The states push back

In a recent post about the Budget I mentioned that Treasury has previously over estimated the taxation take for the federal government and therefore seem to be underestimating the pressure that large amounts of private sector debt is exerting on the economy under the current fiscal and monetary settings. This led me to make the following statement about the flow-on effects of the Federal government aiming for surplus in such an environment.

… the problem however is that there are major flow-on effects from this forecast success. The natural disasters in Queensland, NSW and Victoria have led to significant budget issues for the State governments. On top of that we have the slow down in housing sales which again adds to the state’s woes. Victoria has been served a double whammy in regards to this but they are not alone. In my own State of Queensland I am aware that government departments have been asked to find significant savings ( 15% + ) in next year’s budget. I suspect this will mean large falls in corporate expenditure.
Of any of the states you would hope that Western Australia would be one that had the ability to stand on its own two feet in the future given its attachments to the mining industry and its good fortune. But from yesterday’s Western Australian state budget you would have to assume that this is not the case. The WA government has set itself up for a war with the Feds.

Western Australia has threatened to blow a hole in Wayne Swan’s predicted budget surplus after announcing it would raise iron ore royalties by $2 billion over three years. The move could prove to be a major headache for Mr Swan, who has promised major iron ore producers that any future royalty increases would be rebated as part of the Mineral Resource Rent Tax from next July.

Delivering a budget which also included $600m for social services, Treasurer Christian Porter said he had acted in response to WA’s “rapid and massive” decline in GST share. Starting from 2012-13, royalty rates on iron fines would be increased from the current 5.625 per cent to the 7.5 per cent iron ore lump rate to remove an historical anomaly.

Mr Porter said he had written to Mr Swan to tell him of the state’s decision.

“You can expect that of that figure of ($2bn), most of it is going to apply to very profitable resource companies so that will no doubt cause some rethinking by the federal government in respect to their budget because they have promised to rebate that money to iron ore companies,” Mr Porter said.

He acknowledged there was a possibility the commonwealth would carry out its threat to penalise states which increased their royalties but WA had no choice. He said the redistribution of GST, where the state currently receives 68c in the dollar, was grossly unfair, as the review of the tax, led by former NSW Premier Nick Greiner, demonstrated. Mr Porter said in a worst case scenario, current estimates were that WA’s share of GST would fall to a “previously unthinkable” low of 33 per cent by 2014-15, potentially costing the state $12.3bn.

“I don’t think (Mr Swan) will be well pleased,” he said. “And it will cause a difficulty for his budget but we have a $12.3bn difficulty in our budget and we are forced to go and find additional revenue sources because the system the commonwealth government manages is pointing to a catastrophic result for our state. This is the fight of this government and this state’s political life, make no mistake about it.”

I mentioned last week that WA’s housing transactions have fallen significantly this year, and seem likely to stay that way for some time yet. Although the revenue from housing is smaller in size than that of mining, these falls would only be exacerbating the revenue issue. Although the WA budget has delivered a surplus this year, on the back of significant utility charge increases I might add, it must be noted that their predicted falling revenue and current projected spending has them on course to have net debt of $20 billion by 2013-14. Interestingly however this figure is based on some politically motivated WA treasury assumptions.
The state government’s annual budget has projected a blow-out in state debt to more than $22 billion over the next four years but is based on revenue estimates that treasurer Christian Porter admits are not realistic.

The budget shows the state government will keep its “net operating balance” in surplus over the next four years, starting with $784 million in 2010-11 and $442 million in 2011-12. However an increase in government borrowing to fund its capital works program will lead to state debt rising from $13.4 billion in the current financial year to $22.4 billion in 2014-15.

A key estimate underlying the projections is that WA’s GST relativity will fall progressively from 68 per cent this financial year to 33 per cent by 2014-15; i.e. WA will get back just 33 cents for every dollar of GST collected in the state.

“It is certainly a worst-case scenario, I don’t expect it will happen,” Mr Porter told a media briefing today. Asked why the government and its treasury advisers did not adopt a “likely” scenario, he said “we tried to do what was best practice, fair and proper”.

Mr Porter said “there is no bigger issue” than improving the distribution of GST revenue, which is the subject of a major national review.

Rubbery figures or not, the issue for the federal government is that this push back is coming from a state that is supposedly the beneficiary of the “new” economy. If this is the budgetary response from a mining state you seriously have to question what New South Wales and Victoria are going to come up with, and how the Federal government is handle its surplus targeting in response.
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Comments

  1. Completely agree DE. From my experience the State and local governments are mostly broke – look at the Queensland provatisation binge of the past two years. And with stamp duty revenue collapsing, I see a lot of heat coming Swan’s way from the States.

  2. The Federal Government effectively signed a blank cheque in terms of royalty reimbursement to the miners as part of the MRRT. The Federal Government underestimated the significance of this. Those in the industry did not. Constitutionally royalties are the province of the States, the Federal Government cannot touch them, nor impose them – instead has compensated miners for them. Potentially to an infinite level!! The architects of this (and the RSPT) to my mind, were incompetent.

    This $2b hit to the Federal bottom line was always on the cards – Western Australia receives the lowest level of compensation return from the GST – this is well understood in this State and something both sides of politics may play of.

    Swan is indicating that GST revenue reimbursement to WA will be decreased by an equivalent amount. And so the game begins. It will be interesting to watch – only three Labor Members from WA (and last election Gary Gray was almost in tears about the RSPT – he didn’t want it). The Labor opposition is close to unelectable, if the Federal Government proceeds a programme of excessive withdrawal of revenues to this State, it will be unelectable, fullstop.

    As I mentioned earlier, the incompetence of some of our leaders, knows no limits.

    • It’s funny how Western Australia forgets all the years that the other states propped it up. Now that it’s their turn to do the propping they don’t want to do it.

  3. So with the deleveraging
    Household expenditure drop
    Business expenditure drop
    And now
    Government expenditure is going on diet

    Is there a god fairy to help the GDP ?

  4. The whole state/ Fed funding is totally flawed. One interesting future aspect for NSW is the current governments intention to cut expenditure as well as encourage local councils to borrow. We need a total reorganisation of both state and local governments. Something that was cobbled together at Tenterfield in 1894 and bastardised since, particular post WW2 needs a complete review at both a political and economic level to help make us more competitive.

  5. Alex Heyworth

    Perhaps this will be the trigger that will finally force a proper review of our tax system. We cannot continue relying on heavily cyclical tax sources like stamp duty, CGT and company tax. Every time there is a downturn this hugely exacerbates fiscal difficulties for all levels of government. The federal government’s response to the Henry review (which picked up the RSPT, a tax that compounded the cyclicality problem) was woeful. Time to bite the bullet and raise the GST to 20%. Get rid of a few anti-employment taxes such as payroll tax. Forget about increasing the superannuation levy (again, adds to cost of employing labour). Take up Ken Henry’s idea of a $25k income tax threshold. Get rid of stamp duty and institute a land tax.

    Well, that’s my solution, anyway. Any other suggestions?

    • You’ve pretty much hit it Alex.

      Tax consumption and (ill-gotten) capital gains heavily (use a holding period sliding scale).

      Rent out resources and abolish state royalties.

      Leave income alone, and get rid of payroll tax. Tax on labour – i.e real work – is ridiculous.

      Get rid of taxes on any savings – including superannuation (but only for savings/bonds/term deposits/rent etc – not shares or property capital gains – leave them at 15% plus)

      Get rid of transaction based taxes (because they encourage transactions and discourage worker mobility) like property, car and other stamp duties.

      Get rid of FBT – its a senseless tax. Just use a higher MTR.

      Its not rocket surgery. You need to encourage savings and investment in productive resources and discourage consumption and speculation.

      In this country we punish the former and reward the latter.

      • Would take an absolute majority in both houses of Parliament followed by a referendum in the affirmative to enable changes to the Constitution to remove States rights to mineral royalties. A not insignificant hurdle.

        Removal of any taxes derived by State Government (property, stamp, motor etc) will require compensating Federal Government revenues.

        Generally, I agree that the taxation system requires genuine overhaul preferably in conjunction with genuine overhaul in the welfare system. One feeds the other.

        Can you think of a country that has a close to ideal taxation system? Do you support the imposition of new taxes, like the carbon tax?

        • “Generally, I agree that the taxation system requires genuine overhaul preferably in conjunction with genuine overhaul in the welfare system. One feeds the other.”

          There is a 3rd element to this, and that is income distribution.

        • There’s no reason why individual states couldn’t improve their tax systems though. WA could certainly replace the mineral royalty system with mineral resource rents, regardless of what the Commonwealth does. Likewise any state could get rid of stamp duty and replace it by broadening their land tax base.

          In fact making changes at the state level is probably ideal, as it creates an experiment of sorts to allow the effect of different taxation systems to be compared.

  6. This is likely to result in a faster decline in GST returned to WA, which will balance out some of the cost to the federal government. Other states aren’t in the same position as WA and are unlikely to try the same thing, especially if it results in lower GST revenue. (Although if every state does it, that effect will balance out, because the government can’t cut GST revenue to all states at once.)

    More to the point, this shows up just how unimportant mining actually is. WA has had a recession recently, and real estate prices are falling – which suggests that even in Perth economic growth was driven by property prices, and not mining revenue.

    • Alex Heyworth

      “This is likely to result in a faster decline in GST returned to WA, which will balance out some of the cost to the federal government.”

      Except it doesn’t. All the GST revenue goes to the states. It just means more GST would go to other states.

      It could be balanced out in other Commonwealth payments to WA, though.

  7. I got to say this doesnt suprise me. The Feds are to busy living the lime light about how great Ausrtralia is to the world. The trust is starting to come out. Things will turn sour when the media does and I believe that is only weeks away before that happens. How much has the bad news been picking up about Australia. The sad thing is the govt will continue to try and live the lime light until its to late.

  8. “The trust is starting to come out.”

    Gees I am typing bad today

    The truth is starting to come out

  9. “More to the point, this shows up just how unimportant mining actually is. WA has had a recession recently, and real estate prices are falling – which suggests that even in Perth economic growth was driven by property prices, and not mining revenue.”

    Yes, this was my impression as well.

    DE, you say that mining revenue is more important to the WA government than taxes on property transactions. I had heard that revenue from property made up around half of WA government revenue. Have I heard wrongly?

    I can’t help but notice that mining is running white-hot but the premier mining state has been (or perhaps still is – I haven’t heard) in recession. During the biggest mining boom we’ve had. And the national economy is pretty weak as well.

    Housing surely injects far more into the domestic economy, both at state and national level than does mining.

    • “Housing surely injects far more into the domestic economy, both at state and national level than does mining.”

      Well it has been, it doesn’t mean it’s a good thing though.

      The best message we can send is that it is time to embrace the recessionary impact the current economy is having on the housing market.

      There are to many gamers and price gougers in the real estate market, and it is imposssible to get them all to simultaneiously agree to a reduction in (extraordinary) profits and remuneration.

      If they could all simultaneiously agree, it’d be a better outcome, but alas, change will only come through a destruction of their market. A recession will do this.

    • >DE, you say that mining revenue is more important to the WA government than taxes on property transactions. I had heard that revenue from property made up around half of WA government revenue. Have I heard wrongly?

      No I think you will find that is wrong.. You can check out the break down of income on page 5 of this document.

      http://www.dtf.wa.gov.au/cms/uploadedFiles/State_Budget/Budget_2011_12/2011-12_fact%20sheets_complete_budget_fact_sheets_set.pdf

      It may be that housing is over half of the taxation revenue but that is still smaller than mining royalties and other federal funds.

  10. Australia could imitate the Swiss, its not perfect, but if a country with no coastline,no major amounts of natural resources, can boast the highest level of wealth per person in the world, have effective control of the third largest resource company (xstrata) and the world largest food processing company(nestle)and are smart enough to stay out of the countries wars,and besides have a very democratic system in place. They must be doing something right, there is a waiting list of 10 million people trying to live there, which is more than the current population.

    • What the swiss have is the main train and road thoroughfares through Europe. And the ability to block them.

      If you want to go to Germany from Italy (or vice versa), or east to west, most of the land routes run through Swiss passes at some point.

      Without this geographic resource and the fact that a significant portion of the male population were very very effective fighters Australia cannot hope to replicate Switzerland’s success.

    • Switzerland’s main success has been through the use of competition between the cantons, and a very hard work ethic.

      Combined with sound monetary conditions, strong regulations – but relatively low taxes (its as expensive as Australia to live/eat, but much better quality all round – especially the chocolate!) and excellent business environment.

      Low cost defence force also helps – like Australia, Switzerland has a third (fourth) branch of the armed forces surrounding her.

  11. The entire mining tax/royalty dispute boils down to ‘regionalism’. The Western Australian government does not want the proceeds from mining to be shared with the other states, and the Federal government will bash it into submission.

    • Mineral royalties are (and always have been) the ‘property’ of the States – it is political game playing. Proceeds from mining in the form of tax revenues are part of the national income. The WA Government (and a big segment of the population) have long felt unfairly treated in terms of GST revenue returns, the lowest rate in the country. In addition, the Federal Government won no friends in WA by not including State Governments in the formulation of the initial RSPT (it may not have been such a botch).

      Whether or not the federal government will ‘bash it into submission’ remains to be seen – the WA Government can increase royalties with the knowledge that the Federal Government (under the agreement it drew up) has guaranteed to reimburse royalties. This will have an effect on the budget bottom line, certainly on the prospect of budget surpluses. There’s an election in a year or so…and they won’t win any new seats in WA…may even lose a couple.

      • WA will now lose money from the GST and the infrastructure fund, and will end up with less money overall. As to being ‘unfairly treated’ in terms of GST revenue return, WA joins SA, NSW, VIC, QLD and Tasmania on the list. EVERYONE will say they’re being treated ‘unfairly’ so they can ask for more. The entire idea that money should be collected Federally and then handed out to the State to spent is problematic in itself.

        In regard to tax revenue, the large mining companies are hardly paying any tax on their profit, which is why we needed a resource rent tax in the first place.

        • You may be right. Barnett is no fool and I would be surprised if various scenarios had not been considered.

  12. Would love to see Karratha and the Pilbara secede from Western Australia and say we aren’t going to pay your royalties for housing that costs 900k for a decent home

  13. Sandgroper Sceptic

    Feds need to be careful. STates on the periphery from the centre of power are always more likely to have separatist leanings. WA getting 68c in the $ for each $ of GST generated in the state is way too low. Our state is huge in area and has massive infrastructure needs, especially to keep that mining engine humming along. There are reports that the new mining tax will strip out in excess of $20bn from WA and we are proimised $2bn back. That does not go over well.

    Whilst the property market here is dire, the WA state government has bizarrely assumed overoptimistic projections for their stamp duty revenues check this quote from the budget papers:

    “The established housing market is expected to gradually improve in 2011-12 and across the forward estimates period. House prices in Perth are forecast to grow by 2.3% in 2011-12 (following an estimated decrease of 2.4% in 2010-11), while the volume of house sales is expected to increase from current low levels. House price growth is
    forecast to accelerate in the outyears, supported by rising incomes and stronger household balance sheets.”

    That ain’t going to happen! So things will get much worse on this score and this GST fight is only just beginning.

    • >“The established housing market is expected to gradually improve in 2011-12 and across the forward estimates period. House prices in Perth are forecast to grow by 2.3% in 2011-12 (following an estimated decrease of 2.4% in 2010-11), while the volume of house sales is expected to increase from current low levels. House price growth is
      forecast to accelerate in the outyears, supported by rising incomes and stronger household balance sheets.”

      I noticed that too.. It fits with my housing delusion piece from the other day.

      http://macrobusiness.com.au/2011/05/wa’s-housing-delusion/

      I just can’t work out where these treasury people live, it sounds like a wonderful place.

      House prices in perth are down 6.4% YoY according to RPData and losses are accelerating.

  14. Sandgroper Sceptic

    Here are the WA budget revenue projections for transfer duty (stamp)

    Transfer duty
    2009/2010 1,552 (actual)
    2010/2011 1,167
    2011/2012 1,345 (15.25% increase YoY!?)
    2012/2013 1,618
    2013/2014 1,782

    Taken from Budget paper No3 page 76. As noted in their discussion it is affected by movements in very large commercial transactions but they are also going to be under the pump if the cycle really turns. Some prominent property developers are already in discussions/legal disputes with banks (eg Saraceni and his Raine Square development is getting a lot of local press).

    Land tax is getting a nice 6.4% bump in 2011/2012 which seems ominous for rateable values.

    Property taxes represent 32.6% of total taxation revenue for 2011/2012 so they remain a very important source of revenue.

    • Sandgroper Sceptic

      Note mining royalty income for 2011/2012 is forecast at $4.79bn so is much more important than property taxes. Of that $4.14bn is iron ore royalties so you can see why they are so crucial. Iron ore royalties have gone from $1.8bn in 2009/2010 to $3.59bn in 2010/2011 to $4.79bn in 2011/2012.

      • Sandgroper Sceptic

        I’ve had lunch with a couple of attendees at the Budget Breakfast, and by all accounts, a very good breakfast it was. The mood was buoyant and good spirited, Barnett and Porter in fine form. Barnett’s comments “It’s raining, I’m happy, you’re happy, Swan is unhappy” received a very warm response and much laughter. By all accounts, the mood was almost “bring it on” in regard to Swan and Gillard (who are treated with total disdain). If your only source of news is the ABC, particularly in eastern states, the whole current of WA feeling will be ignored.

        Fact of it is, the bulk of the increase in royalties will be obtained via the removal of the concession on fines which was put in place in the 60’s. The Federal Government has treated the WA State Government with a degree of contempt and cannot justify the poor return on GST revenue. WA Government has simply done what any other State Government has the right to do in regard to mineral royalties – Queensland, New South Wales, and South Australia could all, theoretically, follow suite.

        Journalist’s have claimed Labor have said the flow-on to WA from the MRRT would not be as planned because of this royalty move, but I thought MRRT was for infrastructure purposes and as you say, this is a big State with substantial infrastructure requirements, both for its domestic population and to support the resources sector. Don’t know if they’ll be able to do it.

        Poorly structured agreement, undesired outcome. We will have to watch the saga unfold.