Hit by record-low copper prices and structural issues in its power sector, Zambia is struggling to keep its head above water. Melodie Michel reports.
Over the course of 2015, Zambia faced one of the most difficult times in its recent history. To begin with, the death of President Michael Sata at the end of 2014 created the need for impromptu elections at the very start of the year, costing the country unexpected public expenditure.
At the time, the unplanned expenses could have easily been compensated by copper – which forms 70% of the country’s exports and up to 20% of government revenue. But shortly after Edgar Lungu’s victory in January, copper prices began their downward tumble – from around US$5,353 a tonne that month to US$4,402 a tonne at the time of writing (January 2016).
This downturn put enormous pressure on the national currency, the kwacha, which went from ZK6,520 to ZK11,000 to the US dollar between January and December 2015. As a result, Zambia’s credit rating was downgraded by most agencies, including Fitch, which moved it from B+ to B and anticipates that the situation could deteriorate further.
Fitch Ratings director, sovereigns, Carmen Altenkirch tells GTR: “The concern at the moment is the fact that with the sharp depreciation of the kwacha and persistently large budget deficits, debt has ramped up quite quickly. So there’s a clear risk that with growth low, widening fiscal deficit and current account deficit and continued uncertainty around electricity and copper, you could well see further negative pressure on the rating.”
Copper clash
The country’s woes continued in September 2015, when mining giant Glencore announced that it would suspend production in Zambia’s Mopani mine and in the DRC for 18 months to curb oversupply in the copper market. The decision, which removed 400,000 tonnes of copper from the global pipeline, prompted some optimism about pricing – though fears around China’s economic slowdown have since sent the commodity back down to six-year lows.
At the time, Caroline Bain, senior commodities economist at Capital Economics, explained: “Glencore’s African operations were high cost, and they struggled a bit with sourcing energy, so this is not a panic move: these mines were struggling anyway.”
Since then, other miners in Zambia have followed suit, with London-based Vedanta planning to close its Konkola mines, and Chibuluma Mines (majority-owned by South Africa’s Metorex) announcing in December that it plans to cut output at its Chibuluma South mine by 40%.
But with production cuts comes the prospect of more than 6,500 job losses (3,800 at Mopani, 2,500 at Konkola and 263 at Chibuluma), which has stirred political unrest in Zambia, particularly as the country prepares for another general election in 2016.
The Confederation of Trade Unions of Zambia suggested in November that Glencore should have its Mopani mining licence revoked if it maintained its plan to lay off workers, while President Lungu warned that he would simply not allow the cuts to happen.
But ruffling foreign investors’ feathers might not be the best idea for Zambia under the circumstances, and the worsening of the country’s debt situation makes the government largely unable to afford keeping the mines running on its own resources.
Fitch Rating’s Altenkirch explains: “The government is in a very difficult situation – they’ve got an election coming up in August, we’ve seen large-scale retrenchment at the mines, and obviously they want to put as much pressure as possible on mining companies in order to stop them from retrenching workers. But ultimately, short of paying the workers themselves, if the miners are no longer profitable and they need to scale back operations, then they actually have little choice in terms of cutting costs.
“When Michael Sata first came into power in 2012, there was a lot of talk around nationalisation, but there was such a strong international outcry against this. This recent experience suggests that they’ve learned that international investors will look very unfavourably upon any efforts to nationalise mines or to revoke mining licences. I think it is unlikely that they would go down that route.”
The government had already experienced friction with miners in January 2015, when it eliminated corporate tax on mining but raised royalties to 20% on open-pit mines and 8% on underground ones. After threats by mining companies to shut down operations under that regime, Zambia slashed the royalty tax rate for open mines from 20% to 9%, while reintroducing corporate income tax at 30% in April. Finally, it announced last December that royalty taxes would fluctuate according to metal prices, between 3% and 9% for both open-pit and underground mines – a decision that was hailed in the industry and restored copper miners’ confidence in the country, though the rule had not yet been ratified at the time of going to press.
It is important to note that the suspension of production is only a temporary solution, and miners are investing heavily in the efficiency of their operations – Glencore alone has set aside US$950mn for the Mopani mine. And so they should: with recent cuts and the halting of most copper project developments, supply is set to reduce significantly in the next couple of years, prompting an upward trajectory of prices that will start this year to lead to a real value of over US$7,000 a tonne by 2025, according to the World Bank.
“At the moment the copper concentrate market is amply supplied so we’re not going to have an immediate impact from those decisions, but the pipeline of projects particularly after 2016 is now quite sparse and that’s the time when we would expect to see a significant impact on prices start to seep through,” Bain told GTR in September.
Power struggle
Contrary to what one might think, Zambia’s biggest challenge is not copper prices, but electricity shortages. The country’s power demand has been growing at an average of 3% a year, and the sector faces structural issues that will be difficult to fix.
Holding an estimated 40% of the water resources in the Southern African Development Community (SADC), Zambia has invested more in hydropower than any other electricity source in the past decade, and with good reason: a 2014 report by the Zambia Development Agency pointed out that the country had about 6,000MW of unexploited hydropower potential, while only about 2,177MW had already been developed.
But this over-reliance on hydro took a turn for the worse when drought hit the country in 2015 – its worst crisis since 1992 – leading to a power deficit of 1,000MW.
“In Zambia, as in a lot of African countries, they have, over the past five to 10 years, been investing in additional power infrastructure. The problem in Zambia relates specifically to hydropower: they invested quite heavily, because it was cheaper and renewable, but water levels at Lake Kariba have dropped and the dam can no longer generate the amount of electricity that’s required. It’s not necessarily that there hasn’t been sufficient investment – it’s just that investment has been concentrated on a specific area which it turns out is quite vulnerable to the weather,” says Altenkirch.
The situation is so bad that there is talk of having to close the Kariba North power station completely, which would remove 600MW from the power grid. It is time to look for alternative sources of power to make up for this loss, and that’s exactly what the government is doing: the Zambia Development Agency announced late last year that the country is aiming to triple its power generation in the next two years through investment in solar energy. The agency’s director general, Patrick Chisanga, mentioned ongoing negotiations with foreign investors regarding various projects, though it is unclear whether or not these deals have been concluded.
Though much less environmentally-friendly, coal could also provide part of the solution. In July 2015, the Maamba coal plant finally reached financial close after four years of negotiations, on a debt-to-equity ratio of 70:30. Estimated at US$828mn, the project will see Maamba Collieries Limited build two 150MW coal-fired power plants on the site of an existing coal mine, as well as a new transmission line to connect to the national grid, with commissioning scheduled for mid-2016.
But these measures might not be enough to curb the negative effect of lower-than-expected rainfall, as Altenkirch explains: “They’re looking at bringing additional power barges and they’re investing in an additional coal power station, emergency diesel, etc. The problem is that it’s not sufficient to compensate what they’re losing from Kariba. That’s the key risk for Zambia this year. If you don’t see rain, even with the additional power that they are bringing onstream, the situation won’t improve because they will actually be losing power.”
In the meantime, to compensate for the increased cost of sourcing power, Zambia’s energy regulator allowed state power utility Zesco to raise the average price of electricity from ZK0.31 to ZK0.88 per KWh in December 2015. The move was welcomed by the International Monetary Fund (IMF), but caused such a public outcry that it was scrapped a month later, sending the government back to square one in its search for solutions.
“Even with commodity prices where they are, if you resolve the electricity situation it will at least go part way to help improve the profitability of the miners, but the longer you sit in a situation where copper prices remain low and you don’t have sufficient electricity, the more copper miners will scale back production.
In the end, it will become more difficult for those miners to ramp up in the event that copper prices at some point begin to recover,” Altenkirch sums up.
Still, analysts remain optimistic that Zambia’s efforts will pay off eventually, and that growth will pick up alongside the copper price recovery. In its January 2016 Global Economic Prospects report, the World Bank forecasts that the country’s 2015 GDP growth, estimated at 3.5%, would be the lowest in a three-year drop from 6.7% in 2013. The organisation predicts growth of 3.8% in 2016, 5.4% in 2017 and 6% in 2018 – a sign that Zambia may soon see the light at the end of the tunnel.
Diversification efforts
Like all countries overly reliant on one commodity that comes crashing down, Zambia has begun efforts to diversify its sources of revenue. The government has identified manufacturing, tourism, agriculture and construction as priority investment sectors, and is once again betting on its relationship with China to help with their development.
The Zambia Development Agency is reportedly in advanced talks with a Chinese investor called China Africa Cotton Development Zambia to take over the closed Zambia China Mulungushi Textiles plant and support a major tourism project in Livingstone. The discussions formed part of a December trade mission involving 11 Chinese companies from the Qingdao province which resulted in the signing of a memorandum of understanding to deepen commercial ties between the two countries.
But moving away from copper won’t be easy as long as Zambia’s infrastructure remains as weak as it currently is: if there is not enough power to fuel mining operations, there won’t be enough for manufacturing either.
It is hoped the president’s recent appointment of finance minister Alexander Chikwanda as chairperson of the new Public Private Partnership (PPP) Council, widely seen as an effort to boost the efficiency of the country’s PPP scheme, will help in terms of reducing public expenditure and encouraging foreign investment in all sectors of the economy.
Commenting on the news in December, Civil Society for Poverty Reduction (CSPR) executive director Kryticous Nshindano said: “The PPP is a positive step and we urge the government to initialise it and float selected capital projects for implementation using the model so that treasury funding can be reduced while private sector participation increases with new injection of investments for large-scale projects.”
