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Australia's Resource Super Profits Tax: Superbad or just super?



25 May 2010 09:48

During my recent travels, one topic that frequently came up in conversation was Australia's proposed new Resource Super Profits Tax (RSPT).

My first response to questions about the RSPT was usually to emphasise the following very important caveat: I'm no taxation expert.* But since this usually wasn't enough to dissuade the questioner (and to be fair, it doesn't seem to have discouraged a great many other commentators, either), I then offered a (less polished) variation on the following three points.

First, one thing that struck many of my international interlocutors was the degree of public debate over the RSPT. In particular, several seemed surprised that a proposal to claw back more tax revenue from a highly-profitable sector with a high degree of foreign ownership was proving to be so controversial with Australian voters: one poll from a week or so ago found that while 44% were in favour of the RSPT, while 47% were opposed. 

Part of this might simply reflect the relative strength and skill of the Government and the resource companies (and the opposition) in pushing their different cases to date. But I think there's more to it than that. The traction of the 'don't kill the goose that lays the golden eggs' argument suggests that, contrary to some cynical views, voters are not resolutely short-termist in their outlook, but instead are more than capable of considering the longer-term consequences of proposed policies. 

This provides some support for the finding that democracies do better at managing resource endowments than other political systems. It should also provide some comfort to those worried about sovereign risk (of which more below) and resource nationalism. Finally on this point, the fact that Australian voters now have significant portfolio exposures to the resource sector through their superannuation arrangements is of course another important part of their overall calculations.

A second point worth making is that there is a good case to be made for changing the existing resource taxation arrangements. This case is set out quite clearly in the Henry Review. Since the start of the current commodity price boom, the share of existing resource taxes and royalties as a share of pre-tax resource profits has fallen sharply: 

The problem is that the output-based royalties now in use collect a smaller share of the returns to resources when profitability is high (they also take a greater share of the returns when profitability is low or negative). Since most forecasters expect prolonged high commodity prices, the prevailing system means Australia is likely to end up under-pricing its resources for some time. 

The broad thrust of a policy along the lines of the RSPT looks to be a fairly sensible way of dealing with this challenge, although as both Ross Garnaut and (rather more critically) Henry Ergas have pointed out, the devil is, as always, very much in the details.

My third and final general point relates to sovereign risk. At its crudest, this argument almost seems to boil down to the proposition that any change to existing arrangements that would be adverse to corporate interests represents an unacceptable increase in sovereign risk. Put in these stark terms, the argument is obviously nonsense: it would preclude any adjustment, no matter how merited or efficient. 

The more subtle and relevant argument is a cost-benefit one: do the estimated benefits from a proposed change to existing arrangements outweigh the cost that will accrue from any consequent increase in investor uncertainty in the form of a higher risk premium on investing in Australian assets?  This is an important issue, but it's a much more nuanced question than some of the sweeping appeals to sovereign risk would seem to allow for.

More fundamentally, however, I think that in some significant ways the sovereign risk argument is now almost a dead issue. That's because a key component of sovereign risk here relates to the uncertainty of future government actions: investors will want to be compensated via a risk premium for the possibility that a government will adversely alter existing contracts or arrangements in future. 

But that cat is already out of the bag. Even if the current Government were to completely axe the RSPT and default back to the prevailing regime, the fundamental shortcomings of that regime, and the fact that one Australian government has already tried to amend it, means investors can no longer be confident of its longevity. Change now looks inevitable. (Indeed, that is one of the fundamental problems with a royalties-based system more generally – the almost irresistible temptation to tinker with the rate during boom times.) 

So now that the cat has been set free, we will have to agree on a new regime that confers a sufficient degree of investor certainty going forward that the old arrangements are no longer able to provide.

One area where sovereign risk is still up for grabs, however, is in the taxation rate to be applied. As this FT piece makes clear, other resource-rich economies are watching the Australian experience very closely. For the resource companies, the risk is that a significantly higher Australian tax take will provide a strong demonstration effect to these countries, and encourage them to follow. For Australia, the risk is that a rate too out of line with other regimes will see Canberra lose some investment to overseas alternatives (although note that the FT piece cites Goldman Sachs' judgment that, even at 40%, the tax would not be high enough to supersede geology as the decisive factor in whether or not to invest).

*If you want some good analysis from someone who actually does know rather a lot about these issues, you should take a look at this speech by Ross Garnaut who, quite literally, wrote the book on how to tax resource rents.

Photo by Flickr user Alberto OG, used under a Creative Commons license.

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