Dear ladies and gentlemen!

 

Today, for the first time the diamond market faces the growing deficit of rough. The cause is not the well-known "diamond pipeline" issues, but a number of other reasons.

 

During the last decade no new large diamond deposits have been discovered, many of the existing ones are almost depleted. and the companies have to go underground. This makes the supply of rough diamonds scarce. According to a number of well -founded estimates, to the year by 2012 the demand for diamonds will reach USD 18 bln., whereas the supply will lag behind at just USD 9 bln. in current prices. Therefore, one may easily assume that the price for rough diamonds will soon rise to unprecedented level. This will shake the very foundation of the diamond market.

 

Let me point out some of the most recent principal tendencies and to put forward certain suggestions on how to cope with the crisis the industry is about to encounter.

 

One of the tendencies to watch is the development of diamond cutting and polishing industry in the diamond-mining countries of Africa. Botswana, Namibia, Angola, South Africa and Democratic Republic of Congo contemplate setting up large cutting and polishing facilities that will consume rough diamonds in volumes equivalent to those being currently processed by traditional diamond processing centers – Israel, Belgium and India. This most recent tendency has some serious flaws. As Russia was the first of the diamond-mining countries to have created a cutting and polishing industry of its own over 45 years ago, it could be interesting for you to have a look back in our history.

 

For an outsider, the cutting business is not very complicated, and this apparent simplicity is always a good argument for politicians, administrators, journalists and general public in diamond-mining countries, who insist on developing of on-site processing facilities to create new jobs and boost tax revenue. The same argument had been used in Russia back in the 90-s of the last century and currently has quite a few supporters in Africa. However, this argument is false and the reality of the modern cutting and polishing business is that it operates at the very low margins.

 

As you may know, ALROSA set up a number of cutting and polishing facilities of its own that have been operating in the most favorable – in Russia – conditions for many years now. Today their operations clearly demonstrate that processing industry is and has always been an extremely poor instrument boosting state revenues with insignificant social effects. More than that- two of those factories were close to bankruptcy when I was appointed in February.

 

As an example, may I draw your attention to the numbers of the Open-type Joint Stock Company "Almazniy Mir" ("Diamond World").

 

Annual profit received by the OJSC "Diamond World" from the cut diamonds' sales amounts to 2,06% of their full cost price. This is less than the interest rate in Russian banks and far below the annual inflation rate.

 

This is typical for Russian diamond processing factories.

 

Therefore, the substantial cash flow, injected into the diamond processing industry, creates quite funny, if compared to any other sector of economy, tax base. In this respect, the diamond cutting industry is the last resort any government seeking to boost tax revenue and cut unemployment should turn to. One billion of US dollars invested into the cutting and polishing sector creates new jobs and generates taxes for a hundred million at best. This is 4 or 5 times less than, say, in construction industry. Low investment potential of the diamond cutting business, low profitability and high competition from traditional processing centers have lead to a logical decline of the cutting industry in Russia. In the last two years the volume of rough consumed by Russian cutting factories dropped to almost 50% in weight and 20% in cost.

 

Most of diamond cutting facilities in Russia are not controlled by Russians — both from the ownership and financing standpoint.

 

Setting up the diamond cutting industry in Africa will mean that hundreds of millions of US dollars from budgets and stabilization funds of diamond-mining countries, as well as those received as loans, will be injected into the national cutting factories and be subjected to high commercial risks and very low social effect.

 

Moreover, financing of the facilities in question may also encounter major difficulties. Specialized banks, like Antwerp Diamond Bank, ABN-Amro are few and their presence in Africa for diamond trade finance is almost invisible.

 

We encountered the same problem in Russia. Lack of specialized financing and low investment potential of the cutting and polishing business forced ALROSA to practice commodity loans to the diamond processing factories. Time has proven the above strategy ineffective – the result was damage to the mining industry and abundance of processing facilities unable to withstand healthy competition. Now we stop any form of subsidizing cutting and polishing business. We believe the unique regulator of this business is market.

 

Development of dealership together with notorious drift of both rough and cut diamond industries towards the Middle East, create another challenge. Even in Russia the law enforcement agencies today more often encounter the shady practices of undocumented exchange and money transfer, also known as "hawala". In the Middle East, India and Africa, "hawala" is a widespread phenomenon beyond any state institution's control. Precious stones, cut diamonds in particular, have always been used as security deposits within the "hawala" transactions. And now they are being further advanced to traditional diamond centers.

 

I strongly believe that financing is becoming a crucial issue for the diamond business. On the one hand, banks started leaving this sector, on the other hand, “non-institutional bankers” are stepping in. Does KP have any role to play? I am not aware of any KP initiative in this regard.

 

Just recently Alex Yearsley gently invited us to go and fight Hugo Chavez because the latter is not proving enough statistics to smooth bureaucratic KP process. Let us be serious: exclusion of Venezuela will not add any value to KP or to the diamond industry. But it will definitely add to illegal trade because hundred percent of Venezuelan production will become illegal as was the case with Liberia. KP should stop fighting in virtual reality and should turn to the real challenges the industry is facing. It should also stop being virtual itself and become full scale international institution. KP is unique by itself: we managed to create the real bureaucracy in a virtual institution.

 

The overall quality of cut diamonds, produced by new African factories may not be up to the industry standards, due to the lack of cutting traditions and schools. Besides, their sales and marketing may also be problematic because of virtual nonexistence of local dealer networks and blockade by competitors – traditional participants of this fragile market.

 

All this may bankrupt the newly created national manufacturing factories with clear social consequences. We lived through that experience in Russia.

 

The second, but no less important and alarming trend, is the growing number and volumes of speculative transactions with rough.

 

Today there are 4 major producers of rough, each having a dealer network of its own, thousands of small producers and dealers. New world-class diamond trading centers are being intensively created. It would hardly be an exaggeration to state that in the last 15 years the value chain has become much longer and the number of speculations on the market is unprecedented.

 

Dealership is a common element of the diamond market. However, under certain circumstances this classic checks and balances business may turn into the instrument of chaos. We do remember the situation back in the mid-90s, when by ill-conceived decisions the multiyear stocks of the Russia's Gokhran were put on the market and caused catastrophic drop in prices.

 

Therefore, provided acute deficit of rough, one can assume that growing activity of large number of dealers will become yet another factor causing sky-rocket price rise that the market may be unable to cope with.

 

So there is growing deficit of rough diamonds and this situation is seemingly favorable for the market players. However, what normally spells growing profits may lead to a major crisis. Is there any way we could avoid it?

 

First of all, those in the African diamond mining countries who decide to set up large national processing facilities should by all means reject their populist argumentation. They should focus entirely on the economic side of such projects.

Major global upstream player should sit together with major downstream players and should determine a set of measures to drive out any speculation from the market or at least reduce it to the minimum level.

 

The diamond's way from the mine to the jewelry store should be shortened to the maximum extent possible.

 

We believe the ideal structure would be direct sales of rough diamonds to established globally jewelry brands. ALROSA started direct sales to Tiffany & Co., and we are confident that such sales will breathe a new life into the jewelry trade.

 

Before I conclude, two last comments. First, is there anything in common between the Russian ruble, South African rand, Canadian and Namibian dollars? You do know the answer – their exchange rates against the US dollar keep rising. I think time is coming to look out for another currency, which is less dependant to global economic and political trends.

 

Second, I would like to appeal to our African friends: please think twice and learn from Russian experience when make the decisions regarding beneficiation. Let me just remind you that it is not common practice to build a uranium treatment plant near uranium deposit.

 

Thank you very much for your attention!