Indonesia's mining tax plans will raise coal and base metals prices

Recent tax developments by Indonesia's government aimed at promoting local mining are expected to increase prices of coal and aluminium among others as demand for metals in India and China continues to rise.

Last week's announcement by Indonesia's government that it is considering a tax on the export of mineral ores and concentrates has brought into focus once again the changes occurring within the country's minerals sector.

In 2009, Indonesia passed law 4/2009 on Mineral and Coal Mining which sets out, among other things, an onshore processing obligation. Under the law which will come into effect in 2014, all miners are required to process all their raw materials domestically before export.

French Bank Natixis, in its weekly commodities note, points out that because Indonesia is the world's largest exporter of thermal coal, the act is certain to drive up the price of the power station fuel.

"Electricity producers in India and China therefore face growing problems of higher coal prices in 2012-13, before the potential withdrawal of this lower quality thermal coal from 2014 onwards."

And, it says, "the arithmetic pointing towards higher coal prices has not been lost on the global coal industry, where a plethora of M&A deals have been taking place since the beginning of the year."

The bank adds that the problem is likely to be exacerbated by the unbalanced nature of the thermal coal sector which is likely to see either electricity shortages or a significant increase in electricity prices in both China and India.

"China, in particular, has gone to some lengths to hold back the increase in its electricity costs this year, to the potential detriment of both coal and electricity output, and it will be very interesting to see what mix of higher prices or constrained output are considered to be acceptable for its coal and electricity markets in 2012."

It is not just the thermal coal market, however, that is likely to be effected by the new tax. According to Natixis, given Indonesia's stature within the aluminium, nickel and tin markets, base metals are also going to be affected.

The move toward 3 month benchmark pricing by Chinese aluminium producers has meant a move away from alumina toward bauxite, which Indonesia has in large quantities. Once the Act is in place Chinese producers will have to choose between finding alternative sources of bauxite or going back to alumina but, as Natixis points out "Once miners have invested in the requisite refineries, in the near term it is likely that such a switch will involve the loss of a substantial portion of current bauxite imports. There is therefore substantial scope for a significant increase in the cost of alumina supplies for Chinese aluminium producers from 2014 onwards."