* Bill seen doubling mining royalty to 4 percent
* Govt. expected to set up new mining regulator
* Some future rights likely to be sold at auction
By Jeb Blount
RIO DE JANEIRO, June 17 (Reuters) - Brazil, the world's second-largest producer of iron ore and a major producer of key metals, plans to unveil a bill overhauling its 46-year-old mining law on Tuesday in President Dilma Rousseff's latest effort to tighten state control of natural resources.
The bill will also test the government's efforts to reduce tensions with investors, many of whom believe Rousseff's economic polices are erratic and her attitude toward business "heavy handed".
Her previous reforms of the oil and electricity industries, designed when she was chief of staff to her predecessor and implemented during her presidency, have triggered a surge in costs and a decline in revenue in those industries, causihg share prices to fall.
In addition to iron ore, Brazil is also a major producer of copper, gold, bauxite, nickel and manganese.
The mining industry also faces a slowdown as growth eases in China, the main mineral and metals markets. When the bill was first proposed in 2009, the industry was in one of its most prosperous periods ever, despite the impact of the U.S. real estate and banking crisis.
While the bill is expected to saddle mining companies with new taxes and regulations, companies like Brazil's Vale SA , the world's No 2 mining company, Canada's Yamana Gold Inc., and Norway's Norsk Hydro ASA could see a smaller impact than many feared when the legislation was first proposed in 2009.
"The overarching concern here is that the government is facing a crisis of confidence in the business community," said Christopher Garman, Latin America director with Eurasia Group, a political risk advisory. "That crisis is forcing them to moderate. Because of it, while the bill is largely a negative for the industry, it's probably going to be less of a negative than expected."
The government's slow, four-year gestation of the bill may also turn out to be a blessing in disguise, he added.
"If the industry was still growing robustly the pressure to raise taxes and regulation would have been stronger," he said.
The bill is expected to double royalties on mineral output to 4 percent and tighten rules for owners of mining claims, forcing them to explore and develop their areas or lose their rights.
The bill will also create a mining agency to regulate the industry and a system of mineral-rights auctions, similar to those used for oil and gas, to speed development of large mineral reserves and resources considered "strategic", such as potash, an essential fertilizer.
Brazil, the world's largest producer of beef, chicken, coffee, sugar and orange juice and No. 2 soybean exporter, must import 90 percent of its potash needs even though it has some of the world's largest deposits of the mineral.
Despite new costs and rules, most in the industry agree the existing 1967 code needs revision. In anticipation of the bill, the government stopped issuing nearly all mining permits more than a year ago, putting the industry's future in doubt.
"Tomorrow (Tuesday) we'll finally know the rules and have clarity on how the industry will develop," said Marcelo Tunes, director of Brazil's National Mining Association or Ibram. "In any case, the unblocking of the industry has begun."
Because all Brazilian subsurface mineral rights belong to the federal government and owners of the surface property have no direct say in their development, the government is the only arbiter of who can exploit those resources.
Currently mining concessions are granted on a first-come-first-served basis and holders of concessions are under no obligation to develop them.
In some more extreme cases, individuals and families have snapped up key rights to iron ore and other minerals and sat on them for decades, passing them onto their offspring as assets with little thought as to how or when they will be developed.
Mines and Energy Minister Edison Lobao has long decried such practices and has vowed to end them.
But if "use-it-or-lose-it" provisions pass they could lead to years of legal challenges. Brazil's constitution strictly prohibits laws that reduce or eliminate existing rights.
As for the bill's royalties provisions, they threaten to deepen fresh, political wounds from the country's unfinished debate over offshore oil and gas royalties. Brazil's 2010 oil reform took away royalties from producing states that may try to claw them back in the mining bill.
The stakes, though, are lower. Oil royalties earned Brazil 26 billion reais ($12 billion) in 2012. A doubling of mining royalties will only add about 4 billion reais to government coffers, Garman said.