Dominican President Medina’s high stakes game with Barrick is damaging the country’s investor-friendly image.

BY LATINVEX EDITORS

There is now a dark cloud hanging over normally sunny Dominican Republic. The country’s president Danilo Medina is pressuring Canada-based Barrick Gold, the country’s largest foreign investor, to renegotiate its 2009 contract.

In February he told the national assembly that the contract with Barrick was “unacceptable” and threatened to submit a new mining tax to legislators unless the Canadian firm agreed to renegotiate.

Last week, Dominican Customs stopped a Barrick shipment headed to Canada, claiming that the mining company had not filled out the proper custom forms. However, it was Dominican Customs that made the mistake by changing the customs category, Felix Caraballo, operations and security head of Alfamar (the company that handles Barrick’s shipments locally) told Dominican web site Acento.com.do. (See this video where he goes line by line over the Dominican custom’s mistakes.)

All this after Barrick has complied with its part. It has invested $4 billion in the Dominican Republic (the largest foreign investment in the country’s history), bringing in world-class mining equipment, cleaning up the environmental mess left behind a state mining company and creating thousands of new jobs. In January, Barrick started its first normal production at the Pueblo Viejo mining project, a joint venture between Barrick and Canada-based Goldcorp. Barrick owns 60 percent and operates the mine, while Goldcorp holds the remaining 40 percent.

INCREASED REVENUE

Medina claims the contract is unfair and gives the Dominican Republic too little of the revenues that will be generated. He also argues that the jump in international gold prices since the contract was signed four years ago justifies a renegotiation.

However, even with the existing contract, the Dominican Republic is benefiting from the increased gold prices. Whereas the Dominican government originally was expected to receive $7 billion in direct revenues over the life of the mine, they now look to receive $11 billion, or $4 billion more thanks to the increase in gold prices. The original estimate was based on gold prices at $1,400 per ounce not the $1,700 per ounce that is today’s value.

“The contract is very favorable to the state,” Barrick spokesman Andy Lloyd says. “It ensures that at least 50 percent of the economic benefit generated by the project flows to the government over the life of the operation through a combination of taxes and royalties – and that does not take into account substantial spending in the region on goods and services and the taxes paid by employees, contractors and other service providers.”

The contract stipulates that Barrick pays the Dominican state a 3.2 percent royalty as soon as its first production starts as well as 25 percent in income taxes and 28.75 percent on taxes on net profits. The royalty is payable upon achieving commercial production, which started in January, and the income tax is due this year as normal. The net profits tax kicks in once the initial capital investment has been recouped and the mine has achieved an internal rate of return (IRR) of 10 percent.

In other words, the Dominican Republic already stands to receive money this year from Barrick, but Medina wants more.

The reason? The government is desperate for money after a record fiscal deficit last year caused by overspending. Meanwhile, Medina’s attacks are helping him distract popular attention from the government’s own failures at improving security and the country’s electricity mess – the two key concerns for most Dominicans. Medina may also be emboldened by the fact that foreign direct investment grew 59 percent last year to $3.6 billion. However, that was mainly driven by the $1.2 billion purchase of local brewer CND by Belgium-based AB InBev. Such deals don’t grow on trees, especially in the Dominican Republic.

INVESTOR UNCERTAINTY

There are two major problems with Medina’s attacks on Barrick.

First, the threats to pressure Barrick to renegotiate a contract that they negotiated and reached with the previous administration of President Leonel Fernandez (from the same party as Medina) are clearly undermining the Dominican Republic’s image as an investor-friendly destination, with stable rules of the game.

The 2009 contract is based on a revised amendment to an original contract between the Dominican Republic and Placer Dome, which Barrick acquired in 2006. The process of applying, analysis, negotiation, revision, signing and ratification of the amendment took 27 months. The Dominican government was advised by the French Bureau of Geology and Mining and specialized consultants from Chile and Peru hired by the Inter-American Development Bank.

Now, another government wants to change the contract. If Barrick were to agree, what happens next? Will Medina again try to change the new contract when he again runs out of cash in a couple of years? Will the next Dominican government do the same? Obviously, no government that is serious about attracting foreign investment can change the rules of the game like that.

Meanwhile, what will happen to other foreign investors in the Dominican Republic? Medina officials say the country respects foreign investment, but if the government is bullying the country’s largest foreign investor to renegotiate its contract, what will happen with smaller investors?

The threats against Barrick have been sharply condemned by the main Dominican business group, CONEP, and the American Chamber of Commerce in the Dominican Republic, which both warn against changing the rules of the game.

GOVERNMENT WASTE

Second, Medina should first clean up his own financial mess before trying to force others to pay for it.

While he inherited the fiscal deficit from Fernandez, who left office in August, Medina has opted to keep in place the high levels of public spending instead of making the necessary cuts. To finance the fiscal deficit he imposed a series of unpopular taxes. The value added tax increased from 16 to 18 percent, while Medina expanded the number of products that even had a VAT (including coffee, sugar, personal care products and entertainment services, including cable TV), hiked taxes on cigarettes by 70 percent and doubled taxes on alcohol.

The fiscal reform was widely criticized by business groups and private economists. They argue that it will weaken economic growth and boost inflation. Meanwhile, the retail association predicts a 25 percent drop in retail sales during the first half of this year as a result.

While boosting taxes, Medina only reduced government expenditures by a mere 1.3 percent this year after they jumped 42.5 percent from 2011 to 2012. That increase was mainly due to higher spending on infrastructure and subsidies to the electricity sector. Public project investments – mainly in infrastructure – more than doubled last year to $2.9 billion, while interest payments on public debt have grown 52 percent since 2010 to an estimated $1.5 billion in 2012.

So, apart from infrastructure, electricity subsidies and paying debt, what is the Dominican government spending money on? First of all, an over-bloated public work force, including in its diplomatic corps. Expenditures on public sector salaries grew 25.6 percent from 2010 to 2012 and the 2013 budget included a further 6.5 percent increase.

There are more than 1,110 diplomats and consuls on the payroll, of which some have been found to not even live at their official posts, but continue living in the Dominican Republic. Meanwhile, as many as 384 diplomatic personnel have been posted to the United States, which is more than the combined personnel of Brazil and all of Central America, according to Juan Bolivar, a columnist for prominent newspaper Hoy. And many receive exorbitant salaries. The Dominican ambassador to Spain, for example, receives $40,000 a month – more than four times the salary of the Spanish prime minister, Bolivar points out.

And at home, many officials also can boast high salaries. Central Bank president Hector Valdes Albizu, for example, has a yearly salary that is 32 percent higher than his counterpart in the United States and 65 percent higher than the central bank president of Brazil, Latin America’s largest economy. And while companies and citizens are expected to finance the government’s fiscal deficit by paying more taxes, entities like the Public Works Ministry hiked the salaries of several key officials by as much as  300 percent, according to local TV news program El Informe con Alicia Ortega. Until recently, the Dominican Republic had as many as 300 armed forces generals (now reduced to 40).

Not surprising, the World Economic Forum ranks the Dominican Republic as the worst country out of 144 nations when it comes to government waste. Even neighboring Haiti spends its public money more wisely, according to the latest Global Competitiveness Report.

Government waste isn’t the only impediment to healthier public finances. The government could raise billions of dollars in increased local and foreign investment the next few years by improving government regulations and cutting corruption. The Heritage Foundation classifies the Dominican economy as “moderately free.” The Dominican Republic has Latin America’s fifth-worst competitiveness, according to the Global Competitiveness Report from the World Economic Forum. It trails Bolivia and within the CAFTA trade block, only Nicaragua is less competitive. Meanwhile, corruption remains a serious problem. The Dominican Republic is the sixth-most corrupt country in Latin America, according to Transparency International.

POTENTIAL MINING BOOM

It is ironic that just as the Dominican Republic is becoming a major mining country, the government gets so greedy that it impedes future investments by threatening to change the rules of the game.

The Barrick project alone is expected to account for as much as 15 percent of Dominican exports over the next decade and already helped the Dominican Republic become Canada's fastest-growing trade partner in Latin America, according to a Latinvex analysis of 2012 data. There are also other major mining projects operated by Xstrata’s Falconbridge and Corporacion Minera Dominicana (Cormidorm), a Chinese/Australian joint venture. The government itself estimates the Dominican Republic has proven mining reserves worth $60 billion.

As Barrick has shown at Pueblo Viejo, only foreign mining companies have the technical know-how and deep pockets to successfully explore and export minerals.

Medina therefore should stop his demands for a renegotiation of the Barrick contract as soon as possible and instead focus on cutting the excessive government waste in his own country, while improving the overall business environment through more attractive rules and less corruption.

That way he can ensure a sustainable boost in both local and foreign investment, which will greatly benefit the Dominican Republic.

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