April 18, 2017
Silence can be golden. It can also be very revealing.
There is a loud campaign demanding new taxes on Australia’s oil and gas industry, focused on the alleged failings of the Commonwealth’s Petroleum Resource Rent Tax.
The campaign peddles a colourful story about big companies behaving badly.
But the activists are silent on the impact of new taxes on local jobs and energy prices.
It may seem rude to ask but a credible case for increasing taxes must assess whether changes help or hurt economic growth. By definition, tax increases will deliver more revenue but at what cost?
It is also bizarre that we should see a campaign pushing to raise billions in new taxes from gas producers at a time when the national conversation is about finding ways to reduce rising gas prices.
Let’s stress test the case for change.
The heart of the critics’ argument is the claim that the PRRT has failed because revenue has dropped in recent years. At first, activists argued for wholesale changes to the PRRT. Now, the call is for new taxes on top of the PRRT.
There is an obvious explanation for the fall in PRRT revenue – the commodity price cycle. As a tax on industry profits, PRRT revenue is tied to global prices. Two years ago, the oil price halved, dragging down gas prices and industry profits. Profits-based taxes will raise less revenue when profits are low (or don’t exist).
Activists insist there is something sinister happening because the industry has invested $200 billion in LNG projects but is not paying more PRRT. Their claim confuses costs with revenue. The $200 billion invested in new projects will not produce a dollar in profits for a decade or more. Again, a profits-based tax only applies to profits.
Critics also express outrage that the industry has accumulated $238 billion in deductions for exploration, development and production costs. The figure is true but misleading. Almost half of these deductions relate to the extension of the PRRT to onshore projects and the North West Shelf project in 2012. The then Labor government decided, correctly, against retrospective double taxation of existing onshore projects – these deductions are unlikely to be claimed.
Missing from the activists’ stories is the fact that the PRRT is only one of the taxes paid by gas producers. It is misleading, to say the least, to present the PRRT as the sole benchmark for taxes paid by the industry. In 2014-15, despite recording a net loss of $600 million, the oil and gas industry paid more than $5 billion in taxes.
It is also misleading to suggest that all projects should pay the PRRT at all times. The PRRT is a super-profits tax. The PRRT imposes the highest tax rate in Australia – 58 cents in the dollar when combined with company tax – but only when projects are profitable.
Finally, critics have ducked the most important question of all – what would be the impact of higher taxes on energy prices, investment and jobs?
It is obvious that any tax increase – let alone the billions sought by activists – must flow through to higher gas prices. Higher energy costs are in no one’s interest.
The impact on investment and jobs would be equally damaging. The activists’ criticisms of the PRRT ignore the reasons why federal governments have used a super profits tax for thirty years.
The PRRT is complex, but its premise is simple. Royalties are a crude way to raise revenue from long-lived resource projects. High upfront taxes add to the cost of projects, discouraging investment in Australia. During price slumps, high royalties will force the closure of marginal projects.
The clever alternative is to tax profits rather than output. Applying a high rate of tax when projects become profitable is far less likely to deter investment. It will also maximise revenue over the life of the project.
After thirty years, the PRRT should be seen for what it is – an unusually sophisticated tax which has succeeded in attracting investment and is delivering, despite the volatility of the commodity cycle, a good return on Australia’s natural gas resources.
Energy policy is complex. If the priority is to deliver affordable and reliable energy, it is difficult to see how this can be achieved by making energy production more expensive and less attractive to new investors.
This blog post was first published in The Australian Financial Review on 19 April.