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Oct 25, 2012

Forget business tax cuts, focus on electricity reform

While attempts to wangle a cut to business tax rates fail, there's more to gain from repairing our energy regulation framework instead, write Bernard Keane and Glenn Dyer.

The failure of the Business Tax Working Group to recommend a revenue-neutral way to lower the corporate tax rate hasn’t surprised too many people: it was always going to be hard to identify a way to broaden the tax base sufficiently in a way that ensured a small number of losers and sufficient winners. But another reason why the working group threw the towel in is worth noting:

“The economic benefits from a reduction in the company tax rate from the current rate are likely to be smaller than when the rate was much higher in the 1980s and 1990s, notwithstanding that capital may have become more mobile since then. The working group considers that a cut of two to three percentage points would be required to drive a significant investment response.”

That is, the benefits of a corporate tax cut, supposedly necessary because Australia has one of the highest corporate tax rates in the developed world, might have been overhyped.

A 2% cut in the corporate tax rate would, if not offset by base-broadening measures, cost $2-3 billion a year, according to the government’s figures given when the Coalition and the Greens blocked Labor’s tax cut. Treasury modelling for the working group suggests a 1% cut in company tax not offset by base-broadening would increase both GDP and real wages by 0.2% — but over an extended period, between seven and 20 years. That’s worth around $3 billion of GDP currently.

While the working group was throwing its hands up, Rod Sims of the Australian Competition and Consumer Commission was making a not unrelated point: that Australians, including business, were paying $3 billion too much for electricity courtesy of the flaws in the way we regulate electricity pricing.

While most of the media focus is on the consumer impacts of electricity price rises, business suffer much worse, because electricity is, for many businesses and especially manufacturers and retailers, a far higher component of their costs than electricity is in household budgets. But consumer costs are also significant because they feed into inflation, potentially limiting the RBA’s capacity to reduce interest rates, as we again saw in the September quarter CPI which revealed electricity prices rose 15% (and gas and other household fuels were up more than 11%).

Some of this was due to the carbon price, but economists suggested the carbon price contributed around 0.4% to the CPI in the quarter (remember Treasury estimated a 0.7% impact on the CPI from the tax), meaning that other cost rises, such as vegetables and fruit (more than 10%), played a big part, as well as the impact of power charges and costs.

Sims is only the latest in a succession of independent authorities to identify the huge cost of a flawed regulatory model for electricity pricing that allows power companies to use investment to game the system to gouge consumers. Ross Garnaut was the first prominent figure to call for a fundamental overhaul of electricity regulation when he updated his climate change reports in 2011 and identified market, government ownership of power companies and regulatory flaws as a key reason behind rising power bills.

The Australian Energy Regulator itself argued it lacked the power to prevent companies from overcharging. The Productivity Commissions’ draft report on electricity regulation last week showed how a more efficient, better regulated electricity network could “potentially save billions of dollars”. Now Sims has quantified how much.

Poor regulation of power, gas and water in this country and the seemingly cost-plus way of handing out price increases (it’s not as simple as that, but seems that way), with little attempt to wring offsetting benefits from the producers of power, gas or water, plus the distributors and retailers, is not helping improve productivity.

Better regulation of power company prices, particularly around investment and rates of return, and privatisation of state-owned suppliers and distributors would deliver as much or more for business than any corporate tax cut offset by base-broadening measures.

In fact the impact on productivity of poor regulation bears examining by the Productivity Commission. It should be an issue business hops on and prosecutes because higher power, gas and water costs are adding to the cost of doing business in this country (and hurting consumer finances and consumer spending and therefore retailers). Multi-factor productivity (that is labor productivity plus the business contributions of capital, innovation etc) is imprecise and much harder to measure than labour productivity which seems to be in an upturn (according to the March and June quarter national accounts) as employment growth slow and output is maintained.

Federal Treasury and others have already pointed out that multi-factor productivity growth in Australia is weak at best, partly due to inadequate management. To that you could add the adverse financial impact of regulatory failure of the sort we are seeing in electricity, but also in gas and water. But don’t tell the business media and their friends in the lobby groups.

If an incoming Coalition government is serious about reform it should prioritise the wholesale rewriting of the regulatory regime covering electricity, gas, water and other natural monopolies in this country (such as Sydney Airport) and the about-to-be sold off NSW government-owned ports ahead of another tax inquiry or even a financial services inquiry. The current regulatory situation for electricity in particular is clearly inadequate and starting to produce cost distortions on business and consumers that will retard growth across the economy, as well as impact employment and demand. It is a situation all governments and parties have had a hand in producing over the last two decades. It was the Keating government that began the establishment of the national electricity market and the Howard government that completed it.

It has been a hugely successful microeconomic reform but power companies have long since identified the weak spots in the framework established by the Commonwealth and the states for regulating prices, and gamed them. Both sides of politics in NSW and Queensland have failed to privatise power assets and used them as ATMs to prop up budgets. Like the disastrous telecommunications reforms of the Hawke government that were exacerbated by the Howard government’s sale of Telstra, there’s plenty of blame to go around in this.

There’s accordingly a pressing need for some policy leadership from Canberra to break out of the current regulatory impasse costing Australian businesses and consumers plenty.

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16 comments

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16 thoughts on “Forget business tax cuts, focus on electricity reform

  1. Jimmy

    This is a very good article but once again let down by this tripe “If an incoming Coalition government is serious about reform it should prioritise the wholesale rewriting of the regulatory regime covering electricity, gas, water and other natural monopolies in this country” Why is it constantly assumed that the coalition has won the next election? It is this sort of reporting that has seriously reduced the quality of political journalism.

    To me the govt now has significant information to reform in the electricity sector is required and should develop a policy over the next 6-9 motnhs to take to the election (qassuming it couldn’t get it through before then.)

  2. Jimmy

    This is a very good article but once again let down by this tripe “If an incoming Coal ition government is serious about reform it should prioritise the wholesale rewriting of the regulatory regime covering electricity, gas, water and other natural monopol ies in this country” Why is it constantly assumed that the coalition has won the next election? It is this sort of reporting that has seriously reduced the quality of political journalism.

    To me the govt now has significant information to reform in the electricity sector is required and should develop a policy over the next 6-9 motnhs to take to the election (qassuming it couldn’t get it through before then.)

  3. paddy

    I’m with Jimmy on this one. The so called “inevitability” of a coalition victory at the next election seems to be getting less likely by the week.
    Plus, the chances of that bunch of time serving hacks who make up the opp front bench, actually managing to institute meaningful reform….. Fanciful nonsense.

  4. Jimmy

    Paddy – “Plus, the chances of that bunch of time serving hacks who make up the opp front bench, actually managing to institute meaningful reform….. Fanciful nonsense.” Recent history would be with you on that Paddy, what reforms did the Howard got achieve, the GST and what in 11 years? The Gillard/Rudd and the Keating/Hawke govt achieved much more.

  5. Edward James

    Government was once our energy supplier, at a break even arrangement with taxpayers. We put them in charge/let them take control of our resources like coal water and gas. They in the greed not wisdom privatised what we the peoples had put in place. They did what they are still doing. Selling our country and its resources out from under us. all the time borrowing in our names amounts of money we can never hope to pay back. almost everything which happens in the way of business has interest on borrowings tied into it even our sovereign activities are being financed with borrowings. I am dead against this abuse of the peoples trust! Edward James

  6. Jimmy

    Edward James – Nice rant but what is your point? Should we outlaw borrowings? Should energy companies wholly owned state assets (despite all evidence that the reverse is true)?

  7. Edward James

    I thought my rant was clear enough Jimmy We the people once owned coal and energy infrastructure. Energy was supplied to us on a break even basis on infrastructure whic taxpayers paid to put in place. Both Labor and Liberal Coalition put in place with their regulation of the Electricity Supply Act in March 1999 the legal stepping stones to assist them in privatising the supply of our energy. Now the rise in cost to consumers is distanced from government. Any talk of government controlling the rising cost is as mythological as government controlling the price of our petrol. why wen we turned up here in Australia and took over from those who were already here, would responsible government sell off our so called sovereign resources? Edward James

  8. Edward James

    While I would not go so far as to outlaw Jimmy I do question the Federal and State government borrowing against the peoples capacity to keep up with the interest rates on already OTT borrowings made against our perceived capacity to pay. I believe the interest attracted by almost everything we do will be our eventual fiscal doom. i certainly believe peoples have exchanged the iron chains of slavery around our necks, for an almost invisible chain of debt, draped around our shoulders by those very people whom we have given our votes to in trust. Edward James

  9. MJPC

    I am with Jimmy and Paddy on this. Why would an incoming coalition government (which is also a non possibility) address this inequity when they are quite prepared to lie at every turn in blaming the carbon tax for any price rises in energy.
    As for the NSW Government and Port Botany, we already have reports that if the sale progresses the price of fuel stored on site will escalate for the consumer.
    Of course we have trite promises from the O’Farrell government legislation will be in place to stop gouging but facts stand that when public utilities are sold to their mates, it is usually at too high a price then the ever suffering public pay the cost with the pollies bleating “how horrible” or “we can’t do anything” (i.e Sydney Airport costs), yet they have ensured a monopoly has been achieved.
    The current Feds need to act on the electricity now.

  10. Jimmy

    Edward James – NSW, Qld and WA still have state owned energy assets yet their prices are rising more than Victoria’s privately owned industry so govt ownership clearly isn’t the answer.
    And if you expect these govt to simply not make a profit on these energy assets (as you attest once happenned) would you instead pay higher taxes to cover the shortfall in revenue or make do with fewer services?

    And you post dealing with borrowings is just nonsensical ramblings.

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