OXFORD ANALYTICA

Globe and Mail Update

May 5, 2008 at 6:14 AM EDT

SUBJECT: A moratorium on mining and cancellation of concessions.

SIGNIFICANCE: All mining activity has been put on hold while stakeholders determine how they are affected. Markets reacted swiftly to the news with share prices of foreign companies operating in Ecuador dropping dramatically.

ANALYSIS: Ecuador's constituent assembly has released a mandate in which over 3,000 mining concessions are either cancelled or suspended without compensation or legal recourse for those affected. The mandate calls for the revocation of all mining concessions where: the concession is located within national parks or environmentally sensitive areas; the owner of the concession has not made any investment since December, 2007; the concession does not yet hold an approved environmental impact study; the concession holder has outstanding obligations to the state, including those related to taxes or patents; and the concession holder is a former employee of the Ministry of Energy and Mines or relative of a former employee.

It also states that no one individual or entity can hold more than three concessions, and all medium and large-scale mining operations must discontinue operations and re-negotiate contracts. New contracts will require royalties to be paid to the state and must conform to the new constitution and mining law, both of which are expected to come into effect within 180 days. The mandate also calls for the creation of a state mining company that would take part in all future mining activities.

Motivation. The mandate cited the need for a mining moratorium due to environmental damage and poor compensation for the state and local communities. While the constituent assembly wants to ensure that mining operations are carried out in line with the new legal framework, political factors primarily motivated the decision:

The government believes many concessions were obtained illegally, and people close to certain former presidents and government officials benefited disproportionately.

Although the ruling Alianza Pais movement represents a wide range of interests, the mining decree conforms to the common goal of re-distributing wealth by preventing concentration of the country's resources in the hands of a few individuals or companies.

Destabilizing the mining industry could be interpreted as an attempt to weaken mining companies' positions when they begin to re-negotiate contracts.

Foreign companies. Numerous foreign companies that currently are involved in, or have completed, exploration – including Canadian junior mining companies Aurelian Resources, Corriente Resources and Iamgold – must delay operations for at least 180 days. As a result, their shares dropped dramatically following the announcement. They are now seeking to determine how the law will affect their operations: All complain that they were left out of the process of drafting the decree and claim it has surprised them.

Some have stated publicly that they will continue to operate in Ecuador even if their number of concessions is limited.

Others are hoping that medium and large-scale foreign companies will be exempt from the provision under the new mining law.

The government has attempted to reassure companies by immediately inviting them to contribute to drafting the new mining law. The largest mining companies have met President Rafael Correa to discuss concerns about the mandate and make suggestions about the new mining law.

Political divisions. Mining is a deeply divisive issue within Alianza Pais: Correa has claimed to be in favour of responsible mining that provides fair royalties to the state, significant benefits to local communities and respect for environmental standards.

The constituent assembly president, and former minister of energy and mines, Alberto Acosta, believes that protecting the environment should be prioritised over economic gain.

The two may find a compromise through a national referendum on whether open-pit mining should be allowed, at the same time as a vote on the new constitution. If voters rejected a ban, Correa would have a mandate to invite future mining operations. However, the likely outcome remains unclear: Correa's high approval ratings and repeated electoral successes mean his position could be favoured, especially given the technical nature of the issue and its lack of relevance for most Ecuadorians.

Nevertheless, Alianza Pais would avoid giving the referendum a high profile to avoid drawing attention to divisions.

Protest potential. Although Correa came to power with the support of a large part of Ecuador's indigenous peoples, many organizations representing this constituency have threatened widespread protests to demand an end to mining: Correa has verbally attacked popular indigenous rights and environmental activists who support such measures, and challenged them to contest his authority in the next presidential elections.

He promised to use force against anyone who impedes mining operations, as he has done in the past with groups whose protests temporarily stalled oil production.

By suspending mining operations, the decree allows Correa to postpone conflicts with indigenous and environmental groups and avoid clashes within his own party until after elections. Although the law will reassure anti-mining voices in the short term, protests probably will resume after mining resumes. However, Correa hopes that by winning a second mandate he would be able to use his electoral success to discredit and dismiss protesters.

Oil similarities. If the current government position resembles its recent approach when dealing with foreign oil companies, the decree probably is an attempt to alarm mining companies and strengthen the government's hand in future negotiations:

The government in November announced a new oil-revenue windfall tax, then offered to re-negotiate contracts.

It maintains that oil contracts are temporary until the new constitution is drafted and approved.

The government may be planning a similar strategy with mining companies. Correa calculates that: high prices and strong demand for minerals will discourage mining companies from leaving and encourage more investment; foreign investors will respond favourably to a higher royalty regime if the government proves reliable, and promotes law, order and a stable investor environment; and if successful, he would be able to take credit for making mining more profitable for the state.

CONCLUSION: The mining moratorium reflects Correa's desire to impose his government's terms, conditions and legal framework. The new constitution will enshrine indigenous peoples' right to be consulted on operations in their territories. In addition, the government will write a mining law with stronger royalty provisions and environmental standards, and hold a referendum on banning open-pit mining. Large-scale mining companies will have the opportunity to re-negotiate contracts with the state and eventually are likely to accept government conditions.

From the Oxford Analytica Daily Brief

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