22 May 2010

Resource rent tax: what happened to the nemawashi?

The Japanese have a marvellous expression, nemawashi, which refers to the processes to be undertaken in advance of any complex negotiation between powerful competing interests. Taken from bonsai cultivation, it means literally “going around the roots” and refers to the spreading and pruning of the roots that is the essential foundation of repotting the plant and shaping its future growth.

In a business or government negotiating context it refers to a process of lower level operatives sounding out in advance the positions of all the other parties, with a view to finding a position upon which it might be possible to gain consensus, before the senior leaders find themselves sitting across the table from each other. The aim is to achieve an outcome that everyone can live with, without the need for shouting, screaming, table thumping or other unseemly behaviour, without the need for bruised egos, and without giving rise to lasting enmities at the leadership level that make it hard to do business in the future. It sounds cumbersome, and might appear more time consuming, but it is actually both more efficient and more effective than launching powerful players into a doomed process which leads to a standoff, so that no one is happy.

Nowhere is the need for this more evident that in the chaotic process that has left the Government and the mining industry trading insults. How did it come to this, the national government and one of the nation’s most important industries at each other’s throats?

There are impeccably sound reasons for the Government to introduce a resource rent tax on the mining industry. The miners will not like it, because it will reduce their revenue.  That is not the issue. The issue is to design it in such a way that it has minimal effect on their investment and production decisions. We do not want them to invest elsewhere, we do not want them to defer investment, and we do not want them to cease production prematurely.

I have been around this buoy.  In 1976-77 the Fraser Government had on its agenda the pricing of domestically produced crude oil. This arose because when crude oil was discovered in Bass Strait in the mid-1960s the Esso-BHP joint venture unwisely asked the Commonwealth Government to fix the price of domestically produced crude oil. They said that the cost of production from the Bass Strait fields would be such that it would be only marginally profitable in competition with comparable imported crudes; they needed an extra few cents per barrel. The message was clear: without this assistance, Esso-BHP would sit on their discovery.  The Commonwealth agreed to use its powers under the Customs Act to require all sellers of petroleum products to uplift Australian crude in proportion to their retail sales of “white products”.

After the dust settled on the 1973-74 Middle East oil shocks, when the OAPEC (Organisation of Arab Petroleum Exporting Countries) producers placed an oil embargo on the United States and others following the Yom Kippur War, the Whitlam Government, and then the Fraser Government, and Esso-BHP were left in a position where the domestic crude oil price was about $US 2.13 per barrel and the internationally traded price was about $US 12. Because of the framework put in place at Esso-BHP’s request, the domestic price could only be raised by decision of the Commonwealth Government. 

The Government realised that it would have to move in the direction of world parity prices – which meant that over time it would be raising the price of the major input to Australian petrol and diesel to about six times its current level.

Equally, it realised that the price rise when it did occur could not be allowed to accrue as a massive windfall gain to Esso-BHP. Accordingly, it was decided that some form of super-tax would have to be levied on Bass Strait production. Critical to the design of this tax was that, while it should limit the windfall gains from known oil deposits (“old” oil) due to the oil price rise, it should not act as a deterrent to explore for oil that would be economic at the new international price level. It was also decided that it should not apply to small fields.  At the end of the day a crude oil excise was levied on “old” oil, with an exemption for the first 30 million barrels so that small onshore deposits would not get caught up in the system.

Consultations with the industry took place over several months before the design of the scheme was settled.  It was left to me as head of the Energy Policy Division of the then Department of National Resources to conduct the consultations with the Australian Petroleum Production and Exploration Association (APPEA).

It was made clear to the industry from the start that we were not there to ask them whether an additional tax was a good idea, we were there to advise them of the Government’s intentions and talk about the design of the scheme with a view to avoiding unintended consequences. Officers of other Departments attended the meetings, we duly reported back to the Government, and we had a lot of debate between Departments about the significance of what we had heard. 

We got a range of reactions.  Most of the large companies were pretty mature about it.  Some insisted that this had to be a departmental stunt that the Government didn’t know about because we now had a Liberal Government and it was in favour of free enterprise.  Some of the smaller explorers, like the American solo oilmen who had sold or  mortgaged their houses to chance their arm wildcatting for oil, could see the long dark night of socialism descending.

The point in the current context is that this was an orderly process, conducted without high drama.  The Government did not announce the policy and then have the public treated to the sight of the Prime Minister jumping into aircraft and rushing around the country to consult irate industry leaders who felt that they had been ambushed.  They were consulted, they had their say, and what they said was taken into account in designing a scheme they would have preferred not to see introduced.

So for my money the Government would have been well advised to publish the Henry Tax Review the day it was delivered to them, accompanied by a statement that this was an independent review, and the Government would consider it carefully and announce its decisions in due course after consultations with affected parties and relevant experts. 

Even better, the Government could have issued the Henry Report as a Green Paper, called for comment upon it over a period of months, then considered the responses and issued a White Paper.

Once they had decided to sit on it they were committing themselves to springing their policies fully formed upon a startled world once they did release it, a move that Sir Humphrey Appleby would undoubtedly have described as “courageous”.

Better do the nemawashi next time, Prime Minister.


Taylor said...

Brilliant piece.

Richard Green said...

Fair dinkum, when we look to Japan for hints here we may as well look to the English for cooking lessons and the Germans for humour. The mess that surrounded the Futenma air base decision is just a recent example of how even the master backroom smoozers (who have slowly joined the ranks of the DPJ over the past two decades) couldn't pave the way for an actual decision, let alone one that wouldn't cause open conflict.

For all it's faults, the "kitchen cabinet" still gave us a stimulus package that worked. Japan is still waiting 20 years later.