Why Zambia Needs Competitive Mining Tax Rates?

Why Zambia Needs Competitive Mining Tax Rates?

AS every student of economics will understand, the Laffer Curve represents in graphical form a straightforward concept: that increasing tax rates beyond a certain point is counterproductive in raising additional tax revenue.

Knowing this, it came as a particular surprise when, early in 2015 Zambian mining royalties were hiked from 6 percent to 20 percent for open- pit mines, before pulling back to 9 percent in July 2015.

It was a challenging time for First Quantum Minerals ( FQM), coming while commissioning our US$ 2 billion Sentinel copper mine at Kalumbila.

The changes meant we had to rework the financial projections upon which we had based our investment.

But it was not just Kalumbila that was thrown off- course. News of these changes in the sector’s tax system reverberated across the Zambian mining sector.

DEBATE However, these changes were warmly welcomed by some; buoyed by the belief that this increase in mineral royalties would enable Zambians to receive a ‘ fairer share’ of proceeds from copper sales, some argued that the tax hike would make the economy grow faster. Unfortunately, this was not the case because higher mineral royalties actually disincentivised new investment and represented a drastic increase in costs for mining operations.

Conversely, the mining sector and some other influential economic commentators saw the changes signal a bleaker future for investors.

They saw that the new tax measures would make a number of mine operations economically unviable, leading to operations being suspended or even closed. Of particular concern was the impact the tax hike would have on jobs and Zambian livelihoods if mining companies failed. This fear represented a real and present danger.

At the same time higher mineral royalties were introduced, in line with the Laffer Curve we witnessed a reduction in tax revenues from the Zambian extractive sector.

As it turned out the increase in mining royalties had severely undermined the investment climate and appreciably reduced the benefits Zambians realised from its mineral wealth.

Thankfully, over past decades, one of the qualities that has made Zambia an attractive country in which to invest is its ability to debate issues and balance both sides of an argument.

It is with great relief that Parliament passed the new Mines and Minerals Development ( Amendment) Act 2015 that pegs mineral royalty rates at between 4 and 6 per cent depending on the London Metals Exchange price of copper; for both open- cast and underground copper mines. Coming into force from 1 June 2016 the Mineral Royalty Tax will be 4 per cent when the copper price is below U$ 4,500 per metric ton, 5 per cent when it is between US$ 4,500 and US$ 6,000, and 6 per cent above that. We applaud this move by Government to revise the tax system, and for a number of reasons.

Certainly for FQM, there is no doubt that this revision will go at least some way towards mitigating the severe financial challenges currently stifling investment during this unprecedented downturn in the global commodities markets; any reduction in investment inevitably and demonstrably results in lay- offs.

But two vital traits that investors look for when electing to invest billions of dollars to establish a new mining operation in any given country are stability, and competitiveness. In the words of Barclay’s Bank Africa economist Jeff Gable in 2015: “ The best way to help avert job losses will be in helping to ensure as competitive environment as possible for copper production in Zambia… that means a regulatory and tax environment that is both globally competitive and stable across time so that mining companies can better judge the risk/ return on long term mining investments.” STABILITY As we saw last year, uncertainty is the death- knell for business worldwide.

If an investor cannot rely on a country’s regulatory regime one cannot plan; if one cannot plan, investors and bankers see a higher risk; and higher risk means investors are very reluctant to commit the levels of capital required to get new mining projects off the ground.

Last year’s hikes in the tax regime unnerved industry and investors, and the sector has still not fully recovered; however, the recent changes have started to regain some lost confidence.

COMPETITIVENESS Each global mining jurisdiction must compete for the limited Foreign Direct Investment ( FDI) that is available.

Uncompetitive tax regimes will always place the sustainability of the industry at risk.

According to the Zambia Chamber of Mines, mining represents more than 86 per cent of Zambia’s FDI. FQM believes that the previous punitivelyhigh mineral royalties introduced in 2015 made Zambia significantly less competitive.

It is intuitive that FDI will always find its way to the more attractive jurisdictions.

FDI is critical for Zambia’s economic growth. This latest tax revision will now help Zambia get back on track towards sustaining Zambian mines and securing thousands of Zambian jobs. In due course it will attract more investment, the life- blood of the economy.

But there is more to come: Zambia will only be truly competitive amongst its Sub- Saharan peer group in the race to attract FDI if its tax regime continues to converge towards the regional- norm mineral royalty of 3 per cent.

INCENTIVES Why then should Zambia’s royalties remain so high, even allowing for the most recent downward changes? Democratic Republic of Congo mines pay 2 per cent; Namibia, Botswana and Uganda mines all pay 3 per cent while in Africa’s second largest economy, South Africa, mines pay between 0.5 – 7 per cent. Based on these comparisons more needs to be done to make Zambia truly competitive alongside its peergroup.

These economies have developed, among other reasons, due to low mineral royalties. A return to the peer- group norm of 3 per cent mineral royalty last seen in 2011 would see Zambia return to optimal growth levels.

In saying all this, FQM is in no way failing to commend Government for the new tax regime, but we feel more could be done that would have a positive impact on the Government’s revenues.

FQM welcomes Government’s move to revise mining royalties, because it is a step in the right direction for the Zambian economy. This recent revision will help mines regain some of their lost competitiveness.

Sadly, what is especially troubling, and not given nearly the attention it deserves, is the advantage of good incentives.

If the incentives are good, countries will attract investment and this investment will have spill- over effects on the economy that benefit everyone and boost economic growth. This will far out- weigh any amount of revenue collected through higher royalties.

This most recent revision to the tax regime is important to the mining sector; but if Zambia is to fulfil its true economic potential a further reduction in mineral royalties will see the country return to being the sub- Saharan jurisdiction of choice for future mining investment.

The author is Government Affairs manager at First Quantum Minerals.