Zambia Copper, Again

28Oct15

Tax abuse scandals have played a big role in the Zambian national debate on how best to tax mining, and Zambia, as a case study, has played a big role in international debates on tax abuse and development.

Mopani by MichaelFuller.ca

In particular many believe that Zambia is a prime illustration of where multinational mining corporations are selling commodities at below market prices to offshore subsidiaries, creating an ‘illicit flow’ which conceals a hidden tax-free profit margin. Others (such as the International Council on Mining and Minerals and the World Bank) argue that the reason why Zambia’s copper revenues appear lower than other countries is more prosaic: a combination of costly mines and large recent investment expenses.

David Manley’s excellent ICTD working paper ‘Caught in a Trap’ describes the controversy and the history of Zambia’s mining taxation regime – the push and pull of secrecy and leaked documents, public pressure and government and industry brinkmanship – and the swinging pendulum of reforms that has resulted. He highlights the fiscal policy design dilemmas  of dealing with the ‘obsolescing bargain’ problem, price volatility and public expectations – and the trap of low-performing unstable investment environments that this can lead to. In particular he argues that there is a trade-off between regressive royalty-based regimes and progressive profit-based systems. Royalties  deliver earlier public payouts and are less vulnerable to avoidance, but  are susceptible to continual renegotiation pressures. Profit based taxes are responsive to price changes and underlying costs but depend on the capacity of revenue authorities to administer things like transfer pricing, and to secure public confidence in the system.

Certainly there are real challenges in administering corporate income taxes  (see for example this presentation by Joseph Nonde of the Zambian Revenue).  But the fact that falling world copper prices are resulting in layoffs and shutdowns of Zambia’s mines suggests that the  perception of a huge ‘hidden profit margin’ may have been wishful thinking.

And perceptions matter. The implication of the minerals taxation trap that David Manley describes is that if perceptions of avoidance are exaggerated it is likely to drive countries towards less economically beneficial solutions than they could have had, with greater instability and less constructive relationships between industry, government and citizens. None of this is good for development.

Transparency can help to untie this knot, the Zambian Extractive Industry Transparency Initiative for example seeks to inform debates on windfall taxes, transfer pricing, production figures, and anti-corruption by providing robust information about revenue flows.

But a lot depends on how available data is used. Even as mines are shuttered and jobs lost in Zambia, UK NGO War on Want put out a report  last week saying that Zambia is losing $3 billion a year from corporate tax avoidance, mainly from copper mining.

I don’t think that $3billion is close to being in the right ballpark. <caution rough calculation…> According to UNCTAD Foreign direct investment in Zambia amounts to $15 billion. As a very rough benchmark if we assume this is earning a 20% return with a tax rate of 30% this would result in a corporate tax bill of $900 million a year. The Bank of Zambia says that majority foreign owned enterprises paid $920 million in corporate tax in 2012. It may well be that there is legal and administrative potential for collecting more, but $3 billion seems an extraordinary claim to make.

Why do they think it is so much?

The report repeats many of the greatest hits of Zambia transfer pricing controversy. It references the Mopani audit saga involving a leaked incomplete audit report which is widely seen as Exhibit A in the international debate on tranfer pricing and development. Martin Hearson gives an interesting account of what might have actually happened in the Mopani case – suggesting it may have been a ‘worst case audit’ being used to push an uncooperative company to provide more information. Nevertheless even the disputed NGO estimates at the time, based on this worst case audit were way short of multi-billions; suggesting that Mopani (one of the biggest copper mines in Zambia) was responsible for £76 million a year in lost  corporation tax.

The big jump in perception of the amounts involved seemed to come not from the Mopani case but from a piece of analysis by Christian Aid, quoted in the War on Want report which suggested famously that ‘If Zambia had secured the same price for its copper exports as Switzerland in 2008, the value would have been nearly six times higher, adding £11.4 billion to Zambia’s GDP’. As I discovered last year this research was based on the unrepresentative prices declared on the very small (often sample-sized) shipments of copper that are physically exported from Switzerland. The claim that Zambia could have doubled its GDP has since been withdrawn by Alex Cobham, its original author who recognizes that the methodology was flawed. However it remains an influential shaper of perceptions. In particular it reached a wide audience through the powerful film ‘Stealing Africa’, which uses this claim as the punchline to its investigations.

Another widely quoted figure that has given credence to the idea of billions of dollars of taxes being avoided in Zambia is the statement that the Zambian government estimates that it is losing $2 billion annually to tax avoidance, mainly from mining.

Its original source was a remark made by then Deputy Finance Minister Miles Sampa at a media award launch on November 25 2012 . The event was not about mining or taxation and I have not been able to find any reference to the number in government documents, nor any details of how it was calculated. Nevertheless it has gained the status of ‘fact’ internationally and has been widely quoted, including by the FT, The OECD. the Financial Transparency Coalition, the Mail & Guardian  and The International Bar Association, to name but a few.

The $2 billion estimate is often assumed to be from an official source, however it appears to be an off-the-cuff remark made by one politician one Sunday morning which was not repeated (the Mining Association called the estimate unbelievable). It is notable that the remark was made the day before the Stealing Africa film was released, and may perhaps reflect this.

Counting to $3 billion

War on Want go on take the $2 billion figure, ignoring the Mining Association’s response and add on a further $752 million and $264 million to come up with a $3 billion total.

$752 million looks like a reasonable rough extrapolation into current terms of the IMF’s assessment of Zambia’s additional tax potential. But the IMF’s estimate relates to the potential revenues from a suite of measures involving tax administration strengthening and new taxes – it was never meant to be an estimate of ‘losses from corporate tax dodging’. The $264 million estimate includes the bizarre suggestions that the proceeds of crime and corruption should be taxed at 30%.

Crimes against pie charts: When you have three estimates which overlap and disagree, don’t add them together

It is frustrating that data is hard to come by in this area, but this does not justify adding together three separate, but overlapping estimates (by far the largest of which has no published basis) and declaring a new ‘grand total’.

NGOs have been hugely important in making the case that Zambia must benefit from copper mining and in calling for transparency and sound governance of extractive revenues. Helping people to understand complex issues involving confusing numbers is part of their role. Doing it robustly is part of their responsiblity. War on Want is a UK Charity, a member of BOND, the membership organisation for serious NGOs working in development, and a member of the Tax Justice Network – a brain trust of NGO knowledge on tax issues. The project which gave rise to the report is funded from the EU aid budget. If they say that $3billion a year is lost that demands to be taken seriously. If the figure is unsuportable they should withdraw it.

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