff have the recommended mix of skills in: mining engineering, metallurgy, geology, mineral economics, accounting and legal, and can effectively assess taxes of individual mining companies.
    Instead of strengthening internal capacities to analyse how the mining companies are operating and ensuring that they pay the correct amount of taxes, it has been considered more expedient by the government to change the mining fiscal regime. Invariably, this may be considered as “the classical failure to admit failure”. The government is passing the buck to the mining companies who cannot defend themselves against accusations of being unpatriotic, exploiters of Zambia’s wealth, etc. This unfortunately cheapens the policy debate, especially where it is the policy makers leading the onslaught against FDI.

  3. There is a danger that mass hysteria can obscure objective and constructive debate around what Zambia, as a nation needs to do in order to maximise benefits from copper mining, especially, that it is a wasting asset. What Zambia needs is to strike a balance between what the nation gains from the exploitation of its natural resources (especially copper) and what those who bring in their capital and carry the investment associated risks hope to realise as a return.
    The issue faced by the Zambian mining industry is the unpredictability of the fiscal regime, given that the government has demonstrated a propensity to introduce sudden changes without adequate consultation and consideration of critical factors affecting the industry. There is a general lack of understanding of the gestation period involved for investments in mining ventures to pay back. An improved price for copper on the international markets does not therefore immediately translate into profit gains. For example, the impact on the scale of long term investments being made to carry out exploration activities (with the attendant uncertainties of striking profitable reserves) and cost of developing and operating new mining ventures.

    There is also a tendency to overlook or under estimate the direct contributions of the mining industry towards infrastructural investments, such as roads, water supply, hospitals, township maintenance and other social facilities. The mining industry in Zambia is therefore exposed to indirect taxes and levies arising out of the failure by local government to provide required social services and maintain basic infrastructure. Such investments need to be publicly acknowledged and attributed to the company that is paying for the upgrades since local citizens often blame the mining companies of not contributing enough by paying sufficient taxes, believing that they are in Zambia to simply exploit and take away resources.
    As Peter O’Halloran, the Head of Tax at BDO in Botswana wrote in an article produced in the Botswana Gazette of 18 – 24 November 2009 stated, “The taxation of mining activities differs from the taxation of non-mining entities, firstly, that capital expenditure is allowed as a deduction at the rate of 100% in the year in which it is made. Secondly, losses are carried forward indefinitely. Thirdly, the income is taxed according to a formula that takes into account the profitability of the mine. Thus, marginally profitable mines are basically taxed at a lower rate and this ensures their viability for a longer period that would be the case should they have been taxed at a higher rate. This contributes to the job security of the workforce and allows the mine to enjoy a longer life, to the benefit of the country.” He goes on to argue that, the theory of mining taxation is that the company would pump a vast sum of money into the economy of the host country. This spending, which is always substantial, brings many benefits to the economy of the host country as they not only spend on development of the mine and extraction of minerals, but tend to also spend heavily on infrastructure.

  4. The issue at hand is that we can decide to extract maximum rents from our copper mining enterprises now or allow them to grow and sustain longer term contributions to the economy. The choice is up to us as a country. Another down side is that we are competing with other countries for long term investment, such as the DRC where major mining development activities are taking place. As such, we need to remain competitive as a destination for Foreign Direct Investment (DFI) by being more strategic rather than hysterical about obtaining immediate benefits from price gains on the world markets for base metals
    Zambia needs to draw on the lessons of other mineral dependent economies such as Chile that have successfully utilised copper mining to diversify their economies and achieve sustained levels of growth and improved standards of their citizens. Zambia has the potential to achieve such levels of success where more focused strategies can be developed to balance needs of mining investors and aspirations of the citizens who should benefit from their mineral wealth.

    Presently, all copper mines in Zambia are at development stage, i.e. have been investing huge amounts of money to extract the ores and new technologies for its processing into metal. Such investment takes a long time to recoup. Where you start taxing an entity before it even makes a profit, the only outcome would be its closure or serious compromise of its investment programmes. The new Mining fiscal regime therefore has the potential putting into serious jeopardy long-term investment prospects.
    Overall, the government should treat mining companies as development partners and engage them in prior consultations on policy measures that will affect their operations in order to foster mutual understanding and cooperation. This would also promote transparency and good governance, especially where the political executive avoided unduly interfering with the operations of the mining companies and issuing threats that demonise them in the eyes of the general public.

    One such way of building public and investor confidence, the government should make efforts to engage all the mining companies and enter into new Partnership Agreements (PAs) that will be published so that the general public are fully aware of the attendant rights and obligations. Such PAs should be given urgent consideration and preferably concluded within one year and underwritten by international development agencies, such as the World Bank and IMF.


All contributors should follow the basic principles of a productive dialogue: communicate their perspective, ask, comment, respond,and share information and knowledge, but do all this with a positive approach.

This is a friendly website. However, if you feel compelled to comment 'anonymously', you are strongly encouraged to state your location / adopt a unique nick name so that other commentators/readers do not confuse your comments with other individuals also commenting anonymously.