Tracing the bloodstones

NO GLITZY romance in the West is complete without the gift of a costly diamond necklace. Even for ordinary mortals, a diamond ring, however small in value, is a must to solemnise a wedding. Over the decades De Beers had successfully promoted the image that "a diamond is forever". Unfortunately, even good things must come to an end.

Of late, there has been an unusual interest in the working of the diamond industry. While major newspapers carry special articles, there is a web site, www.diamonds.net/conflicts voicing the views of the industry. The United Nations has a site in its Global Policy Forum providing a wealth of material on the subject which include U.N Resolutions, NGO debates and other literature.

However, what is most disturbing from reports is the alarming nexus between export of diamonds and financing of arms by rebels, which has stirred the collective conscience. The term "conflict diamonds" is really a transferred epithet and refers to diamonds from conflict areas. Global Witness (G.W.), a London based NGO, has brought out several reports on Angola. Its report of December 1998 A Rough Trade documented the volume of exports globally and the role of De Beers in contravention of U.N. sanctions.

An informal Group in Ottawa called the Sierra Leone Working Group produced a report titled The Heart of the Matter: Sierra Leone, Diamonds & Human Security. It highlights ``how diamonds - small pieces of carbon with no intrinsic value - have been the cause of widespread death, destruction and misery for almost a decade in the small West African country of Sierra Leone." Mr. Robert Fowler, Canadian Ambassador to the UN, submitted a report to the Security Council "naming and shaming" arms traffickers, diamond dealers and politicians who were prepared to breach UN sanctions and help UNITA, the Angolan rebels.

The issue came up in the World Diamond Congress (WDC) held in Moscow in July 1999, which called upon its members ``not to trade in conflict diamonds." The unstated mindset in the industry was that it could not do much as the problem, in its view, was that ``conflict diamonds are indistinguishable from non-conflict diamonds and there was no way the trade could be checked."

The situation deteriorated further with the escalation of rebellion in Sierra Leone and UN intervention. G.W. brought out another report in June 2000 Conflict diamonds: The possibilities for the identification, certification and control of diamonds in which it urged the industry to ``commit to the establishment of a chain of warranties 'from mine to finger'. The diamond industry, however, was in no mood to change the posture taken in Moscow that it was helpless. At the same time, the resolution passed by the WDC was an attempt to shift the responsibility entirely on to governments of exporting/importing countries, confining the industry's role to co-operation and adoption of ``an ethical code of conduct" which breached would lead to expulsion from WFDB, IDMA and all other relevant organisations. Curiously though, membership of WFDB or IDMA is not compulsory for those in diamond trade!

Manipulative market dynamics

What marks the diamond industry from all other industries is that the rules of the "free market" do not apply. In reality, there was (and still is) only one producer who built an empire by accessing political power during the British colonial era or through clever corporate and clandestine maneuvers at other times. The cost of production of roughs bears no relation to the value of the final product. The cost varies from mine to mine; the value from stone to stone. The value of the stone at the retail end (Tiffany's) is unknown and subject to prevailing rates of economic growth, income distribution, changes in fashions, tastes and cultural mores. There are myths about specific diamonds and new myths may be created to enhance the value.

So far, De Beers has undertaken generic publicity for the industry as whole and retailers have not taken part in it. The outlay on publicity was $170 million in 1999. Scarcity is a factor that generally creates value. Manipulation of scarcity can create scarcity. But, supply manipulation has to be discreet. While oversupply will kill value, under-supply may create tension among dealers. The system built by De Beers tried to resolve all these and evolved a method, which bound the producer and dealers neatly. This is the system of selling "sights" to "sight holders".

The `sights' system

The system of "sights" and "sight-holders" was an ingenious device that took care of the problems. There are at present 125 sight holders. It is a closed shop union to which entry is highly restricted. Sights are packets of diamonds (shoeboxes as they are called) containing an assortment of roughs of varying sizes and qualities. De Beers fixes the value of the sights on certain global parameters. Perhaps averages the cost of operations globally. Operating profits in Botswana are said to be 90 per cent and 50 per cent for the older mines in South Africa.

The assortment of the sight is done by its London subsidiary, the Diamond Trading Corporation. No sight holder may question either the value attached to the sights or the assortment in the sights. Those who attempt to do so are liable for exclusion as sight holders and there is no right of appeal to any agency inside or outside. There is no other "club" they can join. De Beers has made it clear that, except for a small part of the roughs which may be allocated to specific markets (India, for instance for smaller, inferior roughs), there can be no re-trading of roughs. There are no written rules, there is no transparency and the operations are shrouded in secrecy.

All the members are expected to function on the basis of trust and loyalty. This cozy relationship prevents entry of new parties. In fairness to De Beers one may add that, considering the special features of the industry, it had evolved a structure that had endured for a long time and served its interests very well. But now it has begun to hurt when the other limb of the edifice is getting arthritic.

Supply-side problems

Central to the operations of De Beers is the decision taken in the early Thirties to be the custodian of the market and its readiness to be ``the seller of last resort" - to buy and stockpile any rough offered. The astute strategy served the company well for over 60 years. The rationale was simple. While De Beers was in charge of the bulk of global production, a marginal producer could upset the apple cart. So, buy up the roughs and store them in vaults at London. The stockpile may be offloaded over a period to ensure long-term stability of operations by balancing changes in demand.

This policy, pursued relentlessly, led the company to engage in questionable activities when "outside" sources became critical in the sixties and later. For instance, when African countries became independent and U.N. sanctions were imposed against South Africa, De Beers was able to source and market all the diamonds from South Africa and other African countries through various legal entities incorporated in third countries in circumvention of sanctions. Apart from its African operations, the company handled the Russian diamonds for 40 years and the relationship with Russia, on the company's own admission, ``was mutually beneficial". Russia could get industrial diamonds to increase its oil production. Crude oil and diamonds had become the main sources of foreign exchange for the former USSR.

As later developments would predicate, it is the "outside purchase" which is at the heart of conflict diamonds. In 1999, the world production of diamonds was estimated at $6.8 billion. Of this, $3.8 billion came from South Africa, Namibia, Botswana, Canada and Australia; $600 million from Angola; and about $800 million from a wide range of countries including the Democratic Republic of Congo. In its testimony to the U.S. Congress, De Beers confirmed that its own production together with purchases under contract with Russia and Canada amounted to 65 per cent of world production. It also admitted that it maintained an "outside purchase" office largely in Africa till October 1999 and over the last decade the purchases amounted to less than 5 per cent of the company's intake.

Some analysts and NGOs question these data and feel that the value of diamonds sourced from rebel areas could be around 20 percent. In any case, it is a small part of their global operations and it was in October 1999 that De Beers decided to vacate this turf. It was not because it was overly concerned about "rebels", "conflicts" or other humane considerations. After all it had dealt with them all since the Sixties and built the pile in London. But it was the stock market or the shareholders who warned that the stockpile was a burden and they were not getting their full return. The stockpile was estimated at $5 billion and was a dead hang. The share value (net asset value) was assessed at 79 per cent below the list price. This was disturbing. There were other factors at work.

The Eighties as a whole was good business with the booming Asian economies, strong yen and demand exceeding supply with the enforcement of single channel marketing (``sights" and ``sight holders" under De Beers). Diamond prices as also the value of inventory went up. In the Nineties demand collapsed with the Asian economic crises and the weakened yen. Supply exceeded demand and De Beers had to lose its Angolan concessions and Argyle. New entrants such as BHP of Australia, Le Leviev of Russia entered the market. One market, which is vital for boosting demand, is the US. Unfortunately De Beers have anti- trust litigation dating back to the Eighties with the U.S. Justice Department, hampering its entry to the U.S. The Carat Act had been introduced by Tony Hall in the Congress and this would have barred De Beers from the U.S. market. These perceptions discounted its stock quotations further.

The company decided to give up stock piling policies and one direct consequence of this was its decision to close down its purchase offices in Africa. From now on it would use the "conflict diamond" stick to beat the competitors with. On the July 12, the company Chairman declared that under its new policy ``any diamond manufacturer found to have purchased stones that fuel wars in Africa will no longer be able to buy from De Beers." Since March it had started issuing a guarantee that its diamonds are not from a conflict areas. Sight holders are required to demand similar guarantees. UN sanctions on Angola and on Sierra Leone are on diamonds which are not certified by governments through established procedures. But, De Beers have excluded all "conflict diamonds" smuggled out of Africa. In short, it is creating an image that it is doing more than expected of it under UN sanctions.

There is no outside agency of the government or non-government that supervises or controls the operations of De Beers. The system of guarantees by De Beers though commercially valuable to its own clients will not have credibility. We have noted how the De Beers' sights operate. If this analysis is correct, how do we treat the diamonds currently in the stockpile? How much of it are "conflict" and "non-conflict" and who decides? By this device De Beers is trying to safeguard the future value of the stockpile and also to sanitise it. It is, at the same time, trying to create a divide between "clean diamonds" from De Beers and "conflict diamonds" from others. With its present position in the market and the diamond network, it may even succeed for a while. But is it a solution to the festering issue?

The solution can only come from a system of regulation and certification for the industry. Along with it, there is need for banning the arms trade and regulating the banking system to prevent money laundering. There are too many codes under negotiations and too many proposals afloat. It is unlikely that there will be consensus on these as between developed and developing countries. As far diamond industry is concerned, it is clear that it is not ready or keen to put one in place.

A unique feature of diamonds is that it is not easy to identify their origin. As explained to the US Congress in a written testimony by De Beers, "It is possible for a diamond expert to source a complete parcel of rough diamonds as having come from a particular area or region using a number of different clues. In short, there is not much you can do about it. This is the reasoning which the WDC given in its resolution. At the same breadth, it has suggested that each country enact "redline" legislation so that no parcel of rough may be imported unless such a parcel of roughs has been sealed and registered in a universally standardised manner by an accredited export authority from the exporting country.

These are abstract ideas and have been thrown into the ring more for continuing the debate than for solving it. Given the special features of the commodity and the existing structure of the industry and the manner of its operations how can governments classify roughs and put them in parcels on their own? If this results in unbundling the "sights" into classified and standardised packets will De Beers cooperate? Will its DTC operations have any rationale? These are imponderables.

The diamond industry, under the baton of De Beers, is making the right noises to neutralise the attacks made by humanitarian NGOs. Lost in all this battle are the claims of diamond rich countries to access valuable resources for their own development. Some economist said that it is a curse to have too much of natural resources. They alone are not to be blamed.

K. Subramanian

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