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May 7, 1999 4:31 PM   By Martin Rapaport
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by Martin Rapaport

The role of government as the absolute power is well accepted in all societies. While government is never perfect and rarely optimal, it is recognized as a prerequisite for civilization. Laws, taxes and even the right to wage war have direct impact on our personal liberty. In some instances the rule of government hurts us as individuals, but overall the rule of law protects our personal interests and provides us with a consistent framework within which to carry on our commercial, social and individual freedoms.

While the rule of government is seen as highly beneficial to society in general, its application to specific segments of the population is almost always a subject of controversy and political dialogue. Often legislation, particularly economic legislation, tends to prefer one group of citizens over another. In some instances there is ample justification for such legislation —for example, consumer protection laws. In other instances, special interest legislation is generated for the express purpose of acquiring political support (i.e. votes) or funding for political activities. The fairness of rules often tends to depend on what side of the fence you are sitting on.

The relationship between the diamond industry and government is a highly complex and “hot” topic. While the governments of the major consuming nations handle their diamond imports and trade in a rational way, governments in most diamond producing and manufacturing countries have not yet adopted a correct balance of legislation that allows the industry to grow and prosper while assuring a fair system of taxation and regulation. All too often, the diamond mining and manufacturing sectors exist in a grey area where the application of outdated and irrational laws are based on traditions of selective enforcement.

Historically, the attitude of the diamond trade was to maintain a low profile and hope that the status-quo would be maintained. One is reminded of the scene in the famous play "Fiddler On The Roof," when it is asked what blessing one makes on the Tzar, the response is "May G-d bless the Tzar and keep him far, far away from us."

The trade’s attitude worked very well for many years. The diamond sectors brought many benefits to their host countries and it was only natural that governments did not wish to “rock the boat.” De Beers and other mining companies invested huge amounts of capital and expertise to develop natural resources under very difficult conditions, often in underdeveloped countries. Diamond manufacturers transferred highly specialized skill and expertise to local workers. The development of a diamond sector brought increased employment, improved foreign currency balances, and general prosperity to host countries.

Recent events in the diamond industry highlight a significant shift in the way governments and regulators are relating to our industry. There is an undeniable trend towards the rationalization and standardization of tax policy and an active political agenda which seeks to regulate the diamond sectors in the diamond mining and manufacturing centers. Regulators are now taking a much more active interest in the activities of the diamond industry. In Belgium, sensationalized news reports have focused great attention on the industry and cast a shadow over the legitimate operations of the majority due to the misdeeds of a few players. In Russia, the government simply treats the industry as a cash cow to be milked as often as possible with little regard for the future development of the sector. Finally, in South Africa we are now witnessing the beginnings of a major power shift as black governments attempt to democratize the economic benefits of their mineral resources.

While it appears that these developments are isolated instances that are taking place for a variety of reasons in a variety of countries, there are ample reasons to believe that we are witnessing a fundamental change in the relationship between the diamond industry and government. Furthermore it seems likely that this trend will intensify in the years ahead rather than dissipate as it has in the past.

The fact that diamonds are a complicated non-fungible commodity makes it very difficult for governments to regulate and tax their diamond sectors. Diamonds come in a great range of qualities and pricing categories and a high degree of specialized trade knowledge is necessary for valuation. Governments simply do not know how to price diamonds, assess inventory or evaluate the performance of specific firms in the diamond sector. The mystery behind the diamond business historically provided protection as government and regulators tended to ignore an industry they did not and could not understand. But, it also bred uncertainty and suspicion that undermined the relationship between the regulators and the industry.

The diamond industry must realize that the old system of status-quo is ending and being replaced with a new era of change and uncertainty. Governments are seeking better ways to evaluate our industry and rate economic performance. The issue is not merely taxation but also control over how we do our business. There is a growing need for rational dialogue and honest communication between government and industry. We are rapidly reaching the point where the benefit derived to the industry by uninformed government is negative. All too often uninformed or misinformed regulators attempt to control the industry with misguided rules and regulations. The time has come for the diamond sectors to rationalize their activities in the eyes of government and demand the respect and consideration due to our industry.

We will now provide a very brief review of events in Russia and Belgium and a more detailed analysis of developments in Africa.

Russia

Russia has slapped a “temporary” six month 5 percent export tax on a number of cash commodities including rough diamonds, gold, platinum, steel and aluminum. Russia desperately needs money and the government is seeking the fastest and easiest way to raise funds. The talk in Russia is that the tax is somehow related to the war in Yugoslavia but it is more likely that Russia is attempting to increase taxes in order to meet conditions for renewed IMF loans.

The tax does not apply to rough diamonds or diamonds sold by state entities such as the state treasury Gochran. The tax will apply to sales of diamonds by ALROSA to De Beers, but most of this year’s allocation to De Beers has been shipped before the April 29 start date. It is likely that some shipments of diamonds from ALROSA to De Beers will be delayed so as to avoid the tax which is not expected to have a major impact on the diamond industry.

Belgium

As reported in last month’s RDR the Belgian government has issued directives to tax authorities and is in the process of legislating a new fiscal plan which will standardize tax payment by the diamond industry. This plan is a very good idea as it provides for a simplified method of tax assessment that can be easily understood by industry and government. The tax plan is similar to the tax guidelines in Israel which have worked extremely well for many years.

One problem in Belgium is that the authorities have also implemented a social plan which subsidizes the diamond manufacturing sector at the expense of the diamond trading sector. While the tax is only 0.001 percent it applies to all transactions and has generated considerable resentment in the trade. The trade feels that the government may be unduly influenced by a representative committee heavily stacked with manufacturers and union representatives who do not adequately represent the interests of the larger trading sector of the Antwerp market. Furthermore, there is uncertainty as to how the new fiscal plan will be applied and concern that there has not been ample dialogue with the industry.

From an overall perspective, developments in Antwerp are positive as the industry has embarked on the rationalization of tax regulation. While the road may be bumpy, it is hoped that with good will the regulators and trade will find ways to improve communication and ensure that the interests of all segments of the market are taken into consideration and well balanced.

South Africa

The situation in South Africa has become extremely problematic over the past few months. As explained in our article "Showdown in South Africa" on page 5 of this issue. The government has embarked on a major reassessment of all laws regulating the diamond industry which is sure to have major ramifications on rough diamond exports by De Beers and other mining companies. The situation has been further complicated by the appointment of a new Government Diamond Valuator (GDV) that has taken a position diametrically opposed to De Beers regarding diamond valuations.

The delay of this week’s South African sight and the exclusion of specials dramatically demonstrated the kind of severe problems that arise when there is a lack of communication and coordination between government and trade. Frankly, it is shocking that the situation in South Africa could have degenerated to this level. One has the right to expect that the strategic interests of a mining giant like De Beers and the government of South Africa would be better aligned.

Minister Maduna’s frank statement (see www.diamonds.net for full text) chastising both De Beers and the GDV for not following the “letter and intent” of the Diamond Act ring true. He has given notice to De Beers that they have no right to expect that the status quo will remain in force. And he has made it clear that the GDV has no right to hamper the flow of diamonds into, or out of, South Africa.

It will be interesting to see how De Beers will now follow the letter of the law. Will De Beers tender diamonds in South Africa to prove the validity of the Price Book? Certainly, the governments of Namibia and Botswana are most interested in how South Africa will resolve the “fair market value” of their diamonds. Now that Maduna has denied De Beers the right to unilaterally set the “official” price of rough diamonds, the issue of how rough diamonds should be priced and what these prices are is front and center.

While Maduna’s decision to enforce the Diamond Act presents a rational solution to a complex problem it does not resolve the underlying political problems raised by the GDV’s challenge to De Beers. Reading Maduna’s statement one would think that the GDV and the Diamond Board are operating independently of the political concerns raging in South Africa. Nothing could be farther from the truth.

The GDV and the Diamond Board are in fact merely pawns in a complex power struggle over the future of South Africa’s diamond resources. The Minister and his government are under increasing pressure to democratize the economic benefit of South Africa’s diamond resources. Section 59 of the Diamond Act, under which De Beers obtains an exemption from export duties, requires the stimulation of the local cutting industry. Maduna seeks to enforce this provision and has indicated that the government of South Africa is willing to directly confront De Beers on this issue.

While the issue of fair market value for rough diamonds has major ramifications for all producers of rough diamonds, it is but the first move by a government that seeks to ensure that the added value of diamond manufacturing accrue to the country that is the source of the diamonds. The real issue is not merely the price of diamonds, or even the level of tax revenue, but rather who gets to cut the diamonds. South Africa is taking a position that De Beers control over their diamond resources needs to be modified to take into consideration the political concerns of the government.

Plans by Namibia to deregulate and open up their diamond trade at the expense of De Beers exclusive rights will undoubtedly put pressure on South Africa to pursue similar policies of economic empowerment. The Namibian’s and South Africans are not operating in a vacuum. Black governments have responsibilities to black people. Economic considerations are coming under pressure from the political sector and the governments that control diamond resources are now challenged to come up with a new equilibrium of power sharing.

The winds of change are blowing across Africa and De Beers, as well as the government of South Africa, will have to learn to bend with the wind. South Africa can not afford to regress to the dark ages and ignore market driven economic realities. They cannot waste their diamond resources to buy political power. At the same time De Beers will have to recognize the legitimate political concerns of the government regarding employment and economic empowerment.

While no one can predict the future it appears extremely likely that South Africa and De Beers will work out their differences. They have no choice. The fact is that South Africa needs De Beers as much as De Beers needs South Africa.

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Tags: Alrosa, Belgium, De Beers, Government, Israel, Manufacturing, Mining Companies, Namibia, Regulation, Russia, South Africa
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