Diversifying, but is it quick enough?
‘Rely on your strengths’…the advice always given to young professionals entering into a new role. But also in that equation yet often forgotten is the second part that says ‘build on your weaknesses.’
Now apply that to economics and your test case is Zambia.
Zambian officials are not oblivious to the strengths (and traps) of their strong mining sector, specifically copper. Officials are, if anything, quick to recognize the challenges of relying solely on the mining sector and have made attentive efforts to diversify away from it.
Copper mines have struggled due the declining copper price (down almost 35 percent since 2012). The price outlook for the copper is just as depressing as supply continues to outpace demand. Market data indicates that copper supply is likely to decline in the near term considerably with the delay in new projects, closure of older projects, and lowering ore grades.
According to Wood MacKenzie, between 400,000 and 900,000 tons of copper production will be lost every year between 2017 and 2021. Read through a vacuum, price should rise. But market sentiment is that demand will stay moderate during the same time period.
Miners complain that they must overcome the price and the policy. The price is clear but the policy may not be. Zambian President Lungu appointed a team to address the standoff over royalty taxes with mines. The cabinet accepted changes to the royalty tax system in mid-April. Yet the rules are hard to articulate from both sides.
Zambian officials are very deserving of admiration in their efforts to find common ground with miners. Their easing of rules on documentation related to tax refunds has been a boon to the sector. Although minor to the general public discussion at different instances, the rebate (and the withholding of more than $600 million in tax rebates) has fueled miners’ resentment.
Market analysts can appreciate this improving relationship. Yet it would be a failure of analysts (and investors) to ignore that the (rightful) relaxing of taxes poses some downside risk to mining tax receipts for the government if prices continues to fall. The upside benefit means the price will have to fall even further for miners to judge the balance of tax receipts, investment and price to be a disastrous equation for continuing operations. The current cancellation of many mining projects in Zambia is an indication that the thought is not farfetched.
President Lungu has walked the party line of hyping economic diversity and investment in the country. He recognizes the need for a copper price rebirth…the Zambian budget (and National Development Plan) through the end of 2015 (and likely for the next few years) depends on significant revenue inflows from copper mining as well as other minerals. He also recognizes that Zambia must wean itself off borrowing generously in the midst of low copper prices (because, well, prices may be low for a significant period as we have seen).
Statistics show promise for export diversity. A recent report from the Word Bank showed that non-copper merchandise exports have grown rapidly since 2002 at 22 percent. Agriculture such as sugar, tobacco, wheat, soybean and maize grew 27 percent annually since 2000. The concern only comes when you look at the exporters on an annually basis. World Bank data shows that, on average for any given year, for any 100 exporters, 50 have not exported in the previous year and 41 will not export the following year. The lack of consistency raises significant concern for sustainability. New export networks come and go, consequently leaving the Zambian export economy unable to solidify its presence and strength in the global market (outside of copper).
The Zambian budget is still betting on 7 percent real GDP growth. But all statistics at the mid-year point indicate an economy that may grow at 6.2 percent (in line with the 6.0 percent in 2014). The IMF and Zambia may come to another agreement on IMF assistance to alleviate the 4.8 percent fiscal deficit. But these efforts may be fuddled by another annual current account deficit, an inability to quickly implement wage controls, and a growing belief that copper prices are in a long(er)-term funk.
The confidence of the newly appointed governor at the Bank of Zambia is well appreciated. He is speaking positivity in the midst of growing economic concerns. Entrusted with the job of assuaging the concerns of currency hawks in the country, Denny Kalyalya has his work cut out for him. The job may become easier as he continues down the path of less faith in copper price revitalization and more faith in everything else. ‘Everything else’, depending how you describe it (from non-copper sector growth and good governance), is pushing inflation down despite the copper woes.