On 12 January 2014, Indonesia surprised the mining industry by enacting an almost unprecedented law banning exports of raw mineral ores, most notably nickel and bauxites, in a bid to encourage domestic processing and extract more value from its mineral deposits. Although the law was written five years ago, many mining companies and analysts doubted the government would actually enact it. However, months away from a general election the government has held firm and has even introduced a progressive tax on the export of concentrates.
Many, mostly African, countries will be watching closely how the mining industry responds in Indonesia and, depending on the ban’s success, it could start a trend of other developing countries following suit.
But Indonesia, which is the largest exporter of nickel in the world, faces a difficult year ahead if it is to stick to its new legislation. Indonesia’s finance minister has estimated the export ban could cut government revenue by as much as $820m in the first year alone but would be worth it in the long-run.
Already there have been reports of job losses and the two biggest mining companies in the region – Freeport-McMoRan, which mines copper and gold in Indonesia, and Newmont Mining Corp, another copper producer – have both halted exports due to the tax increase, which they say breaches their contracts.
There is a range of short and long-term effects stemming from Indonesia’s new mining legislation, particularly on the nickel market, which is currently experiencing a price rise.
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The nickel market – a transformed outlook
The number of controversial mining projects around the world is on the rise and 2013 was no exception.
Japan and particularly China rely heavily on Indonesia’s high grade nickel laterites that are used for the Chinese pig iron industry, which has rapidly grown in the past few years.
Investec analyst Marc Elliott says that although Indonesia is a "serious source of supply" for China, the country prepared for the ban by stockpiling at least six months of laterite ore inventories at Chinese ports so it’s unlikely to be concerned about supply yet.
Since the ban came into force, the price of nickel has risen to a two-month high in early March and expectations are the market will continue to remain unsteady. Glencore Xstrata said in an annual results presentation published in March that Indonesia’s export ban has "transformed" nickel’s outlook.
"A continued export ban post-presidential elections will balance the market in 2014 followed by a significant deficit in 2015," the presentation read.
If the Chinese have to process raw ores in Indonesia they have got to "effectively rebuild that processing industry", says Marc Elliott. "I think that is going to be the unknown, the supply side response the Chinese are able to do in Indonesia and build, basically replace their capacity in China with the same stuff in Indonesia. It might take a little while, in the meantime they do have pretty strong inventory nickel stocks."
Some companies are counting on the price of nickel remaining relatively high and speeding up the building of smelters. Reuters reported in January that nickel miner PT Bintang Delapan has started building smelters for its $1.2bn, 300,000-tonnes-per-year ferronickel smelter project in Sulawesi. The company told Reuters the project will be feasible so long as the price of nickel is above $15,000 per tonne.
Not all miners will be as optimistic, Marc Elliott warns. "Building smelting refining capacity is massively capital-intensive and if the economics don’t stack up sometimes it is better just to close down the mines if export of unprocessed material is banned."
As other companies continue to move with caution, putting off building costly alumina smelters because of uncertainty in the Indonesian Government and the upcoming election, the market for nickel in particular is opening up. Some may build smelters while others will simply go elsewhere.
Other major nickel projects coming online soon, such as Glencore’s Koniambo in New Caledonia, which is starting to ramp up, will "offset, to some degree, some of the shortages or tightness that might ensue", says Marc Elliott.
Ernst & Young’s global mining and metals leader Mike Elliott says the ban could improve the possibility of production of nickel resources in other countries, such as the neighbouring Philippines. However, this will depend on the grade of the ore, which needs to be high and is typically low in the Philippines, making it much more costly to extract nickel.
Before miners consider going elsewhere, is it possible the Indonesian Government will back down? Mike Elliott says it is anticipated the government will "stay close to the form" regarding raw nickel exports, meaning the government is unlikely to retract the ban entirely but may make concessions even though it has a history of changing its mind.
Copper concentrate export ban – little to be gained
In January the Indonesian Government, along with the raw mineral ore export ban, surprised the industry by introducing a progressive export tax on mineral concentrate of copper, iron, zinc and manganese of between 20% and 25%, which would be progressively raised to 60% by late 2016. Exports of concentrates will also be banned in 2017.
On 24 October last year, Greenland elected to remove a blanket ban on uranium mining.
This part of Indonesia’s new legislation has, so far, backfired spectacularly.
Almost as soon as the tax was announced, Freeport-McMoRan and Newmont halted exports and, at the time of writing, are currently in negotiations with the government. Freeport has even said its unit PT Freeport Indonesia may declare force majeure if it isn’t able to resolve the disagreement.
Currently there is only one copper smelter in Indonesia, which is already at capacity (660,000 tonnes). Another three are expected to be built. However, there is now uncertainty around the construction of these smelters because of Freeport and Newmont’s export hiatus which has, according to Mike Elliott, caused job losses and reduced production.
Julian Hill, a Jakarta-based mining advisor at Deloitte Konsultan Indonesia told Reuters in February: "There is going to be another train wreck because there isn’t enough time to get approvals and build smelters before the new 2017 deadline."
Mike Elliott points out the cost of smelting in Indonesia will also be much higher than doing so in North Asia; the cost to the miner will be greater which will mean miners’ cash cost will become negative earlier prompting early closure of the mine. It will also stop Freeport McMoRan and Newmont, which produce 97% of Indonesia’s copper, from expanding or investing capital into their assets.
Even so, Mike Elliott insists investment in other top projects will probably still come through because there will be enough margin to justify doing it and building the smelting capacity, but the juniors will almost certainly be eliminated from the picture.
However, he insists overall there is little to be gained from this law. "Most of the value add in copper is actually created in the concentrate that is being produced," he says. "There is very little value add being lost in terms of the export of that concentrate."
While Freeport and Newmount are currently locked in a battle of the wills with the government, many are betting it will be the government that backs down first and that the tax, in particular, is simply a popular pre-election policy.
"One would have thought they would see reality and not want to cook the golden goose," says Marc Elliott.
In-country beneficiation of mineral ores can be extremely beneficial for the country. In the 2013 Africa Progress Report, former UN Secretary-General Kofi Annan said processing natural resources before exporting them brings extra value and is a key to the future growth of African nations.
But it can be difficult to get it right, especially if you’re one of the first countries to properly implement it. "There is a fine line to walk," notes Marc Elliott.
In another 2013 report, this time by Glencore, entitled ‘The Realities of the Nickel Market,’ the company warned: "Indonesia now has the opportunity to lead by showing real stewardship in enforcing law 04/2009 and banning unprocessed ore shipments; in doing so it will ensure the world invests in processing ore in-country. Limited or short-term policy action would irrevocably damage the investment case for in-country investments and undermine the government’s credibility."
Analysts may paint a bleak picture of Indonesia’s mining industry for the present but a year from now it could be a very different picture depending on what policies the government decides to stick to after the election.
It is largely expected there will be little change before then. In the meantime, as in-country beneficiation becomes an increasing trend in developing countries, the industry will no doubt continue to observe the situation in Indonesia with a watchful eye.