The cutting and polishing sector of Canada's much-touted diamond industry needs some trimming and buffing of its own, suggests a new report from the mining industry that has angered the Northwest Territories government.

The study, entitled National Diamond Strategy: An Industry Response, said efforts to build a value-added component to the thriving diamond mines has resulted in "short-term, unsustainable policies" that penalize primary producers and in money-losing ventures that employ too many foreign workers.

"Clearly any cost-benefits analysis of efforts to enter the cutting and polishing industry in Yellowknife would paint a stark picture," the study said.

It was compiled by three industry heavyweights - the Mining Association of Canada, the Northwest Territories and Nunavut Chamber of Mines and the Prospectors and Developers Association of Canada.

Findings inflame Northwest Territories premier

The recommendations were distributed to Canada's 13 provincial and territorial governments, which are working on a national strategy.

The findings inflamed Northwest Territories Premier Joe Handley, who said that if the industry is not ready to work with his government on a value-added sector, then "we've got to look at what the alternatives are."

He said that because the resource royalties from diamonds go directly to the Canadian government, a secondary industry is the only way the Northwest Territories can diversify the benefits of diamond mining.

Failing that, Handley warned, the only option is for the Northwest Territories to impose a tax on production.

"We entered into agreements with diamond companies to have their support in setting up a (cutting and polishing) industry in lieu of us levying some sort of tax," he told the Globe and Mail.

"If the diamond industry does not want to participate with us in supporting the diamond polishing sector and the jewelry industry, where the real profit is, then it's time for us to sit down and talk."

Handley said the industry's thinking is flawed, because the territory does not get any resource royalties.

Other producing countries also want spin-off industries

Stephen Ben-Oliel, president of the Canadian Diamond Manufacturers Association, lent weight to Handley's argument, noting that other diamond producing countries are also demanding a slice of the output to build their spin-off industries.

He said that to focus on labor costs is short-sighted, making no allowance for increasing automation in the industry.

The Northwest Territories government requires mining companies to sell 10 percent of their select, high-quality rough diamonds to local factories to derive some direct economic gains from the Ekati and Diavik mines, which have made Canada the world's third-largest producer behind Russia and Botswana.

The government last year estimated that the two mines, plus the Snap Lake mine scheduled to start operations in 2008, are expected to generate C$7.5 billion in government revenues over their operating lives. But that report said the Northwest Territories will gain only C$260 million.

There are four cutting and polishing factories in Yellowknife, which "have had to rely on government subsidies and industry support to remain in business," while employing fewer than 150 workers in "relatively low-paying jobs," the mining industry study said.

"If we're looking at valued-added industries downstream, we have to make sure that they are sustainable and make sense in the economic reality of doing business in Yellowknife, said Mike Vaydik, general manager of the Chamber of Mines.

"The benefits to diamond mining are tremendous and we're only just beginning," he said.

Exploration called key to long-term supply

Tony Andrews, executive director of the prospectors and developers association, said "exploration is the key to assuring the long-term supply of Canadian diamonds, which will underpin the growth of other parts of the diamond pipeline."

The study, which described Canada as a "diamond powerhouse" said that by providing the right mix of fiscal and regulatory policies, governments can ensure diamonds benefit all Canadians.

It called for governments to:

• Improve the investment climate for exploration and mining by reducing the uncertainty and complexity of Canada's regulatory environment.

• Invest in northern geoscience and infrastructure and human resource skills development and to modernize the tax system.

• Conduct a thorough economic analysis of the competitiveness and cost structure of the diamond cutting and polishing industry to properly identify the economic opportunities to develop the downstream activity.

• Avoid the use of short-term, unsustainable policies to stimulate the development of cutting and polishing.

• Eliminate the federal excise tax on jewelry.

The report said that De Beers, which is developing the Snap Lake mine, has awarded C$29.2 million in contracts, of which C$22 million went to companies partly owned by aboriginals.