Karnataka: Preference for govt-miners compromises efficiency, leads to leakage of revenue

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January 23, 2019 12:17 AM

The steel industry is also protected from import competition by the government through a variety of measures including anti-dumping duties.

Further trouble for Karnataka’s ore

Last month, NMDC Ltd, a government-owned merchant mining company, decided to suspend iron ore mining operations from its Donimalai mine after a disagreement with the government of Karnataka over commercial terms. The decision has further exposed the distorted state of the market in the mining sector of Karnataka.

Already, the Supreme Court has imposed several restrictions on the sale, pricing and export of ore from the state. The totally dysfunctional state of the market is best highlighted by the fact that, despite cutting its production in the state by half, NMDC has actually reduced the sale price of iron ore post closure of Donimalai. There is an urgent need to end all distortions and restore a competitive market.

At the heart of the matter in the Donimalai closure is the creation of a non-level playing field on the issue of mining rights. Government-owned miners can get their leases extended in perpetuity without auctions, whereas captive miners and merchant miners cannot. In effect, this preference for government-owned miners creates an environment of entitlement, compromises efficiency and leads to leakage of government revenue. The reason for NMDC’s peeve with the government of Karnataka is that the extension by nomination, for a period of twenty years beyond 2018, came with a condition—an 80% premium on the sales price to be paid to the state government.

Apparently, the state government took a cue from the successful auctions of other mines at around the same time which yielded handsome premiums, often of over 100% (129.9% was the highest). Normally, by statute, the state government is paid 15% of ex-mines’ price as royalty by the buyer of iron ore and 14.8% of ex-mines’ price by the miner (including contribution to the District Mineral Foundation). The premium is additional bounty.

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But why were bidders paying such high premiums? The fact is that the bidders are producers of steel for whom iron ore is an essential raw material. To maximise profits, it makes sense for them to purchase iron ore at the lowest cost. So, acquiring a captive mine and paying a greater than 100% premium is economically rational for a steel producer as it gives them some amount of (but hardly all) assured and cheap supplies. For a merchant miner like NMDC, paying a high premium makes little sense because it doesn’t have its own steel business to feed.

It is difficult to find such aberrations in any other major steel producing country. Elsewhere, in countries like Japan and China, steel producers simply buy iron ore from merchant miners (at import parity prices), either domestically or via imports and still produce steel profitably and efficiently. Karnataka’s steel mills are in any case reaping windfall benefits because of the restrictions imposed on the sale of Karnataka’s iron ore outside the state. Steelmakers are buying their raw material at an artificially low `3,000 per tonne compared with `6,000 per tonne paid by competitors in, say, Korea or Japan. It should also be noted that the steel industry is protected from import competition by the government through a variety of measures including anti-dumping duties.

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What is best for the economy and for government revenues is a competitive market in iron ore and in steel. For this, there needs to be a level playing field for private sector and public sector companies in merchant mining, a level playing field between merchant miners and end users (i.e. an end to captive mining) and a steady reduction of protection to create a globally competitive steel industry.

The consequences of the alternative scenario are serious. Because of improper pricing and discriminatory allocation (such as the nomination for PSUs alone), there will be insufficient investment in mining which will ultimately lead to scarcities. It will also lead to a loss in government revenue as royalties will decline. The steel industry will not aspire to global competitiveness and, since steel is such a crucial input to other sectors of the economy, it will inject its own inefficiency into a plethora of sectors.

In any scenario, for policymakers and, indeed, courts, the interests of the Indian economy as a whole must take precedence over all other considerations. That requires a functioning free market with regulations that prevent any crossing of the boundaries of law.

The author is Chief economist, Vedanta Ltd

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