Diamonds Industry of South Africa - Essay Example

Diamonds for South Africa EXECUTIVE SUMMARY The focus of this essay is an analysis of the current agreement and working relationship between De Beers cartel and the ANC government, and their implication on various industry stakeholders, primarily inside South Africa. Chapter II Chapter III starts with a discussion on the nature of monopolies and cartels, and traces the emergence of the De Beers conglomerate as an innovative diamond cartel with the discovery of diamond mines in South Africa. It also touches on new challenges facing De Beers, and cartel's attempts to survive and prevail in a rapidly changing world. Diamonds for South Africa 2 Chapter IV contains a brief economic profile of South Africa, showing the significance of the diamond and mining industry in the lives of South African peoples. It discusses the cartel's behavior during the apartheid era, specifically its observance of human rights and corporate responsibility under a fascist and racist regime. Chapter V discusses the agreement reached between the ANC government and the De Beers cartel on the status of diamond mines and mining industry in South Africa, and how the cartel can help in the country's development program. It also contains recommendations on how the agreement can help in promoting black economic empowerment, and economic and political democratisation throughout South Africa. The Appendix contains the list only of cited references although many articles were read as background material but not cited in the text. Diamonds for South Africa 3 III. ANATOMY OF A MONOPOLY A. The Diamond Cartel De Beers is a monopoly and the cartel of the diamond world. Monopoly is a term that translates literally into "single seller,"1 which means a corporation that dominates the production and distribution of a particular service or product (such as diamonds). There are various forms of monopolies and a cartel is just one of them. A cartel (such as De Beers) is a formal or informal group of corporations that have agreed to avoid and minimise non-productive or destructive competition among them in order to dominate the market and maximise profits. Cartel members determine the maximum allowable volume of production and enforce that maximum strictly, to avoid flooding the market with products which usually results in a decrease of their prices. To guarantee their profits, members of the cartel can either agree on a common product price for their entire area of operation or set up local Diamonds of South Africa 4 monopolies where they may or may not apply a common price structure.2 The price is of course higher than what it would be if production was not regulated by the cartel, and if prices were determined, not by the cartel, but by genuine competition and the interests of the consumer. De Beers for instance set an artificially high price for its diamonds despite the fact that there was already a large supply of diamonds in the mines of South Africa (which were discovered as early as 1867) and other African countries. The supply increased astronomically following the discovery of mines in Russia, Canada and Australia. De Beers kept prices high by cultivating the myth that diamonds are valuable and scarce and should be priced accordingly. The cartel has not lowered the prices of its diamonds in its entire existence. Many countries have legislated against price fixing cartels to encourage competition, which theoretically should lower prices and improve product quality. The European Diamonds of South Africa 5 Commission, in its 2005 Report on Competition Policy, proclaimed that "(c)ompetition is crucial for the whole partnership for growth and jobs."3 In fact, "the fight against international price-fixing and market-sharing cartels has become a top political priority in Europe."4 B. The Birth of De Beers De Beers can be viewed as an exceptionally innovative and long-lived cartel. On the other hand, it has been criticised and even condemned as "the most unethical corporation in the world." 5 De Beers "created" its own, captive market and has tried to perpetuate it by identifying a diamond with love and romance. Who has not heard of the cartel's famous slogan: "a diamond is forever" Using extremely clever advertising, De Beers was able to convince men and women, (including Japan's post-war generations), to adopt what was then the unprecedented practice of using diamond rings to let the world know of their engagement and impending marriage.6 Before 1867, diamonds really were scarce and reserved for the use of kings, queens and members of the nobility. But that year, large quantities of diamonds were discovered in South Africa and hordes of miners and entrepreneurs came running at the Diamonds of South Africa 6 thought of making their fortune in diamonds. Ironically the fact that diamonds were suddenly available by the tons, instead of pounds, pushed the formation of a cartel that "would be powerful enough to control production and perpetuate the illusion of scarcity of diamonds."7 By 1887 the De Beers Mining Company owned all South African mines, which were then the principal source of diamonds. It was later renamed as the De Beers Consolidated Mines, Ltd., which took "control of all aspects of the world diamond trade(and) assumed many forms" such as the Diamond Trading Company in London, the Central Selling Organisation or CSO in Europe and Diamond Development Diamonds of South Africa 7 Corporation and Mining Services in Africa.8 Although De Beers was founded by Cecil Rhodes it was later acquired by the legendary Henry Oppenheimer. "De Beers proved to be the most successful cartel arrangement in the annals of modern commerce." Diamond prices, with few exceptions, remained remarkably stable, partly due to the successful and innovative advertising campaign by De Beers and N.W. Ayer, then a leading US advertising agency.9 C. The De Beers System However no amount of advertising could have ensured the success of the cartel without the system of production and distribution that the De Beers cartel had painstaking built up through the years. The cartel's activities revolved around the diamond market, which consists of industrial diamonds, jewelry diamonds and investment diamonds. The first refers to artificial and natural diamonds used for manufacturing purposes (diamond bits and drills for Diamonds of South Africa 8 example). The second is self-explanatory. The third refers to exceptionally large and flawless diamonds which are purchased as investments by people attracted to the convenience of diamonds (small, durable and easy to store and transport) and stability of diamond prices. The De Beers cartel supplies and controls that market using a unique system. The cartel informs diamond producers how many diamonds it will purchase from them and distribute through the Central Selling Organisation. De Beers charges the diamond producers a fee for marketing and handling the diamonds. The cartel also determines the quantity, quality and price of diamonds that will be given to buyers through the CSO. Buyers are invited to regular viewings, where they will be issued their packets of diamonds. They have no voice in determining what gems their allotted packets will contain. Criticising CSO decisions (as to amount, quality and price) may result in not being invited to future viewings, or in short, losing access to supply. The buyers have Diamonds for South Africa 9 their assigned gems cut and polished (many in India), and resell them in the diamond trading centers of Antwerp, New York and Tel Aviv, and to all corners of the globe.10 Many buyers have complained about the inequities in this system but tolerate it because of the immensely profitable nature of the global diamond trade. A 2002 study done by the Columbia Business School11 shows that "the mark-up on a diamond increases exponentially as it moves down the value chain. For instance in 1981, the $18 billion retail value of diamond sales dwarfed the $2 billion generated in sales of rough diamonds."12 D. Challenges and Changes Since the birth of the industry in the 19th century, more and more diamond mines have been discovered, with the largest located in Russia, Canada and Australia. The growing supply of diamonds did not pose an immediate threat to the De Beers cartel, as long as Diamonds in South Africa 10 it could continue to control international production and distribution and maintain the illusion that diamonds are rare and valuable gems. At first it was successful in convincing the government of the Soviet Union to sell all its Siberian diamonds to the cartel and in negotiating a contract with the largest mine in the world, the Australian Argyle mine. However, since then, De Beers' control of the market has grown weaker and its share has gone down from "80 percent in the early 1980s to about 65 percent in 2000." 13 Data from the United Nations seem to indicate that more than 100 countries now export diamonds directly to the open market. That means more and more diamonds are being traded outside the De Beers system.14 Russian diamonds are also being sold outside the CSO. With the disintegration of the USSR, and widespread discontent with the high Diamonds of South Africa 11 handed cartel, it has become increasingly difficult to implement the De Beers-USSR agreement. Also, De Beers no longer controls Australia's Argyle mine, the biggest in the world that produces mostly low quality diamonds. Argyle terminated its contract with De Beers and in 1996 the Rio Tinto, the owner of Argyle Mines, sold 42 million carats of diamonds directly to gem polishers in Antwerp.15 De Beers has also been unable to secure a dominant position in Canadian diamond mines. In an effort to keep prices high, the company was forced to purchase excess supply from its competitors at high prices."16 Such a strategy was non-productive, since pursuing it would only drain De Beers and weaken it further. The problem needed a new approach. In 2001, Gary Ralfe, De Beer's managing director since 1998, admitted Diamonds of South Africa 12 that "controlling supply in the market was simply not viable in this more competitive environment."17 Moreover, De Beers has always been unable to deal directly with its principal market, the US, due to the country's anti-trust legislation. It has been charged twice (1945 and 1994) by the US Justice Department for its price fixing activities, and is widely believed to be a future target of EU anti-cartel efforts. The international community has also reacted sharply and strongly to exposes on the issue of conflict diamonds.18 These "conflict or blood" diamonds are mined in war torn areas by low paid workers living under extremely poor conditions. The gems are used by rebel groups and warlords in Africa to buy arms and bankroll their military and security activities. Numerous and grave violations of human rights have occurred in the course of these wars. For the cartel, the issue threatens to destroy the association of Diamonds of South Africa 13 diamonds with love and romance, and creates a new death and gore image which could decrease sales of "legitimate" or "clean" diamonds. The controversy has pressured De Beers and other corporations involved in diamond mining to agree to the Kimberly process which basically is the certification of the source of a diamond. It prevents persons and groups from selling blood diamonds in the open market. Whether the process has been sincere and effective as practiced by De Beers and other corporations is still under question. The "conflict diamonds" issue points to another challenge facing the De Beers cartel. There has been a significant increase in public understanding, acceptance and support for human rights (including the rights of industry stakeholders such as South African mining workers) and the rise of related concepts such as "corporate responsibility."19 The mining industry in general has been under fire by human rights activists because of its effects on the environment and on the frequent wholesale violations of rights of Diamonds of South Africa 14 indigenous tribes who are booted off ancestral land and displaced by mining companies.20 What is the future of De Beers in South Africa We have only explored one side of the coin - the side of the diamond cartel. We also have to explore the side of the people of South Africa, their problems, goals and choices in their collective efforts for prosperity, equity, democracy and peace. IV, DIAMOND LAND, DIAMOND PEOPLE A. South Africa: Land and People Africa has been very good to the De Beers diamond cartel, with countries like Botswana, Namibia, and South Africa supplying the gems (especially large and flawless stones) that the cartel used to climb to the top.21 Africa does not seem to have gained as much in its history of dealings with the cartel. It remains, despite the diamonds and Diamonds of South Africa 15 other natural wealth, the poorest continent in the world, poorer than it was some 40 years ago.22 More than 10 years after the end of apartheid rule, half of the South African population are still poor. Half either have no homes or live in shacks. Almost half (48 percent) have no jobs. Three-quarters of the black population have no access to running water while only two percent of whites have the same problem.23 Some 5.6 million people (3.1 million women) are infected with HIV. Although South Africa is now considered a medium income country, it still has not succeeded in advancing its black economic empowerment program.24 The BEE was designed to drastically reduce inequality in income and to empower black women and men to manage, own and control land, businesses and other resources of South Africa. It is defined as a process that will "return the land and the wealth to the people" and complete the task of deracialisation. It is probably too early to give any definitive evaluation on the success or failure of BBE. However, there has been progress in South Africa in certain fields such as the formation a strong black middle class. Diamonds for South Africa 16 Unfortunately, too many South Africans also feel that social change has been too little, too late, and too timid. B. Business as Usual The De Beers cartel was able to survive and prosper during apartheid, during the long period of armed resistance and mass movements, and the transformation from a racist and violent regime to the present ANC government. It was a matter of business as usual. "Business was central to the economy that sustained the South African state during the apartheid yearsthe degree to which business maintained the status quo varied fromdirect involvement in shaping government policies, engaging in activities directly associated with repressive functions to simply benefiting from operating in a racially structured society in which wages were low and workers were denied basic democratic rights."25 This was a statement issued by the Truth and Reconciliation Commission Diamonds for South Africa 17 (TRC) that investigated, among other things, the roles played by businesses in apartheid society. "The final position and finding of the Commission was that business generally benefited financially and materially from apartheid policies"26 in South Africa. Among apartheid policies that benefited agricultural and industrial enterprises, including diamond mining companies, are the following: Restrictions on black land ownership that created an army of the landless and unemployed, desperately seeking jobs and willing to work under conditions that would otherwise be totally unacceptable. The use of state repression against restless workers and unions The use of cheap labor to produce cheap electrical power, roads and other infrastructure that were and still are enjoyed mainly by the white Diamonds for South Africa 18 minority. Separate housing for husbands and wives with the men working in mines and women working on fields for mine owners. The use of state military/security units to secure mining sites and prevent labor activism. (Anglo-American, which is a member of the cartel, being part owner of De Beers, was often mentioned in the TRC report, including its dismissal en masse of 50,000 workers who went on strike for a living wage). From the TRC report, it is easy to grasp that the De Beers cartel has always placed its survival as the highest of its priorities. It has shown itself quite willing to cooperate with a racist and fascist regime with a business as usual attitude. Although De Beers and sister company Anglo-American have protested against this assessment, saying that they wanted to institute better conditions for their workers, the Commission was firm in saying that they did too little, too late, and too timidly. It would Diamonds for South Africa 19 be surprising if they did not propose a "mutually beneficial arrangement" with the ANC (or any other) South African government. It is something to be expected in a situation where the cartel has lost some ground to powerful global rivals; the ANC is already in power; many changes in the industry are taking place; and the international community believes that corporations must behave ethically and take responsibility for its actions. The important difference is that the South African government is no longer an apartheid state, more than willing to use brute force to separate the races and stay in power. It is the ANC government, whose program includes full deracialisation and democratisation of ownership, management, and control of businesses like De Beer. C. The Pros and Cons of Diamonds The Truth and Reconciliation Commission has cited and documented De Beer's failure to respect labor rights and human rights, and assume corporate responsibility before Diamonds for South Africa 20 and during the years of apartheid. However the ANC government has not retaliated by confiscating any De Beers property and in fact, continues to cooperate and conclude agreements with the cartel. De Beers is still free to operate its business within South Africa. However, South Africa has managed to institute important changes in the diamond industry. "The Minerals and Petroleum Resources Development Actrecognizes that mineral resources are the common heritage of all South Africans and belong to all peoples of South AfricaSouth Africa is one of the few countries in the world that has a system of dual State and private ownership of mineral rights." 27 On the other hand, the Act "guarantees security of tenure for existing prospecting and mining operations" and "aims to ensure that mining contributes to rural development and supports those communities affected by mining operations." 28 Diamonds for South Africa 21 The ANC government has been careful in its dealings with De Beers and the entire diamond industry. After all, the latter employs 28,000 people and this is significant in a country with a 42 percent unemployment rate. In 2006 South African mines produced diamonds worth more than $1.5 B. Mining is the single biggest earner of dollars and source of 25 percent of all wages of labour. "Corporate social development projects receive millions of dollars of investments by diamond mining companies in South Africa." The money is however quite small ($4.8M in one year for the Namaqualand Diamond Fund Trust and $37.8 M for Trans Hex Group from 1994 to 2006). If their objectives were totally opposite, then they would find it hard to come to any agreement. In some cases the two parties may have different objectives, but are able find some common ground where they could work together to their mutual benefit. ANC government and the De Beers management have their own agenda during both the negotiations or talks. Diamonds for South Africa 22 De Beers would of course proceed from its own interest which is basically to make money and do its duty to its stockbrokers. Its motive could be even more specific at any one time or situation. For example, De Beers may have to get a new and reliable source of large gemstones. To achieve its objective De Beers may even give some sacrifices, such as providing capital at extremely liberal terms to a government that it urgently wants to influence. This is also true for the ANC. Looking back at history we see of course that De Beers has gotten far more than it has given, and it will continue to try to do so. For them it is quite simply, business. A committed and ethically upright government , on the other hand, will think in terms of Diamonds for South Africa 23 how De Beers and the entire diamond industry can help in poverty eradication, creation of more jobs, democratisation, and the defeat of AIDS, while ensuring the people's agenda and rights are safeguarded. It seems to be what the ANC government is at least trying to do. Together with De Beers, the ANC government has organised a diamond trading company under the Department of Minerals and Energy (DME). The new entity will buy 10 percent of its diamonds from local sources and have them cut and polished by local artisans. At first glance the project seems worthwhile, since it will create new jobs and increase government income from the export of polished gems and jewelry instead of merely rough diamonds. There are many questions on the viability of the project such as: Can South Africa compete with the quality of work being done in India Will the earnings of the new company be used for worthwhile government projects Will the state company become a milking cow for corrupt bureaucrats Diamonds for South Africa 24 In 2006, De Beers sold 26% of its mining operations in South Africa to a black empowerment company, Ponahalo Investment Holdings. The move was based on ANC's black economic empowerment or BEE program. It was the first substantial change to the De Beers Consolidated Mines which is now owned by the government of Botswaya (15 percent), Anglo-American (45 percent) and Central Holdings Group which is owned by the Oppenheimer family. Fifty percent of Ponahalo is owned by employees and pensioners of De Beers while the rest are owned by "trusts" that are supposed to benefit women, communities around the De Beers mines, and the disabled. Will the redefinition in South African government-De Beers relations benefit diamond consumers of the world Probably not. First point. Although its market share has grown smaller, (from 80 to 65 percent) De Beers still is the most influential force in the diamond industry. Second point. Even its competitors and diamond producing countries in general would not want a lowering of prices of diamonds since it would lower the profit level for all diamond producers. Third point. The myth of "a diamond is forever" still Diamonds for South Africa 25 lingers on. The exclusivity and price of a diamond is still part of its appeal to consumers. It would be different if the product were milk or bread. Women want and expect their engagement rings to be expensive. Men are generally willing to pay the price to make them happy. V, DIAMONDS FOR SOUTH AFRICA! The ANC government has set up a system of state-private mine ownership. It is an attempt to democratise mine ownership and gradually transfer ownership to the hands of the whole South African peoples. It would be more keeping with the South African tradition and culture and the objective of attaining economic equality and democracy. There are two obvious pitfalls based largely on experience in other countries. First and more likely, the ANC may fail to take the next steps forward and simply retain the status quo (mixed ownership) indefinitely. De Beers and other mining companies will continue to have the upper hand and get the lion's share of the Diamonds for South Africa 26 wealth produced by the mines. Maybe a little smaller than during apartheid rule but then apartheid was designed to maximize profits through racist violence. An apartheid government wasn't really good for business in the long run because it sparked off widespread condemnation and opposition (up to armed resistance) both in the domestic and global fronts. The other pitfall is for ownership to be transferred to the hands of the state. That would be a monopoly, and we have seen what state monopoly has done in countries like China. Ownership should reside in the hands of the people, as ANC declared, and not in the hands of a few capitalists (Oppenheimers et al) or in the hands of a few big bureaucrats who may be inefficient or corrupt or most likely, both. To be able to avoid those pitfalls, and others, mining workers, families and communities must be strongly organized and skilled in managing their enterprises and their own community affairs. . Diamonds for South Africa 27 At present the Department of Mining and Energy seems to oversee the industry. It would be better not to leave to bureaucrats alone the work of achieving genuine people's ownership of the mines, or for that matter, other South African resources. The principal stakeholders after all are the people of South Africa and it is important that they have a direct hand in the BEE program for the mining industry. Union representatives in particular would be a wise choice but other sectors should not be excluded. Having a committee or commission composed of government and non-government authentic representatives of the people will help enrich democratic decision making and generate more energy, enthusiasm and creativity for the project. It can also serve as a barrier to corruption although developing people's ethical sense and framework will be needed equally. At the same time South Africa can reach out to other diamond producing African nations in order to launch activities that would benefit them all. The cartel benefited from the system they developed. It is logical that diamond producing countries and Diamonds for South Africa 28 peoples can develop their own non-oppressive and non-repressive system of production and distribution. The South African government and civil society should see to it that income from diamond mines should be used wisely, and in particular to reduce poverty, diversify the economy so that South Africa will not be so dependent on mining, and deliver basic services to the overwhelmingly poor majority, especially in the fields of health and education. At the same time government must ensure the basic rights of workers, employees, women and other stakeholders of the mining industry. Failure to respond to the basic demands of the South African peoples will alienate them and keep them from active participation in the country's political, economic and social life. If that happens the diamond cartel can once again impose its dictates on South Africa. 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