About Managing Australia's Mineral Wealth

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The author of Managing Australian Mineral Wealth for Sustainable Economic Development (Jan 2002) was Ken Willett  sponsored by the Mining, Minerals and Sustainable Development Project of the International Institute for Environment and Development, and AMEEF.  


Outline of Report

For 150 years Australians have seen mining as a platform (engine) for economic growth. Two central policy themes over that period have involved (a) encouraging mining to stimulate development, and (b) appropriation of part of the net value of minerals through royalties.  

This perception has been challenged over the past 30 years by: environmental and resource depletion concerns; 'Dutch Disease' and 'Resource Curse' ideas; native title; royalty controversies; criticism of tenement regimes; and artificial obstacles created by governments in the 1990s.  

Sustainable Development: This concept has been prominent only since the 1980s - and has derived from old anxieties about the capacity of natural resources to sustain growth - which has recurred periodically for 200 years. The most common definition of sustainable development involves meeting the needs of the current generation without compromising future generations. This has multiple dimensions including - economic growth; efficient resource use; social development; and intergenerational equity. A narrow concept requires that the quantity and quality of resources must remain steady - and leads to pessimism. A broader concept considers the option of substitution - and implies much less government intervention. COAG has accepted such a concept.  

Policy Assessment Criteria: Sustainable development does not require new policy criteria. It is enough to consider equity, economic efficiency and administrative efficiency. However sustainability has increased emphasis on: intergenerational aspects; internalization of environmental impacts; inter-temporal and dynamic aspects of economic efficiency  

Australia's Institutional Framework:  is outlined.

Imputed Net Value of Minerals: The imputed net value of minerals in the ground has been a primary focus in economics in relation to mining. It is relevant as: price of a resource; source of income; and base for taxation. If the imputed net value of minerals in-situ is positive, then four key tasks fall to government (a) guiding distribution of that net value amongst competing interests (b) ensuring net value is not diminished by poor policy (c) correcting market imperfections to ensure that net value is neither under- or over-stated and (d) minimizing administrative costs.  Imputed nett value derives from demand for mineral products and supply characteristics (exhaustibility, variability and scarcity). Resources can be exhausted by extraction or augmented by exploration / technological advance and by higher prices. Deposits which are commercially attractive are relatively scarce. High quality deposits can have positive net present value - after recovering full cost of discovery, development, mining, processing and transport (including capital costs). Different parts of one ore body can have different unit net values. Historically technological advances have more than offset any tendency towards higher unit costs. When imputing net value to minerals, allowance must be made for risk and uncertainty. 

Economic Function of Imputed Net Value: allows allocation of supply between users over time. There is controversy over whether a positive imputed nett value elicits supply of mineral resources. Most economists claim imputed nett value in situ can be positive and still elicit supply. Others claim that it must be zero to attract new exploration and mining. It is difficult to design a royalty / tax system that can capture imputed nett value of minerals without interfering in efficient resource allocation.

Depletion and Sustainable Development: depletion of resources has been seen as a constraint on sustainable development in Australia. While this may have regional implications, historical evidence is that depletion has not constrained growth. New discoveries and technologies have more than offset depletion. Thus mineral prices have long been in downtrend. How long can this continue? A pessimistic view (which would require government intervention) is not supported by evidence over the past 200 years, or by convincing arguments. The optimistic view - which advocates have also not justified convincingly - still requires government to ensure that (a) the ecological processes on which life depends are maintained and (b) entrepreneurs and governments are accountable for the social costs of environmentally adverse activities. Depleting mineral resources requires adding to capital resources to restore productive capacity. This concept is also controversial. World Bank economists have expanded concept of investing in reproducible capital - resulting in idea of 'genuine savings' which are the nett result of investments and losses of natural resources, human capital and built capital. The Bank assessed 'genuine savings' for 100 countries from 1997, 1998 and 1999, and showed that high income developed countries (with the notable exception of Australia) exhibited positive 'genuine savings', while low income under-developed countries had negative 'genuine savings'  (like Australia). This has implications for (a) emphasizing savings of resource rents for investment (b) this need not absolving governments of requirement to cut artificial obstacles (c) avoiding policies that destroy imputed nett values and (d) transitory price increases allowing increased investment without cutting income - which governments have failed to take advantage of, so contributing to poor growth by resource rich countries. 

Resource Curse and Sustainable Development: 25 years ago the idea that minerals the engine of growth was challenged by the Gregory thesis - that booming mining will contribute to shrinking agriculture and manufacturing (called the 'Dutch disease' or 'de-industrialization') [because the mineral boom boosts exchange rates, and this erodes the competitive position of other industries]. Over the past decade, a 'Resource Curse' thesis has emerged, which portrays mineral wealth as detrimental because (a) abundant resources predisposes counties to substandard per capita growth (b) growth rates after booms are below pre-boom rates (c) natural resource wealth triggers factors contributing to poor growth including 'Dutch disease' and (d) star performing economies are resource poor. 'Resource curse' thesis is based on generalization from study of various countries growth - which has been criticized because (a) such countries are not all the same (b) relative performance varies over time (c) ethnic strife can be a better explanation of poor growth (d) many problems arose from using high resource prices in 1970s to build up debts - which created problems in the 1980s. Mechanisms whereby the 'resource curse' is assumed to operate include: (a) leading to weak governments (b) effect of long term decline in resource prices (c) growth induced externalities from manufacturing are greater (d) government mismanagement of booms (e) destruction of resource rents - by rent seeking behaviour or by artificial impediments to mining / processing and (f) wastage of resource rents. Some argue that these factors, especially (a) to (c), justify diversification. However these arguments lack substance. Symptoms of 'resource curse' are the result of inappropriate government policies. Suppressing resource based industries won't correct the policy flaws. Policy guidelines for resource rich countries are (a) ensure resource rents are saved and invested (b) don't treat windfall resource revenue due to price spikes as permanent income (c) maintain low inflation and (d) eliminate artificial impediments that handicap industries.

Artificial Impediments: Governments have created artificial impediments by poor design of policies. This involves intervention that discriminate against particular economic activities without good reason. Policies to correct market failures (eg excessive pollution, abuses of monopoly power, under-provision of public goods) and natural impediments are not of concern. Artificial impediments include special incentives to other industries which give higher taxes. Two types of artificial impediments are (a) burdens due to government intervention unrelated to managing mineral wealth and (b) poor intervention in mining and processing. The former includes import barriers to protect manufacturing. The latter includes tenement and royalty systems . Some aspects of environmental and native title policies fall into both categories. 10 years ago the Industry Commission estimated that removing only some artificial impediments would yield large economic gains. For most of the 20th century artificial impediments were the cause of Australia being one of the worst performing economies - while attempts to reduce them since have made Australia one of the best. There has long been concern about the lack of mineral processing in Australia, despite having world class resources. While Australia's potential comparative advantage in minerals has not been fully exploited, this has been masked by the existence of some outstanding mines. Under-performance in mining has just been less noticeable. Artificial impediments do not make mining uneconomic - but do change cut-off grades, reduce mining depths, shorten mine lives, lower output rates and reduce profitability. Where there are inefficiencies from government failure or market failure, piecemeal reforms can make the situation worse - thus they should be avoided in favour of a comprehensive approach. This can be hard due to short term problems which some groups will face, which require government adjustment assistance.

Surface Rights and Land Access:  Access to land held by private interests is a major problem - which appears to result from the poor definition of surface rights relative to minerals in situ. In Native Title legislation, the Commonwealth compounded this mistake. There must be a better alternative to a 'right to negotiate' that has not yielded equitable outcomes. Native title and other surface rights are not the problem - poor linkage of these to mineral rights is. High Court could decide to attach mineral rights to native title. This would bring exploration and mining in Australia to a sudden halt.

Exploration and Mining Tenement System: Exploration tenements have been designed to encourage exploration. Allocation is traditionally on a first-come-first-served basis - possibly with conditions to increase the pace of exploration. Those conditions can induce excessive exploration and imputed nett value of minerals.  Conditional first-come-first-served systems are also unattractive in terms of administrative efficiency. Arguments for conditional tenements and work program bidding are that this will result in earlier development of deposits - but this only happens if a deposit is ripe for development. Also government policies (such as environmental procedures) can delay development. If imputed nett value of minerals is captured by royalty and tax systems the tendency of conditional tenements and work program bidding to misallocate resources is constrained - because it reduces the value of the prize. However if royalty / tax systems exclude return on exploration investment, then government's revenue base will be undermined. Royalty systems based on gross revenue or output disallow costs - and thus include exploration expenditure in the royalty base. This doesn't justify retention of ad valorum royalty systems - because the latter reduce resources, output and development investment. States need to replace both poor tenement systems and deficient royalty systems. In replacing tenement systems, distorting tenement conditions need to be eliminated (for which possible methods were suggested).

Royally Policy Revenue based royalty systems - traditionally used in Australia - are poor in terms of economic efficiency and equity. They cause otherwise economic material to be left behind because extraction costs are not taken into account. They are a major artificial impediment to mining. An accounting profits royalty system (as in NT) allows adjustments for costs and prices, though it has higher administration costs. A resource rent royalty - as applied to offshore petroleum - is a considerable advance - though deficiencies remain. A realized economic profits royalty system is an efficient alternative, though it has negative political implications of paying rebates when profits are low. Competitive up-front bidding has support in economics' literature. State and Commonwealth governments should agree to design a uniform combined realized nett value royalty and competitive lump sum cash bidding system.

Mining and Environment Policy: Environmental costs should be internalized in the interest of economic efficiency and sustainable development. Comprehensive reform to achieve this should be preferred to a piecemeal approach. Government needs to determine the economically efficient level of rehabilitation for each mining operation. Governments in Australia have tended to use command and control methods for internalizing the social costs of mining - and there is a stronger case for greater reliance on market oriented methods. There is an unreasonable degree of proliferation of complexity in relation to the environmental effects of mining in Australia. This needs to be addressed by governments.


CPDS Comments:

Managing Australian Mineral Wealth for Sustainable Economic Development (the Report) is a useful attempt to find sensible ways of thinking about the strategic challenges facing mining and to advance policy options. In particular the analysis highlights:

  • why the imputed nett value of mineral resources matters;
  • the concept of maintaining productive capacity by expanding capital resources to offset natural resource depletion, and the World Bank's survey of 'genuine savings' in which Australia's comparatively poor position stands out;
  • the 'Resource Curse' hypothesis - and similar ideas - which have affected Australia's general economic thinking in recent years without being closely examined;
  • artificial impediments to mineral development and processing;
  • problems in resource access due to poor management of relationship between surface rights and mineral rights;
  • the issues involved in re-developing mineral tenement and royalty systems; 

Even where (inevitably) the Report is not perfect, it provides an intelligent starting point for suggesting what more might be done.

The following propositions might be considered in enhancing the Reports conclusions:

  • the Report's current approach to sustainable development may be too narrow:
    • sustainable development is not only, or primarily, concerned with resource depletion. From a mining viewpoint it can be assumed that resource depletion is the critical sustainability issue - but it is not as simple as that for society as a whole. Issues of climatic change and loss of biodiversity appear to have far more critical potential impacts globally, while human and ecological 'health' has most impact regionally;
    • the Report suggests that governments have a responsibility for ensuring that the processes on which life depends are maintained. But it is not certain that governments have any way to be sure of what is required to achieve this. The system's involved may be just too complex;
    • the Report needed to stress energy questions in considering resource depletion, eg
      • as the Report notes, capital investment (ie energy intensive processing) is an important method for compensating for resource depletion generally;
      • there are no non-energy substitutes for energy;
      • energy is subject to very significant environmental uncertainties - noting the greenhouse debate and the implications of possible climatic change. If the (plausible) pessimistic scenarios apply, imposing full environmental costs on fossil fuels could result in a major shift to other energy sources;
    • sustainability initiatives undertaken in relation to the use of mineral products will impact on mining. For example:
      • life cycle planning will be deployed leading to substantial reductions in raw commodity needs through recycling - compounding the general effect of reduced material intensity of economic production generally;
      • the OECD's chemical risk reduction program, which currently lists significant Australian mineral exports, seems likely to eventually result in substitutes being found for them all; 
    • the Report suggests that sustainability does not require new measures to assess policy - which is presumably a comment on work to develop multi-dimensional measures as an alternative to GDP, such as what has been called a Genuine Progress Indicator. Though this is probably a fair assumption in relation to mining, a problem more generally is that one can not evaluate environmental costs and benefits as components of human economic or social systems. They must be evaluated in different terms (ie an environmental asset may be a major component and have massive implications within an environmental / ecological system which is not captured in any way in terms of social or economic considerations). As far as the author is aware, there is no current solution to this problem;
  • if problems require attention, one should not assume that government intervention is the only way to address this. Other entities can 'intervene' and (as the Report notes) there are many modes of intervention apart from command-and-control. For example, the Report suggests that governments need to take advantage of market variations (eg price peaks, that might allow increased investment). Unfortunately this expectation is unrealistic. Governments like those in Australia are not attuned to market cycles. Arrangements would be needed within the financial system to cope with windfall profits, which governments are probably not even well equipped to design.
  • the Report's approach to strategic economic issues affecting mining needs to be broadened, particularly from an economic development viewpoint. For example:
    • the Report equated 'de-industrialization' with the 'Dutch disease' (ie with the loss of industries due to strengthening the exchange rate due to a mineral driven boom). However the main factor in the de-industrialization (which widely impacted Europe and North America in the 1970s) seemed to be competition from low wage countries in primarily capital-intensive sectors, rather than the effect of mineral booms; Similarly:
    • the long term reduction in mineral prices that the Report comments on has probably not only been due to improved technology, but also to constant shifting of production to less-developed countries with relatively lower wage rates. A structural challenge which this poses to primarily capital-intensive mining in Australia may be exactly equivalent to manufacturing de-industrialization as earlier experienced in Europe and North America (see Even more fundamental economic change is looming).  One observer suggested that quality resources are generally likely to be readily available elsewhere over the next 20-30 years;
    • similarly mineral processing requires competitive advantages in the processing operation - not just the comparative advantage of access to mineral commodities. Populist assumptions in Australia about what is required to succeed in value adding to minerals have probably been somewhat naive (ibid). Moreover mining firms who have often 'stuck to their knitting' have been unable to get the benefits of linkages along the value chain;
    • the Report describes obstacles to mining and mineral processing in terms of artificial constraints imposed by governments. While this is undoubtedly correct to some degree, other factors that need mention include:
      • the availability or otherwise of knowledge, skills and effective organization in the relevant industrial clusters. And what might be done to boost such capabilities also needs mention (eg see Developing a Regional Industry Cluster);
      • the very rapid technological changes affecting materials, which can leave behind firms who lack skills in materials technologies.
      • the increasing internalization in the mining industry of its real social and environmental costs;
  • The Report argues that the 'resource curse' thesis is invalid - though it does appear to be a real and serious problem (see About the Curse of Natural Resources). The Report suggests that perceived 'resource curse' symptoms are primarily due to poor government policies. This is presumably correct. And if so, this suggests the need to take very seriously indeed the possibility that poor (ie populist) governments tend to be one of the consequences of resource wealth. Correcting this could require not only steps like diversion of windfall profits during booms into productive investment, but also preventing local political elites from using 'resource projects' as the basis for unjustified hype about a government's economic credentials despite the lack of capable civil institutions required for such claims to be warranted.
  • The Report highlights the lack of 'genuine savings' in Australia's case (and in the case of less developed economies generally). However an un-analyzed factor may be that this is affected by Australia's reliance on foreign capital in resource industries (noting both: the practice of transfer pricing to minimize taxation by shifting profits offshore; and that reliance on foreign capital, while is can at times facilitate technology transfer, does ensures outside control of the most strategic information and connections that determines who has to the market power to gain competitive advantages and profit margins).  
  • the generally excellent treatment of artificial impediments might be enhanced by considering:
    • whether the assumption that Australia enjoyed a 'miracle' economic performance in the 1990s may need qualification (see Economic Liberalism in Australia);
    • whether native title arrangements in Australia may have been a strategic initiative by a Prime Minister intent on sterilizing resources and so preventing Australia continuing down what he saw as a 'banana republic path'. It is unlikely that native title (if viewed as it seems to be as a way of creating 'homelands' for an Australian 'apartheid') is likely to do indigenous Australians a great deal of good (see Aboriginal Advancement; and The Challenge of Aboriginal Advancement).
    • the implications of politicisation / deskilling of Public Services which has also characterized the 1990s in which those artificial obstacles were seen to grow rapidly (see Towards Good Government in Queensland).

May 2002