Saturday, May 29, 2010

Major miners generally selfish

In the Rudd government's battle to make the mining companies pay a more reasonable price for their use of the nation's non-renewable resources, any number of dubious arguments are being thrown around.

One is the furious debate over how much company tax the miners pay. Another is the claim it was the mining industry that saved Australia from recession. The first is a red herring; the second is the opposite of the truth.

As you may have seen from the Minerals Council's full-page ads, the government has produced figures from a range of sources showing the mining industry's effective rate of tax is somewhere between 13 per cent and 27 per cent of its profits.

But the industry has produced figures from a different source that say its effective rate of tax is 41 per cent.

What are we to make of this? The figures differ because they're from different years and come from different sources using differing definitions of "tax" and "profits". If you've never before seen the same animal measured in different ways, welcome to the complexity of the real world.

The point to note is that most of these figures add together two things under the heading of "tax": the company tax the miners pay plus the royalties and other resource charges they pay.

One small problem: how much company tax the miners pay is little more than a debating point. The real issue is how much they're paying in royalties.

All companies have to pay tax on their taxable income at the rate of 30 per cent. If the amount of company tax they pay comes to a smaller percentage of their published accounting profit - as it almost always does - the explanation is that the taxman is giving them more concessional tax deductions than they use when preparing their published accounts. (It shouldn't surprise you that many companies aim to minimise their taxable income while maximising their accounting profit.)

The miners' "effective" company tax rate will usually be a lot lower than 30 per cent - and a lot lower than paid by many other industries - because mining is so capital-intensive and because the government gives them generous rates of depreciation on their equipment and structures.

So there are good reasons for miners' effective rates of company tax to be low. Is this relevant to the debate about the resource super-profits tax? Not really - unless your purpose is to bamboozle people who aren't accountants.

What is relevant is to understand that when you add company tax to royalties you're adding apples to oranges. Why? Because, although royalty payments for the use of minerals are labelled as taxes, they're not really taxes.

A tax is a payment you make to government for which you get nothing specific in return. Mineral royalties are payments miners make to government for which they get the right to take the Crown's minerals out of the ground and sell them to their customers.

Often, royalties are set at the rate of

$X per tonne. The more tonnes you take, the more you pay. So royalties are cost of production.

The rationale for the misleadingly named resource super-profits tax is that it will replace the present mineral royalties charged by state governments, which are both unfair and inefficient. They're unfair because the owners of the minerals - you and me - are getting a price for them that's now much lower than they're worth.

They're inefficient because they make no distinction between mines with high extraction costs and those with low costs, meaning they discourage mining activity that would otherwise occur.

The beauty of the new resource tax is that it charges miners for the minerals they use on the basis of the profit they're making. When world commodity prices are high the charge will be high; when world prices are low the charge will be low. And mines with high extraction costs will pay less than those with low costs. This will do much less to discourage mining.

So in demonstrating the case for a new way of charging for our minerals, it is relevant to look at how royalties have changed relative to profits since the start of the resources boom.

Figures prepared by Treasury show that over the five years to 2003-04, royalty payments averaged 32 per cent of profits. By 2008-09, however, this had slipped to 14 per cent. Using the source preferred by the Minerals Council, its figures imply the miners' royalty payments in 2007-08 were 13.5 per cent of profits - little different.

Clearly, as world prices rose the increase in royalty payments fell far short of the increase in profits. The miners received a windfall, but this wasn't shared with the owners of the resources now so much more valuable.

In BHP Billiton's full-page ad it claims the strength of our resources sector "was a key factor in keeping Australia out of recession". It offered no figures in support of this claim, so let's look at a few.

The mining industry accounts for less than 7 per cent of gross domestic product and, because it is so capital-intensive, only 1.6 per cent of our total employment. So for such a small part of the economy to have saved us its performance would need to have been miraculous.

In fact, mining contracted more than most. After peaking in the December quarter of 2008, its new capital expenditure fell in each quarter of 2009, taking the total fall over the year to almost 13 per cent.

Over the year to last September, employment in the mining industry fell by 5.6 per cent. Employment in the related heavy and civil engineering construction industry fell by 7.6 per cent. Over the same period, total employment in Australia fell by only 0.3 per cent.

In the first six months of 2009, the mining industry shed more than 27,000 workers. Had all industries behaved the same way (and assuming no fall in the rate of participation in the labour force) the unemployment rate would have increased from 4.6 per cent to 19 per cent in just six months.

This huge volatility in the mining industry - its vulnerability to swings in world commodity prices - demonstrates why, taken overall, the industry would be much better off under the more flexible royalty arrangements offered by the resource super-profits tax.

Right now, however, the tax would take a big bite out of the profits of the established mining giants, particularly BHP Billiton and Rio Tinto. That's why we're hearing so much nonsense from them.