NOTES FROM THE FIELD: MEXICAN MINEFIELDS

Filed by Louis James

We’ve been hearing increasing reports of the escalation of the drug war in Mexico, a serious threat to the security of mining operations in one of our favorite mining jurisdictions. Worse, some investors are – wisely, I think – concerned that in the face of falling oil revenue, Mexico may resort to higher taxes to bolster domestic spending, and mining seems an obvious target.

It was high time to get an update on the ground, so off to Chihuahua I flew, on St. Valentine’s Day, of all days. (Good thing I’m single.)

We’re all busy, so I won’t regale you with all the gory details, but I will tell you this: the drug war is indeed heating up. The day I arrived, the papers were full of the story of four drug-related murders in Chihuahua that morning – an improvement, it seems, over the 21 such deaths the week before.

I’ve never seen so many military checkpoints, nor have I ever been stopped and searched so many times just driving a hundred kilometers or so. I’m not talking about bored guards making a nuisance of themselves, pretending to inspect our papers; these were army platoons with sand-bagged emplacements straddling the roads, automatic weapons a-plenty, and officers on site. We were never just waved through, and were frequently ordered out of our vehicle while the soldiers checked it fairly thoroughly for drugs, guns, or other naughty things.

Why soldiers and not cops? Because the drug war has pushed corruption high up into the civil authority structures. From local politicians to Federales, Mexicans say that it’s impossible to trust anyone, and so the military is the only force able to combat the drug cartels. But to combat does not necessarily mean to win; it’s interesting that so many Mexicans from all walks of life believe that the only way to stop the violence is for Americans to stop consuming so much. But they don’t believe that will ever happen, so some are wondering if it might not be better to just declare a cease-fire in the war on drugs.

How does this impact mining? In many ways, it doesn’t. The “narcos” don’t really care about mining activity. I’ve not only heard stories about geos hiking unmolested through marijuana fields in search of minerals, I have personally stumbled upon caves full of the stuff and never faced a hostile narco.

On the other hand, gunfights do erupt from time to time, and a stray bullet doesn’t care if you’re a narco or a geo. Plus, high-profile mining executives make for good hostages; I saw one exec on this trip that employed a small private army that was conspicuously guarding the mine, including one squad that followed him around everywhere he went. After I got home, I heard on the BBC news that more than 5,000 people were killed in Mexico’s drug war last year, and more than 1,000 have already been killed so far in 2009.

But don’t get the wrong idea; I wasn’t dodging bullets the whole time I was down there. Nor even part of the time. The most dangerous thing I faced was an unpaved road that did its best to bash my brains out against the frame of the jeep I was bouncing along in. And the executive with the bodyguards didn’t keep them on hand to fight battles for him, but as intimidation to discourage anyone from starting any battles in the first place.

What this boils down to, mostly, is added costs for security. That’s manageable. But it’s also a potentially lethal safety hazard for personnel, which could impact a company’s share price significantly in the event of a fatality – especially if the company is deemed not to have taken adequate precautions. It’s important that anyone operating in the region do so fully aware of the risks.

Yet what about the equally dangerous criminalspeople in government? Might they tax mining into oblivion (as the U.S. is contemplating) or chase it out of the country (as Ecuador did)?

Well, if the U.S. is considering imposing a royalty on mining on federal lands, then it could happen anywhere, even Mexico. But Mexico is not the banana republic it once was. Many of its leaders are U.S.-educated and understand the workings of markets at least as well as Americans do. We think it significant that when metals prices soared earlier this cycle and governments all up and down Latin America were politically veering left and increasing their take on all sorts of mineral operations, Mexico did not.

On the ground, we just don’t see any evidence that the country is moving against mining, nor do we hear rumors of new taxes, royalties, or regulations. What we do hear is a debate over broader tax policy, possibly including a new VAT. With the exception of local politics, which has always been a minefield in Mexico, the country seems to recognize that the best way to create more jobs and revenue in mining is to leave it alone… at least for now.

If this changes, you’ll be the first to know.