The common denominator among most democracies is that the political debate has become so polarized it prevents governments from conducting business. In the case of the U.S. this month, the government has simply shut down. An equally divided electorate creates a stalemate. One politician in Mexico, recently elected President Enrique Peña Nieto, has managed to break that stalemate. While some multinational business leaders are encouraged by the administration’s initiative, others are worried, especially those in the mining business.
During July of last year, when he was elected president, Nieto’s promise of “change” was met with skepticism. He ran on the Institutional Revolutionary Party (PRI) ticket, which ruled the country for more than 70 years and allowed today’s Mexican monopolies, such as Petroleos Mexicanos (Pemex), to flourish. Prior to taking office though, he reached out and negotiated the Pact for Mexico with the PRI’s two opposing parties. The agreement, which was signed as he came into office during December 2012, is designed to guarantee political support for education reform, modernization of the energy sector and economic deregulation. The move also answered those who questioned his political savvy.
On September 8, Nieto presented a tax reform bill to the Mexican Congress. Protestors, mostly educators and organized labor, took to the streets. In a national address, Nieto defended an ambitious plan to simplify the country’s tax code, make spending more transparent and boost federal tax revenue. If it passes as it currently stands, it would be the most sweeping tax overhaul for Mexico in more than 30 years. Many economists believe the move could help the country better fund education and health care and make it less dependent on oil revenue. Others worry the move could further dampen Mexico’s growth.
The tax reform bill introduces a mining “royalty” along with other changes that will have an impact on mining operations. The bill will implement a 7.5% special mining right that applies to taxable income of the concession holder under Mexican income tax laws. The royalty increases by 0.5% for precious metals. The proposal also increases the penalty payments imposed when a concession is not being developed. Mining companies, similar to other business enterprises operating in Mexico, would also be affected by increased income tax and value-added taxes (VAT). The proposed income tax reform also assesses an additional 10% income tax on the distribution of profits to foreign shareholders.
The royalty is similar to a draft that was approved by a special commission of the Mexican Congress earlier this year, except the rate is 50% higher. As readers will note in the Mining in Mexico report included in this edition, which was written prior to Nieto’s tax reform proposal, most of the miners and prospectors were expecting 5% and hoping the Mexican Congress would water it down to 2% or 3%. The bill only needs a simple majority to pass and the president has brokered a pact.
If the bill passes as it stands, it will cause capital flight similar to what has happened in Australia and other regions that have proposed onerous mining-related taxes. It will mostly hurt the Mexican families in rural regions who depend on mining for income. Hopefully mining leaders, like Fresnillo, Goldcorp, Grupo Mexico and Peñoles, can work together with Mexican policymakers to develop a more equitable solution. Otherwise, Nieto may see angry miners joining the demonstrations, and that’s never a good thing.