Will the MRRT be enough for Gillard?

As commodity prices slide and mining costs soar, the estimated revenue from the MRRT is drying up. The fear levels of miners may be on the rise again if the Gillard government tries to find another pre-election pot of money to share.

Julia Gillard can’t take a trick. The day after she gave a lecture to the mining industry on resource ownership and the government’s determination to spread the benefits of the boom, her Treasury Secretary, Martin Parkinson, told a Senate committee the ‘’golden bit’’ of the resources boom is over.

Mind you, the mining industry didn’t need to be told that they don’t own the resources in the ground, only rights to exploit them. In fact the federal government and ‘’a sovereign people’’ don’t actually own those resources either. The states in which they lie do. The people of those states get their ‘’share’’ of a boom through the royalties their state governments impose.

Gillard may be right. There may be no better place in the world for mining companies to invest – the surge in industry costs as the global investment pipeline has swollen is a global phenomenon, albeit that Australia is now one of the highest-cost mining jurisdictions in the mining world.

The problem is that, as Parkinson indicated, while the investment boom might not be over, given the sheer volume and scale of projects already underway, the commodity boom has peaked and there is nothing in the industry environment that suggests its rekindling.

With Europe on the verge of something awful and, even if it avoids implosion, facing the prospect of a decade or two of deleveraging and austerity, and the US in a similar plight, albeit the additional burden of a banking system near collapse, nearly half the global economy is facing a prolonged economic winter.

China is entering a more mature phase. Even if it succeeds in reflating an economy that has responded too well to its attempts last year to deflate bubbles in its property markets and given that its two biggest export markets are facing lengthy periods of lacklustre growth, at best, its era of near double-digit growth is probably also over.

The global circumstances have created what could develop into quite an awkward situation for those miners caught half-way through their expansion programs.

There’s already about $260 billion of mining investment underway in Australia and another $300 billion or so on the drawing boards. Fortunately, much of the investment – close to three-quarters of it – is in export LNG, supported by long-term contracts, equity participation by customers and the knowledge that the demand for gas within the region over the next decade and more has solid fundamentals.

The mining investment, however, is part of a supply-side response, delayed by the original global financial crisis, which was ignited by soaring commodity prices, particularly for iron ore and coal. Both of those have fallen back sharply from their peaks.

The problem for the sector is that the sheer number of competing resource projects, in Australia and offshore, is still driving up costs – Parkinson said he sympathised with the miners’ concerns about costs now that the peak of the boom was over – and will greatly increase supply even as commodity prices are falling.

That’s why the biggest miners – the BHP Billitons and Rio Tintos – have started talking far more cautiously about their investment plans than they were a year ago and softening the market up for deferrals of projects like the later stages of their Pilbara expansions, their coal businesses and BHP’s Jansen potash project in Canada. The giant Olympic Dam project in South Australia, even if it is given a go-ahead late this year, will almost inevitably be done far more slowly and incrementally than BHP once envisaged.

Even the smaller miners are losing their optimism. Fortescue Mining’s Nev Power said today that while the company would complete its current, very ambitious, expansion program and lift production from its Pilbara iron ore mines from 55 million tonnes a year to 155 million tonnes by the middle of next year, it is now going to pause before committing itself to the further 100 million tonnes a year of expansion it had been considering.

There are, of course, a host of smaller iron ore miners with higher-cost production and, in many instances, without the transport infrastructure in place, that could find themselves stranded by the downturn.

There is more than sufficient growth in China’s economy, which is far larger than it was when the boom started, to absorb growing volumes of commodities. It will be the prices of those commodities that adjust to reflect both the lowering of the growth profile and the increased supply.

That’s ok for the mega miners, with their established low-cost operations, but their volumes will inevitably drive out smaller and higher cost miners and just about any new project has significantly higher costs than they do.

The states, with their mainly volume-based royalties, aren’t going to be materially adversely affected by lower commodity prices and the resource states still have the existing investment activity to drive growth over the next few years.

The Gillard government has the Minerals Resource Rent Tax to capture ‘’super profit,’’ but that was established when commodity prices were at near-record levels and the miners have experienced a further surge in costs since then. It’s not going to generate much benefit, if any, to share.

Taxes, as well as royalties, from the sector have been growing significantly as the sector has grown and could be expected to surge even if the boom in investment ended, indeed particularly if the pipeline of new investment shrunk significantly.

Some of latent tax streams within the sector have been obscured by the major up-front deductions available for new projects. As those diminish and the profitability of the projects builds, so will the government’s revenue streams. That will, however, occur over a much longer timeframe than the rapidly shrinking window between now and the next election.

The industry was very anxious about the prospect of new taxes in the lead up to the federal budget and was relieved when the speculation of the abolition of the diesel fuel rebate and a change in the tax treatment of overburden removal didn’t eventuate.

With the government becoming more aggressive in its language towards the billionaire miners, and Gillard again talking about sharing the benefits of the boom, however, the anxiety levels are building again. Now they are worried about what might emerge from the government’s business taxation review.

Given the likely paucity of MRRT revenues, if the government is again looking for something to share ahead of the election Australia's miners might have good reason to be fearful.

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