President Lungu has signalled the possibility of a spectacular policy climbed down over the mining fiscal regime. He has proposed potential options for changing the 2015 mining tax regime. Among the options include abandoning the Sata mining fiscal regime altogether. Full statement from State House below :
His Excellency Mr. Edgar Chagwa Lungu, President of the Republic of Zambia has directed the Minister of Finance and Minister of Mines and Minerals Development to effect changes to the 2015 Mineral Royalty Tax by 8 th April 2015.In letters to the two ministers today, President Lungu stated that after receiving submissions from individual mining companies and the Chamber of Mines, he has noted that the new tax regime poses a challenge to some mining houses. The President also noted that some mines are high-cost while others are low-cost operations.“Obviously the mining industry has been affected by copper prices on the international market. It is clear that this unfavourable economic trend globally has been mainly on account of weak global demand for copper,” the Head of State said.“I wish to take this opportunity to reiterate my government’s resolve to continue putting dialogue at the centre of our governance systems. Dialogue between my government and the mines shall continue.”The President emphasised that government will always be amenable to progressive ideas that will assist in addressing challenges in the mining sector. The President notes that these challenges cannot be resolved overnight but he is confident that these matters are not insurmountable.“I have therefore directed the Minister of Finance and the Minister of Mines, Energy and Water Development to review the mining tax regime and make recommendations to Cabinet by 8th April 2015,” the President directed. Among the options the President has asked the ministers to consider, are the following:Option (a) : Status quo but negotiate interim fiscal arrangements for operations that are most affected on a case-by-case basis;Option (b) : Identifying potential legal or regulatory modifications to the existing 2015 fiscal regime that could be readily passed and implemented;Option (c) : Defer implementation of the 2015 fiscal regime; and,Option (d) : Temporary reinstate the 2014 fiscal regime as a more amicable regime is negotiated.The President also directed that the ministers should also use the current legislation and administrative procedures to ensure that mines that are facing severe challenges are assisted.The Head of State has meanwhile called on all individuals and corporate citizens to comply with the existing tax laws.(Source: State House)
The key question the two ministers will need to resolve relates to what is the appropriate counterfactual for analysing the next steps. If the government does nothing, what will happen to the fiscal position in 2015/16?
That is actually a difficult question to answer, but assuming that two mining companies exits then we are probably looking at a counterfactual that creates a funding gap in the 2015 budget of less than $50m at most perhaps significantly less. The pressure is therefore largely on the monetary side with respect to a combination of general reduced supply of foreign exchange and negative sentiment.
Comparing the options against a uncertain counterfactual suggests that none of these options look particularly good for EL politically with only 14 months before official general elections campaigns begin. Economically the position is even more perilous for EL given the fiscal position and PF’s spending commitments.
Option A is tricky to implement because many mining companies may claim that they are facing funding challenges. There may also be legal challenges. The law does not appear to offer the sort of discrimination among mining companies that Option A envisages. In fact Option A would be the equivalent of returning to the Development Agreements that Zambians fought hard to get rid of.
Option B seems to be the easier of the four options. This could take the form of simply reducing the scale of the changes. It may be politically easier to sell this option as long as publicly it does not look like Lungu has abandoned what he promised voters. There must be a lot of Sata loyalists wondering what EL is doing.
The problem with Option B is that it may lead to a substantial reduction in projected government revenue that is so critical for funding PF's infrastructural drive. This option may mean abandoning some of the spending plans 2016 onwards. More immediately emergency borrowing to fund the rest of the 2015 budget.
Option C has the same problems has Option B only worse. Deferring implementation from 2015 probably means pushing it further until 2017/18 when copper prices regain. But in fact that would be equivalent to total abandonment in practice. Which means losing an additional $250m off the 2015 Budget at most (assuming a reduction of $50m in counterfactual). The regime will face the same challenges in 2016 and may have to borrow to meet these funding gaps.
Indeed there is no guarantee that Lungu will survive the 2016 elections, especially if he pushes ahead to reverse the fiscal regime. Not only would PF be in a worse position without the additional tax revenue (meaning abandoning most of its spending plans), Lungu would be campaigning as the “U-turn” president. He may suffer the same fate as Rupiah Banda who lost the elections in 2011 after abolishing the Windfall Tax.
Option D has the same problems as Option B and Option C. Reinstating the 2014 regime is as good as abandoning the 2015 regime. This means going back to 6% percent royalties. At $250m the fiscal gap would be huge and possibly lead to a collapse of the 2015 Budget unless new funding sources are found. We must remember that copper prices are falling and output has stagnated which all translates in lower revenues than projected.
On top of all these challenges we must add the new fiscal pressures from the new agriculture subsidies. And of course the Kwacha depreciation has increased the cost of funding external debt repayments and other costs of government. That is before one factors in the VAT refund costs and the low reduction in economic growth (than previously projected). All of these factors means that the fiscal gap under Option D could be significantly larger without immediate borrowing.
Politically, Option D may be easier to sell publicly if President Lungu set out a broader strategy of achieving a more stable mining arrangement. Essentially what Zambians want, in addition to higher mining revenue, is a national policy that has the full buy in of all Zambians. If President Lungu repeats the mistake of previous governments and signs a deal with mining companies it will not deliver the long term stability everyone wants. For the simple reason is that it is still deal under the table and not underpinned by Green and White Papers as we have long called for.
Therefore if Option D is going to be pursued, President Lungu needs to expand the option to include a clear strategy or roadmap towards a new fiscal framework that is publicly consulted and has cross party support. That should be possible to sell to the public, though it will come with significant borrowing orsubstantial scaling back of PF spending plans. Incidentally, the mining companies could actually suggest such a road map and push government in that direction. It is clearly in their interests to have longer term publicly accepted strategy on mining.
Needless to say anything done by government will require a vote in parliament! So having a clear broader strategy is imperative. The more one reflects on the difficult decisions facing Lungu does begin to look like the definition of a poisoned chalice. Of course the extent of the poison depends on what is actually happening fiscally in the counterfactual - and that is where more evidence is needed to be provided by the Mines and Finance ministries.
Copyright © Zambian Economist 2015