No Gold Medals in Kimberley Games
August 07, 08 by Chaim Even-Zohar
The Kimberley Process Certification Scheme (KPCS) is a purely political process designed to certify the origin of rough diamonds from sources free of conflict; as it has evolved, it clearly lacks the validity to be seen as a meaningful data-gathering exercise. It effectively serves its declared purpose, but we should resist having it used for other purposes (such as was recently intimated in an FATF document).
According to just-released KPCS data, in 2007, the world’s rough diamond output totaled 168.2 million carats, worth $12.1 billion, at $71.98 per carat. Our own analysis, published in our annual pipeline in April this year, estimates world output to have been worth $13.82 billion. We remain committed to that figure.
Rob Dunn, chairman of the KP Statistical Committee, has issued a very fair warning. “The KPCS production and trade statistics might not be comparable to respective national statistical agency’s production or trade data due to differing conceptual and methodological practices employed in gathering and reporting these data,” he says.
“Every effort is made to ensure that the data reported to the KPCS by participants are reliable and error free. However, users of the data should be aware that since each participant reports their own statistics and that reporting practices might vary between participants, the KPCS does not guarantee the quality and accuracy of the data presented. Users of the KPCS data should keep this caveat in mind.”
The caution expressed by Dunn should be taken as seriously as the health warning on cigarettes.
DRC: Basket Case
Let’s take one country, the Democratic Republic of the Congo (DRC), just for illustrative purposes. From a Kimberley Process perspective, it is a classical basket case. According to the KP data, the country produced some 28.5 million carats in 2007, worth $364.8 million (at $12.83 p/c); but those goods were actually exported for $609.8 million (at $21.53 per carat). In our own analysis, we estimated the DRC’s true production to be about $1.0 billion. In fact, it may well be higher than that.
In a game of corruption and kickbacks, true market value loses any significance. It wasn’t so long ago that in the DRC an Independent Government Valuator resigned because he was told to record unrealistic values; the government itself has identified smuggling as a major challenge it has to deal with. KPCS officials, in the past, have warned against Zimbabwe goods passing through the country. The DRC is just one example; there are several countries that have very problematic statistics.
What worries me is that, in recent years, the “transfer pricing” that is taking place in some trading centers has been severely criticized. An incidental parcel that lacks the right paper may occupy (and trigger) whole review missions, while the KPCS seems to be resigned to the fact that it is quite helpless in securing good governance in some source countries. True – that isn’t its mission. But looking at the impressive documented output of the KP activities, one wonders whether the system is indeed focusing on the right areas.
It is also problematic that the KPCS doesn’t report complete statistics, though the real picture can emerge when additional non-KP trade data are analyzed. In an attempt to bend over backwards to accommodate the rough source countries, the KPCS too often wants to hold the recipient country of the rough diamonds responsible for the undervaluation committed, authorized and sanctioned by the producer countries. In fact, in quite a few instances, the transfer pricing mechanism facilitates and actually guarantees that at some point in the pipeline these diamonds are traded at their true values. It “corrects” the failures of the valuation systems in the source countries.
Switzerland: Margins are Reasonable
Maybe the KPCS secretariat should give far more interpretation and explanations on its figures rather than just issuing a “warning.” Take Switzerland. Its free trade zones imported and exported 9.9 million carats in 2007. For imports, they were valued at $1.394 billion; for exports, the value increased to $1.624 billion. The limited KPCS data doesn’t explain this value addition.
Other national sources give a very simple explanation. Some 1.9 million carats of industrial goods were imported from the DRC at $3.88 per carat. These same goods were subsequently exported at $7.21 per carat. If one ignores the DRC goods, Switzerland imported 7.9 million carats of gem-quality goods where, through the transfer pricing, the average price increased by merely 16 percent from $172.89 to $200.90. This differential makes sense as rough purchased in Africa must be somewhat cheaper than its European market price for the following reasons: to allow the trader to earn his African operations overhead, to get a return on his risks, plus shipping, insurance and other charges. This is a pattern that repeats itself in many producer and trading centers – and these margins are reasonable.
The world’s largest producer, Botswana, is undoubtedly Africa’s flagship of best practices. According to the KPCS figures, in 2007, the country produced 33.6 million carats worth $2.96 billion, at $88.00 per carat. The Bank of Botswana, which monitors production and exports on a monthly basis, records the output at $3.21 billion. Admittedly, the difference is “only” $250 million and the average value of the diamonds is only nine percent per carat higher to total $95.46 per carat. There may be various explanations for the discrepancy. (In 2007, the rough diamonds were still exported to the DTC in London at a discount of some 8-10 percent below the DTC standard selling values (SSV). Some of the income “lost” to Botswana will come back through the dividends it earns from its De Beers shareholding.)
The KPCS data for Botswana seems correct on the carats, not on the production values. But a price differential between an African source and the European market is not only fair, it is necessary to induce people to source in Africa.
Some situations defy easy explanations. For Angola, the KPCS reported a 2007 production of 9.7 million carats, valued at $1.27 billion. (We estimated Angola’s production at $1.5 billion, which might still have been on the conservative side. Some experts believe it come closer to $2 billion, while diamond parastatal Endiama, itself, had forecast that in 2007 it would produce 13 million carats, worth $2.2 billion.)
About half of all Angolan exports went to Dubai. A “meager” $75 million went to Switzerland, with $82 million sold to China. Israeli statistics show some $250 million imports from Angola. About nine percent (some $118 million) of Angola’s exports went directly to Belgium. It wasn’t so long ago (2003) that Israel and Belgium received 95 percent of Angolan output directly.
Dubai: 4th Largest Exporter
This gets us to Dubai. After the EC, Israel and Botswana, Dubai is the fourth largest exporter of rough diamonds in the world. The partial information released by the KPCS doesn’t do justice to Dubai. The information suggests that 42.6 million carats were imported for $1.95 billion (at $45.83 per carat) and exports were reported at 40.2 million carats, valued at $2.83 billion (or $70.28 per carat). Ostensibly, there is a hefty value addition of 53.3 percent.
However, the data released by the KPCS doesn’t differentiate between industrial diamonds and gem qualities. Understanding the “industrial” dilemma will go far in understanding Dubai’s transfer pricing practices. The 42.6 million carats imported into Dubai include some 10.1 million carats of industrial qualities.
Taking a closer look at these non-gem qualities, some 6.2 million carats of industrial goods came from the DRC at $5.69 per carat, some 1.58 million carats from Switzerland also at $5.69 per carat (which, apparently, also came from DRC), and half a million carats from both Lebanon (!) and Russia. The industrials from Russia were valued at $0.67 per carat, which is next to nothing.
On Dubai’s export side, however, most of the industrial carats found themselves mysteriously transformed into gem qualities – and officially exported and valued as such. Was there a transformation or were these goods wrongly classified in the exporting country? There is evidence that when (KP) export authorities in some African exporting countries are challenged, invariably they claim that they are the experts in their own goods and they confirm the accuracy of their own reports. Any Kimberley Process participant can only be as reliable as the perspective government wants it to be.
Though we lack sufficient data to do a more in-depth exercise, we tend to expect that if the industrial goods are somehow neutralized, or the known problematic sources are taken off the figures, the performance of Dubai in terms of transfer pricing would be similar to Switzerland – about 16 percent value addition in the gem-quality trade.
The Kimberley Process agreement itself does not require the producer countries to declare details of their annual production. Somehow, they do it on a voluntary basis. In countries where smuggling is still a significant problem, governments conveniently equate official exports with production. That’s another reason why the KPCS data are so inaccurate.
If the KPCS is really concerned about valuation issues – and apparently it is – it ought to start with requesting producers to provide a breakdown of their annual production by the appropriate customs tariff category. No cuttable goods should be categorized as “industrial.” Accurate descriptions should be a requirement imposed on the producer countries. Such an effort will add transparency to the worldwide diamond supply and demand picture and, I expect, will remove many of the oddities and incongruities in present global industry reports.
We are worried that the success of the Kimberley Process, in doing what it was supposed to do (eradicate trade in conflict diamonds), may have given rise to thoughts to utilize the KP system for other uses – such as meeting anti-money laundering due-diligence requirements. It is time to rethink how relevant the “value” notations really are.
Misinterpretation of the KP data can do a lot of damage. Most people won’t care; diamond statistics aren’t trusted in any event. We have applauded the decision by the KPCS to release the annual data. The release of partial data is problematic – and the KPCS should endeavor to explain the oddities, rather than just publish a cautionary note.