Trust lost in pivotal super tax stand-off

AMID a chaotic week at home and on global markets, three trends intersected: the Rudd government's policy authority is under lethal assault; the world staggers towards renewed financial crisis; and the Tony Abbott-led Coalition is an unconvincing alternative.

This is a grim outlook for Australia until you realise that it's worse virtually everywhere else. Staring into uncertainty, it is difficult to pick the genuine trend from the false trail.

The reality, however, is that Australia's core economic position remains strong, buttressed by a sound budget and national strategy of growth via resources-led integration with East Asia, conspicuously China.

This is the context that makes the brawl over the resource super-profits tax so pivotal.

It has assumed a triple meaning: as a new tax, as a decisive economic reform test and as a contest over the Rudd government's fragile authority.

Australia is engulfed in a public dialogue of the deaf. The collapse of trust between the resources sector and the Rudd government is dramatic. This is a dangerous moment for Kevin Rudd's brand and for investment psychology in Australia.

Both sides have opposite interpretations of this struggle. Labor believes it is a typical try-on by big companies unhappy about paying more tax, while the industry says Labor has transformed Australia's sovereign risk profile with adverse consequences for projects, investment and activity.

The combination of "threatened project" headlines, anxious premiers and falling markets means that Labor has been losing the public relations battle.

One of the intellectual architects of resources rent taxes, Ross Garnaut, this week supported Labor's policy but urged a prudent rethink on the tax's design.

This penetrates to the dilemma confronting Rudd and Wayne Swan: the scale and timing of the necessary modifications to the resources tax and how this is perceived with a braying Abbott denouncing the tax as an "act of economic vandalism" that hurts companies, households, jobs, retirees and presumably the family pet.

The architect of the RSPT, Treasury chief Ken Henry, is not for turning.

In his post-budget speech Henry said the model "would represent world's best practice in charging for the exploitation of non-renewable natural resources". This only intensifies the industry's anger.

Swan stands by the principles of the tax. But he wants "genuine consultations" with industry and "generous transitional provisions" for existing projects. The Treasurer has kept his nerve in the teeth of a ferocious assault on the Rudd government. The stakes for Labor, the Treasury and the mining majors are now huge.

Former BHP Billiton chairman Don Argus said: "I don't believe the Australian people are going to wear it. Here we are dealing with 18 per cent of Australia's GDP and we don't understand the assumptions in the model. There's been a de-risking of Australia, there's been an exit and the stocks are down."

Turning up the heat with BHP and Rio Tinto, Fortescue chief Andrew Forrest indicated that "two of the company's three main expansion projects have been placed on hold", such investment totalling a planned $US15 billion. West Australian Premier Colin Barnett accused Rudd Labor of creating "market failure on a scale not seen since the share crash of 1987". Relations between Perth and Canberra are sunk in a multiple problem vortex.

In private Labor is furious at the intensity and manipulation of the miners' campaign and convinced the motive is pure self-interest. Swan has told colleagues the current sharemarket fall reflects Europe's fiscal crisis, not reaction to the mining tax. "We believe we've got this policy basically right," Rudd said yesterday, anxious to hold the line. "Guess what, a lot of those mining companies don't want to pay any more tax." Highlighting the "genuine crisis of confidence in Europe", Rudd said the most recent adjustment in the minerals index was less than the overall stockmarket fall.

Yet Australia has descended into old-fashioned class warfare, with full-page ads from the industry while the Australian Workers Union runs a populist television campaign against profiteering miners. This remarkable throwback to a bygone age cannot help Rudd Labor.

The world's biggest resources company, BHP Billiton, has launched a calculated "no confidence" campaign against the government. In this week's letter to all shareholders, chairman Jac Nasser said the effective 43 to 57 per cent tax increase on its local profits would make Australian resources the highest taxed in the world, compared with a tax rate of 23 per cent in Canada. "The proposed super tax fundamentally, abruptly and unfairly changes the rulers of the game," Nasser said. "Your chief executive officer, Marius Kloppers, has already said that if this tax goes ahead it would seriously threaten Australia's competitiveness, jeopardise future investments and adversely affect the future wealth and living standards of all Australians. The risk is that Australia could now be seen by the rest of the world as a less stable and less competitive place for long-term investments. If this eventuates, the great work of Australians to build the strong economic foundation of the country over decades could be undermined, representing a crucial turning point for Australia."

The charge is that Labor is hurting Australia, not just BHP, that it is striking at the nation's global economic brand.

In his University of Melbourne speech, Garnaut also lifted the stakes but with different intent. Garnaut sees the resource tax struggle as a decisive moment for Australia's policy future, a view shaped by Rudd's retreat over the emissions trading scheme.

For Garnaut, the resource tax is about "whether this episode will confirm the descent of Australian political culture into a North Atlantic malaise or represent a revival of the capacity of the Australian polity to take positions in the national interest, independently of sectional pressures."

Decoded, he is saying Rudd and Swan are at the crossroads: if they break and retreat (as distinct from agreeing sensible design changes), their government is discredited and lost. Every sign suggests Rudd and Swan grasp this pressure point. Yet the industry wants substantial concessions and the price needed to defuse this political war threatens to be high. The dilemma is diabolical.

The war of words needs to be halted. Sooner or later, that task will fall to Rudd and his judgment will be sorely tested. Labor misjudged in not preparing the ground better for the tax. But industry needs to know when to back off to allow Labor the space to make concessions.

In his speech Henry considered some of the main criticisms of the tax - that the bond rate was too low; that it did not reflect required return on resource investments; that it did not represent a threshold against which to measure rents - and he found all such statements to be "incorrect". He said under the design the investor would hold two assets: a 60 per cent share in a risky resource project and a risk-free asset in the form of a tax credit with a government guaranteed value of 40 per cent of the initial investment.

A critical issue, however, is whether financial institutions buy the Henry design. Treasury believes real world financial practice will adjust to its theory. Garnaut is less sure. Because the tax's design defies easy explanation the miners, so far, have carried their scare contest.

But Rudd and Swan also had good news this week. Abbott's blunder on The 7.30 Report in conceding that his daily comments cannot be trusted will haunt him to voting day. Shadow treasurer Joe Hockey's refusal to release costings during his National Press Club speech in Canberra casts fresh doubts on his judgment.

The Coalition doesn't look like an alternative government and the lesson is that only Rudd's blunders can provide it with that gloss.