After disastrous monetary policy caused Vale (VALE 3.42%) to abandon its $6 billion potash project in Argentina last year, the mining giant looked to its Brazilian Carnalita potash mine to make up some of the lost volume. The country itself is hoping the operation can help alleviate some of its import demands for the fertilizer component as it currently imports 90% of its potash needs from Russia, Canada, and the Middle East. Carnalita is expected to meet some15% to 20% of the demand.

Potash operations. Source: Vale.

However, two local municipalities greedily eyeing the tax revenues the project will throw off may very well doom the project as Vale now considers selling the mine if a resolution can't be reached.

A tale of two cities
Carnalita straddles the towns of Capela and Japaratuba in the state of Sergipe, and the location of a processing plant has set the two municipalities against one another. The vast majority of the potash deposit, around 70% of it, lays in Capela, but Vale wants to locate the plant in Japaratuba because of "technical criteria," according to an emailed statement from the miner to The Wall Street Journal. If the plant was located on the other side of the border, it's estimated Capela would receive in excess of $80 million in tax revenue, a fivefold increase of its current budget .

Vale is willing to toss the municipality a bone by locating a distribution center in the town, and sell the output from the Capela mine from there, thus giving it sales tax revenues, but that's not enough for the politicians who want more.

The seeds of dissent
As the world's largest coffee, ethanol, orange juice, and sugar producer, Brazil's farms place heavy demand on global fertilizer producers. Vale was looking to replace lost Rio Colorado volume with 2 million tonnes of potash production annually from Carnalita and an additional 3 million to 5 million tonnes annually from its Kronau project in Saskatchewan.

The potash industry was thrown into confusion last year when the Belarusian cartel split apart causing the price of the fertilizer ingredient -- and the producers themselves -- to crater. However, there's been some stabilization in the market as China set a floor of $305 per tonne and Uralkali, one-half of the cartel, seeking a $40 increase to $350 for granular prices for Brazil beginning in March. Many analysts also suspect the cartel will get back together, possibly as early as this year.

Canpotex, the cartel's rival North American potash marketing association, comprised of Mosaic (MOS -1.33%), PotashCorp (POT), and Agrium (NYSE: AGU), is a major supplier of potash to Brazil, with some analysts estimating it owns 38% of the market. In years past, Latin America -- primarily the Brazilian market -- has comprised as much as 26% of Canpotex's potash sales.

Fertile fields
Carnalita could be producing by 2017 if the miner reaches an agreement with the municipalities, with the first phase being a $2 billion start-up to produce 1.2 million tonnes annually, followed by an additional second $2 billion phase that raises production to 2.4 million tonnes a year.

That Vale is willing to walk away from yet another project and shed its interest in it shows the level of frustration being experienced. Certainly, it's also part negotiating tactic, since the Brazilian government places just as much importance on the project as the miner does. It just approved low-cost financing to Verde Potash, a Canadian-traded producer, to build a mine in Brazil's Minas Gerais state. Even so, the money-hungry politicos shouldn't dismiss Vale's determination out of hand as it has shown resolve in similar situations before.