Posts

The Mining Boom in Context

National Economic Review
National Institute of Economic and Industry Research
No. 67   November 2012

The National Economic Review is published four times each year under the auspices of the Institute’s Academic Board.

The Review contains articles on economic and social issues relevant to Australia. While the Institute endeavours to provide reliable forecasts and believes material published in the Review is accurate it will not be liable for any claim by any party acting on such information.

Editor: Kylie Moreland

© National Institute of Economic and Industry Research

This journal is subject to copyright. Apart from such purposes as study, research, criticism or review as provided by the Copyright Act no part may be reproduced without the consent in writing of the relevant Institute.

ISSN 0813-9474

The mining boom in context
Peter Brain, Executive Director, NIEIR

Abstract
The current mining boom is but the latest in a series of bursts of resource-related activity in Australia. The current attitude seems to be that the boom should be passively accepted as well-deserved good fortune. However, recent experience indicates otherwise. While unquestionably resource booms bring prosperity to the mining industry, as a side-effect they can easily generate recession in non-mining industries, possibly even to the extent that the overall benefit of the boom is questionable. The possibilities are outlined in the present paper.

Mining and resource expansion
Over the past 25 years, an economic literature has developed that focuses on the consequences of a sudden episode of resource expansion/exploitation. The episode may arise from the unexpected discovery of a natural resource or from the rapid exploitation of known resources when an unexpected price rise makes resource extraction highly profitable. Either way, total resource investment rises quickly (i.e. over a year or two) to high levels compared to the long-term historic average. When the investment projects are completed, this is followed by a sharp increase in the rate of growth of resource output.

Such expansions occur most often in the mining sector. Technically, agricultural production is also a resource-based activity but, adjusted for the instability in weather-related drivers, the expansion in agricultural investment and production is usually stable – the most recent exception would be the wool boom, which occurred during the Korean War in the early 1950s. Apart from such occasions as the wool boom, sudden and large increases in resource activity are restricted to mineral and energy natural resources (coal, oil and gas), where new discoveries and/or large price changes that improve the economics of past discoveries can trigger sharp increases in investment claims on national economic capacity. In the present discussion, mining expansion is used interchangeably with resource development.

How an episode of resource expansion develops through time
Figure 1 describes the four periods of an episode of elevated resource development. In the period before elevated activity commences levels of investment and output growth are below their long-term historic averages. In this period, new discoveries of mineral resources are made and/or there is a sharp increase in mineral and energy commodity prices, which increase the prospective return on investment. This is followed by the construction or investment stage, where the rate of resource investment as a percentage of GDP increases to well above the long-term average.

The completion of the investment projects ushers in a period that is characterised by high rates of growth in mining production compared to the long-term average growth rate or (at least) the growth rates of the stable periods. During this period, as production expands, real mineral prices generally fall, resulting in falling resource investment. Where a resource expansion occurs based on a single discovery, investment will fall even if mineral prices remain high because of a shortage of unexploited deposits that can be extracted economically. However, in a country like Australia with an extensive catalogue of charted but undeveloped resources, the downturn will not occur until resource prices fall.

In period four, the episode of resource expansion ends with investment and output growth rates returning to below historic benchmarks.

Capture1

The term ‘mining boom’ most commonly refers to the second period, when both investment and real mineral prices are above historical averages. It is only in the fourth period, after all the dust has settled, that it will be possible to fully assess the benefits and costs of the boom.

The Australian experience: Characteristics of episodes of elevated mining expansion
Following on from Figure 1, the characteristics of episodes of mining expansion can be described by the outcomes for investment and mining output growth. Figure 2 shows the level of net mining investment since 1978 as measured by the change in the real mining capital stock in place (see Australian Bureau of Statistics cat. 5204). Since 1978, there have been three episodes of elevated mining expansion. The first episode covered the 1980s, while the second ran from 1995 to 1997. The third episode commenced in 2004 and is currently ongoing. A total of 7 years elapsed between the end of the construction phase for episode one and the commencement of the production phase for episode two. Another 7 years separated the end of the construction phase for episode two and the commencement of the construction phase for episode three.

The current construction episode is likely to continue until at least 2015. Projects under construction, committed and highly likely to proceed will keep the net mining investment average over the next 5 years in the vicinity of A$33 to A$38 billion. In its March 2011 bulletin ‘Australian Commodities’, ABARES predicted that the volume of mining production will grow by 6.2 per cent per annum between 2010 and 2015. This growth rate is common for the energy minerals (coal, LNG and oil) and for iron ore, although not necessarily for all other minerals.

Capture2

The production growth profile is consistent with the immediate past and immediate future level of mining investment. Between 1979 and 2010, an average CVM$1 million of net mining investment produced CVM$0.34 million of mining gross product. (CVM = chain volume measure, which is essentially a means by which the Australian Bureau of Statistics converts values to constant-price terms, in this case prices centred on 2008.) Therefore, an average of CVM$30 billion of investment (or the average from 2007 to 2012) would be expected to produce approximately CVM$10 billion of mining gross product. This represents 7 per cent of the estimated 2011–2012 mining gross product.

The projected growth rate over the next 5 years is not as large as the average annual growth rate from 1984 to 1990, which was 8.5 per cent per annum. This is also reflected in the profile given in Figure 3, which shows the annual average growth rate over the previous 20 quarters (i.e. 5 years). Between the June quarter 1985 and the September quarter 1992, the average annual growth rate exceeded 6 per cent per annum.

Figure 3 also profiles the series for the mining gross product growth rate weighted by the share of mining gross product in GDP or the direct contribution of mining to national GDP growth. Over the production period of the first episode, the average annual contribution to GDP growth was 0.7 percentage points. The contribution over the next 5 years will average 0.6 percentage points, which will be close to the 1980 decade production outcome. Although average annual growth rates will be lower over the next few years than in the 1980s production period, the mining sector now has a larger share of GDP than it had in the mid-1980s.

The quarterly series for national gross mining investment as a share of non-primary product (i.e. excluding agricultural and mining gross product) is shown in Figure 4.

In the early 1980s, the share was approximately 2 per cent. This fell to 1 per cent by the end of the decade, before recovering to the 2-per cent benchmark by 1997 and then falling to 0.8 per cent of GDP by the end of the 1990s. By the middle of the last decade, the 2-per cent benchmark had been regained. Currently, the level of mining investment is running at a little under 4 per cent of GDP and is expected to remain within the 4 to 5-per cent range over the next 5 years.

Capture3 Capture4

From Figure 5, the share of replacement investment in gross mining investment averaged two-thirds of the total gross mining investment over the period 1979 to 2010. Over recent years, however, the share of replacement investment in total gross investment has averaged approximately 40 per cent. It should be noted that the quarterly series for mining investment excludes items that are included in the annual ‘Australian National Accounts’ (cat. no. 5204) series. The quarterly series is approximately 80 per cent of the annual series.

An indicator of the intensity of mining activity (IMA) can be derived by adding the four quarter span growth rate of mining gross product to the mining investment share in non-primary GDP. (The four-quarter span growth rate is a moving average, which for the June quarter approximates the growth rate from one financial year to the next.) This is shown in Figure 4. The figure shows that the intensity indicator currently, and into the immediate future, will take values that are unprecedented compared to outcomes over the past three decades. This partly reflects the fact that mining capital stock has increased three-fold since the late 1980s to reach CVM$304 billion by 2010, with a proportionate increase in replacement investment. Deleting replacement investment means that, to date, the current episode of resource expansion is adding approximately 2.0 to 2.5 percentage points to the IMA. This works out at annual average net investment of $33 billion across period two of the current expansion, which represents 2.8 per cent of current non-primary gross product at factor cost or 2.2 per cent in terms of the quarterly series.

Capture5

The drivers of episodes of mining expansion

The drivers of expansion for resource-based industries are different from drivers in other industries and very different from those in manufacturing industries, where both types of industry are subject to overseas competition. The following discussion does not apply to the small proportion of either manufacturing or mining  industries  that  receive  ‘natural  protection’.

Some of the naturally-protected manufacturing industries, such as gold smelting, are closely tied to mine sites because they greatly reduce the bulk of the product to be transported; others, such as baking, are closely tied to consumption sites because of the costs of transporting fresh products. Similarly, some types of ‘mining’ (chiefly blue-metal quarrying) receive natural protection due to the heavy weight and low value of the product. These cases are discounted, and, henceforth, the designations ‘mining’ and ‘manufacturing industry’ both refer to industries that do not receive natural protection.

As Figure 6 indicates, the drivers of a mining expansion are standard market signals. Typically, an increase in demand forces up mineral prices, which, in turn, not only signals the need for expansion but provides the cash flow to finance expansion. Investment increases are sustained until the supply response drives the price level back to the cost of the next, for example, new mine, LNG plant or transport facility. However, an episode of mining expansion can also occur in response to discoveries without the inducement of an increase in real commodity prices. Hence, the catalyst is the availability of economically extractable resources at prevailing commodity prices.

Capture6

The drivers of manufacturing expansion
Figure 6 also shows the drivers of expansion for manufacturing. Relative costs are important in the sense that manufacturing will contract if there is too great a gap between domestic and foreign costs of production. However, even if relative costs are comparable and Australian products have a price edge (as when the actual $A/$US exchange rate is below its purchasing power parity level), manufacturing expansion depends on producers’ ability to gain a competitive edge by product differentiation in terms of, for example, the design, functionality and durability of their products. This requires years of lead time in:

  1. R&D efforts;
  2. marketing efforts; and
  3. financing innovation and new capacity involving the latest technology.

 

The efforts of a firm in terms of adopting best practice production technology, innovation via R&D expenditures and market development expenditures are all part of either achieving competitive edge product differentiation or identifying opportunities for greater exploitation of existing advantages.

For this type of manufacturing, the individual producer creates or maintains a market while for mining the producer responds to the market. This is why differentiated product manufacturing is riskier than most other industries. An important aspect of this higher level of risk is that differentiated product manufacturers have to create their own finance for expansion, whereas in mining this finance is delivered by the market.

In addition to mining and manufacturing, agriculture (with the partial exceptions of fresh milk and fresh vegetables), tourism and, increasingly, education and health services are counted among the trade-exposed industries. The agricultural industries were akin to mining in that they produced standard commodities with world market prices but they are becoming similar to manufacturing in that they are increasingly developing specialised and individually-marketed products for niche markets. Tourism, education and health produce services rather than goods, but, like manufacturing, serve differentiated markets that must be cultivated assiduously. This study concentrates on manufacturing but its results can be extended to other trade-exposed industries whose product-development requirements (see Figure 6) resemble manufacturing rather than the strict commodity responses characteristic of mining.

At the macroeconomic level, the different drivers of mining versus manufacturing expansion can lead to a conflict between manufacturing expansion and equivalent mining expansion that is unrelated to issues of national resource availability. This is because the higher terms of trade associated with mining expansion are generally followed by an increase in the exchange rate, which makes manufacturing activity less profitable. The converse negative impact on mining from manufacturing expansion is much weaker because manufacturing expansion does not influence the terms of trade.

The most important dynamic is one of cumulative causation. Success in sustained manufacturing expansion depends on an uninterrupted sequence of steps that are resourced adequately and are consistent with market requirements.

Recent past episodes of mining expansion
Figure 7 compares the mining intensity indicator with Australian real non-rural commodity prices in $US, where the price relativity indicator is the Australian consumer price index. The first and third episodes correspond to the dynamics depicted in Figure 6. In the middle of the construction phase for the first episode, the real commodity price indicator was around unity; it fell to 0.7 when the production phase of the first episode ended.

At the end of the second episode, the real price indicator had fallen to 0.75. However, in the early stages of the construction phase of the third episode, the real price indicator had reached values of 1.1 to 1.2. By the end of 2010, the real price indicator value was 1.7. The exception to the rule was the generally low commodity prices that prevailed over the construction phase for the second (relatively subdued) episode. However, the current episode is following the general script. The high current values for the mining intensity indicator compared to the first and second episodes reflect the current relatively high real commodity prices compared to past episodes.

Figure 8 shows the relationship between real commodity prices in $US at the market exchange rate between the Australian dollar and the $US, divided by the purchasing power parity $US exchange rate. In this series, a ratio above unity indicates that the Australian dollar is overvalued compared to the exchange rate required for cost parity between Australia and the United States. We expect that the Australian exchange rate will tend to be overvalued at times of high real commodity prices. As expected, the current high real commodity prices are producing an overvalued exchange rate. At the end of 2010, the overvaluation was 50 per cent and the extent of the overvaluation increased into the second quarter of 2011.

An important point also shown in Figure 8 is that the appreciating currency leaves the mining sector with substantial real price gains in Australian dollar terms. Even when real commodity prices are deflated by the exchange rate over/undervaluation index, real commodity prices are currently higher than those that prevailed during the construction phase of the first episode of mining expansion.

Capture7 Capture8 Capture9

Periods of highly overvalued exchange rates associated with elevated mining activity intensity are very destructive for manufacturing. This is because high relative costs, in conjunction with already high risks, lead producers to curtail or end new development initiatives. R&D is scaled back and capacity expansion and replacement decisions are postponed, which leads to producers falling further behind their competitors in other economies. When the period of elevated mining expansion ends and the exchange rate falls back to cost parity levels, domestic competitors are too far behind to restart R&D programs or even in some cases to undertake the replacement investment required to ensure long-term business sustainability. The same adjustment process occurs, although less severely in terms of the long-run negative outcomes, for other trade-exposed industries such as differentiated agriculture, high-value business services industries, tourist industries and the health and education industries.

Under market conditions, therefore, the dynamics of mining expansion are likely to produce a permanent contraction in manufacturing and other trade-exposed industries compared to what would otherwise have been the case. Each period of elevated resource expansion has a cost in terms of these crowding-out or displacement effects. Each episode of elevated mining expansion produces increased import shares and/or stagnant relative export levels that are not reversed when the period of elevated mining expansion ends.

An additional factor is the pressure on labour resources. The lower the unemployment rate and especially the higher the utilisation of skilled construction labour, the more likely labour will be attracted away from non-resource trade-exposed sectors to mining and related construction. This is particularly likely to be the case in the investment phase. This disrupts the capacity expansion process for non-resource industries, which will not be fully restored when the high mining investment phase ends and labour utilisation rates fall.

Prima facie evidence for this crowding-out or displacement dynamic would be a high negative correlation between the manufacturing share of GDP and the IMA indicator. However, given the dynamics outlined above, the expected negative correlation is not between the manufacturing share in GDP and the IMA, but between the manufacturing share in GDP and the cumulative IMA, or perhaps the cumulative IMA less replacement investment. This is because the greater the intensity of an episode of mining expansion, the greater the permanent reduction in manufacturing capacity and capability. Thus, the time-series outcome for the manufacturing share in GDP should be highly correlated with the cumulative impact of each episode of mining expansion if the above relative industry dynamics have validity.

The data is presented in Figure 9. The strong correlation is self-evident. The correlation coefficient is −0.99. This also implies that the net gains from mining expansion could be small or negative.

An alternative interpretation of Figure 9 is that the tariff phase-down slimmed manufacturing to competitive levels and released resources for mining. To counter this interpretation, the impact of mining expansion on the metals and machinery (MM) manufacturing industry is examined over the past quarter century. The MM sector was not much affected by the tariff phase-down and, more importantly, would be expected to directly benefit from episodes of elevated mining expansion in the form of increased orders during the construction phase of mining expansion.

Metals and machinery manufacturing during recent mining booms
Figures 10 to 13 present a range of MM sector indicators. The figures refer to domestic demand, meaning that exports have been excluded. The evidence from the figures supports our account of manufacturing growth dynamics in that each episode of elevated mining expansion with its accompanying overvalued exchange rate has increased the import share in domestic demand and, importantly, this share is not recovered during subsequent periods of low commodity prices/exchange rates and low IMA values. This means that for each subsequent episode of elevated mining expansion, the domestic MM sector has less capacity available to support the mining expansion with local content. Clearly, the damage done to non-resource trade-exposed sectors of the economy in terms of this crowding out or displacement from episodes of mining expansion is cumulative.

Two terms are used in the literature to describe this process: the ‘Dutch disease’ and the ‘resource curse’.

The steel sector
The quality of Australian manufacturing data has declined over recent years. For example, after the June quarter 2009, quarterly sales data by three-digit Australian and New Zealand Standard Industrial Classification level is no longer available. The data from the MM sector, given above, is based on the Australian National Accounts aggregate data.

The ‘steel sector’ data, or iron and steel plus fabricated metals, is based on the now discontinued data updated to 2010.4 as best as possible. The capacity series estimates shown in the table are based on the traditional trend through peak method plus an 18 per cent loading to bring the series in line with the survey estimates of capacity utilisation.

Capture10 Capture11 Capture12 Capture13

Figures 14 to 16 give the capacity estimates and the capacity utilisation rates. Across the steel industry, capacity utilisation rates have fallen considerably since 2008. Both steel industries currently have an utilisation rate of approximately 50 per cent compared to a normal level of approximately 75–80 per cent.

The profile for the import penetration for the steel industries is shown in Figure 17 and for the machinery sector in Figure 18. If 2003–2004 is taken as the benchmark, the trend increase in import penetration into the steel industry subtracted approximately 6 percentage points from capacity utilisation rates. An approximate 4 to 6 per cent of capacity utilisation loss in the steel sector has come from the increase in import share in the machinery sector. The steel sector lost orders from the machinery sector as import penetration increased in the latter sector.

The increase in import penetration explains approximately half the loss in capacity utilisation rates over the past 3 years. A large part of the rest would probably be explained by the decline in steel-intensive construction, such as offices and apartment buildings.

The core point from the steel sector changes is that the current capacity utilisation rates are low by historical standards, with substantial risk that unless something is done to remedy this situation, a substantial part of current capacity will be permanently closed over the next few years, inflicting significant damage on the economy. The damage will become painful once mining investment and exchange rates start to fall and the unemployment rate and current account deficit start to rise and domestic capacity is no longer available to substitute for imports that can no longer be afforded.

The Dutch disease and the resource curse
The term ‘Dutch disease’ was originally coined by The Economist in 1977 to describe what had happened to the Dutch economy and, in particular, it’s manufacturing sector after the discovery of a large natural gas resource in the late 1950s.

In the early 1980s, economists developed formal models to describe the operational impacts of the Dutch disease, typically a three-sector model comprising:

  1. a resource sector, generally mining;
  2. a non-resource tradable sector (agricultural/ manufacturing/tourism); and
  3. a non-tradable services sector.

The discovery and exploitation of large-scale cost-competitive mineral resources at a time of worldwide supply shortages, as reflected in high real commodity prices, will lead, especially in a small open economy, to:

  1. large-scale capital inflows and rapid growth in mining investment; and
  2. appreciation of the currency and reallocation of resources away from the non-resource sectors and, in particular, the non-resource tradable sector towards the mining and construction sectors.

The competitiveness and capacity of the non-resource tradable sector declines. To some economists this is not a problem. They argue that countries should specialise in industries where they have a comparative/ competitive advantage. The crowding out of non-resource tradable industries is part and parcel of economies maximising their living standards through greater specialisation in what they can (now) do best.

The designation of the Dutch disease, however, describes a case where, in the longer run, productivity and employment would have been higher in the absence of an intense episode of resource development. Clearly, this will be the case if the resource runs out within a decade or two, as was the case of natural gas in the Netherlands. To its credit, the Netherlands Government realised this before it was too late and took action to gain general benefits from its burst of offshore gas production.

When the mineral resource base goes into decline, an expansion of the non-resource tradable sector is required to offset the decline. However, this cannot be easily done because, during the years of resource expansion, declines in non-resource investment, R&D and skill formation widen the competitive gap between the sector and its (previous) foreign peers. Neither cash flow nor institutional support measures are available to help close the gap. As a result, trend growth will decline and per capita GDP levels and living standards (consumption per capita) will fall below the levels that would have been achieved in the absence of the episode of resource development and production.

Capture14 Capture15 Capture16 Capture17 Capture18

For countries with large reserves of unexploited resources that cannot be exhausted in the foreseeable future, the concept of the Dutch disease has been extended to cover the net outcome once the investment/expansion phase has ended and the production phase commenced, bringing with it a supply response. In this case, the crowding-out effect is caused by the high exchange rate and high utilisation of skilled labour during the construction phase of the episode of elevated resource expansion, with the Dutch disease occurring if manufacturing output contracts from what would otherwise have been the case. The need to reinterpret the Dutch disease along these lines for the Australian case is clear. The original Dutch disease event referred to a once-off resource expansion event with the product supply (gas) from the investment coming to an end. In the Australian case, the natural resource base of the economy has allowed sustained long-term expansion. In addition, cost is associated with the episodes of concentrated investment and associated supply growth.

In this context, and adopting the three-sector model framework, Table 1 lists the options that could follow an episode of high resource investment. The table refers to the production impacts of the resource supply after the period of elevated investment and the associated high commodity prices, exchange rates and skilled labour supply pressure has ended. Unless there is a skilled labour supply constraint, overall growth exhibiting positive net additionality is virtually guaranteed during the construction phase. The doubt is whether positive net additionality carries over into the production phase.

Table 2 sets the criteria that apply to resource expansion outcomes. A resource curse outcome applies when there is little or no net addition to overall growth.

The label ‘Dutch disease’ applies (irrespective of whether or not there is overall additional growth) if activity in the manufacturing sector (or, more broadly, the non-resource tradable sector) declines from levels that would otherwise have been achieved in the absence of the episode of elevated mining expansion and the decline is proportional to the expansion in resource production.

Although the definitions in the table refer to the post-investment phase, the outcomes for the non-resource sectors in the economy will largely depend on what happens during the investment/construction phase of the resource expansion. This is because, as outlined above, episodes of elevated resource investment can all too easily result in the non-resource trade-exposed sector being crowded out, expressed in terms of long-term declines in capacity installed compared to what otherwise would have been the case. These impacts have long lags and it may be well into the production phase of an episode of elevated resource investment before the negative production consequences flowing from the investment phase are realised.

It can be seen from Table 2 that there is one case where both the Dutch disease and resource curse apply. The case of a resource curse without the Dutch disease mainly applies to developing economies without a substantial manufacturing sector. In the case of an economy like Australia’s, with a significant manufacturing sector, if the resource curse applies it will most likely be associated with the occurrence of a severe case of the Dutch disease.

Conclusion
An analytical structure for assessment of the benefits of episodes of enhanced mining expansion has been developed in this article. It is undisputed that such episodes generate prosperity for the mining industry; the question is to what extent these benefits are offset by decline in other industries and, if so, over what time periods. The worrying possibility is that a boom in mining investment will divert investment resources away from non-mining investment to the extent that the non-mining industries cannot recover after the mining boom is over. The result will be general prosperity during the boom followed by an accentuated slump. These possibilities await practical investigation in a later article.

References

Australian Bureau of Statistics (2000), Australian National Accounts, cat. no. 5204, Australian Bureau of Statistics, Canberra.

Capture19 Capture20

 

 

 

 

 

 

 

The current mining boom is but the latest in a series of bursts of resource-related activity in Australia. The current attitude seems to be that the boom should be passively accepted as well-deserved good fortune. However, recent experience indicates otherwise. While unquestionably resource booms bring prosperity to the mining industry, as a side-effect they can easily generate recession in non-mining industries, possibly even to the extent that the overall benefit of the boom is questionable. The possibilities are outlined in the present paper.

The Mineral Resource Boom and the Economy of South West Queensland

National Economic Review
National Institute of Economic and Industry Research
No. 68   October 2013

The National Economic Review is published four times each year under the auspices of the Institute’s Academic Board. The Review contains articles on economic and social issues relevant to Australia. While the Institute endeavours to provide reliable forecasts and believes material published in the Review is accurate it will not be liable for any claim by any party acting on such information.

Editor: Kylie Moreland

This journal is subject to copyright. Apart from such purposes as study, research, criticism or review as provided by the Copyright Act no part may be reproduced without the consent in writing of the relevant Institute.

ISSN 0813-9474

The mineral resource boom and the economy of South West Queensland
Dr Ian Manning, Deputy Executive Director, NIEIR

Abstract
As outlined in the State of the Regions report for 2012–2013, the current national resource boom is patchily distributed, with some regions reporting frenetic activity and others depressed as a side-effect of the boom. South West Queensland lies on the margins of the boom: it is not involved in the booming iron ore and coal export industries but parts of it produce petroleum, natural gas and coal seam methane. To ensure that benefits continue, it is necessary to plan for what will happen after the boom has run its course. There are two main concerns. First, infrastructure should not be allowed to deteriorate as a result of boom usage or the diversion of resources to the boom. Second, the boom should not be allowed to detract from the productive capacity of the pastoral, tourism and other non-mineral resource industries in which the region has expertise. The present paper investigates several policy measures to optimise the benefits from the mining boom. Such measures include: ensuring that the mineral resources industry makes appropriate contributions to local infrastructure through a rural equivalent of the urban developer charge system; ensuring that the industry makes appropriate direct contributions to local government; increasing state royalties to fund a regional development trust, as pioneered in Western Australia; financial regulation to require appropriate financial intermediaries to insure housing values in the towns of the region; and investment to improve the quality of transportable homes. A further measure, a review of income tax zone rebates, is canvassed in a complementary paper.

This paper was prepared for the Shires of Bulloo, Murweh, Paroo and Quilpie, the Maranoa Regional Council and Regional Development Australia, Darling Downs South West region. It is printed with permission.

National resources and the economy
Geoffrey Blainey’s popular history of Australian mining is entitled The Rush That Never Ended. Despite this title, it is actually the history of a sequence of rushes, some small and local in their effects but a few of them major to the extent that they changed the course of national economic history. These major rushes (mining booms) were separated by decades when other industries took the lead in Australian economic development. Over much of the nineteenth century, before Australia became an integrated economy, the pastoral industry was in the lead in all six colonies, while farming provided a solid basis for development in most colonies in the late nineteenth and into the twentieth century. The prosperity of the post-war period in the mid-twentieth century was based on manufacturing. However, the late twentieth century saw a revival in the exploitation of mineral resources (mining is now something of a misnomer: underground mining has declined in favour of quarrying and oil and gas wells). The Poseidon boom was preceded by the first Pilbara boom, after which there was a lull followed by the present resources boom.

The national resources boom
The current Australian resources boom is a response to an unexpected increase in the international prices of three minerals. First, The US dollar price of iron ore rose more or less continuously from 2004 to peak in 2011 at nearly thirteen times its level in 2003, although it has since fallen to eight times its 2003 level. Second, the US dollar price of thermal coal rose from 2004, spiked in 2008 then fell, before recovering to four times its level in 2003. Finally, the US dollar price of liquefied natural gas (LNG) rose from 2004, spiked in 2008, fell, and then recovered to four times its level in 2003, although falls are expected given declining gas prices in the United States.

Although part of each of these increases reflects the fall in the value of the US dollar, the increases have been substantial whatever the currency used to measure them. Australia has resources of all three minerals and, once it was realised that prices were going up despite the Great Financial Crisis, investment boomed in increasing Australian production capacity. The reason for the high prices lies primarily in demand from China arising from rapid economic growth.

In describing the effects of a resources boom, it is important to keep an eye on the future. The very word ‘boom’ implies subsequent bust. There are some who believe that the current level of activity in the mineral resource industries is not a boom but can go on forever. However, the historical record is that peaks in mineral prices have been followed by periods of lower prices as international supply has caught up with demand. There is every reason to expect that this will occur in the present case, if only because the Chinese are investing heavily in expanding supply, partly in Australia but also in other mineral-rich countries. When prices fall the industry responds by reducing investment in capacity expansion and the boom ends. Regions which prospered during the boom are thrown back on other sources of employment.

The rush of the current resources boom is well measured by gross operating profits in the ‘mining’ industry, which, as defined by the Australian Bureau of Statistics, includes all mineral resource exploitation. In 2011 profits in the industry were running at the rate of approximately $A94 billion a year: nearly four times their level a decade previously. In 2011 profits in the mineral resource sector accounted for 32 per cent of all business operating profits (excluding the agricultural sector and most of the finance sector), a significant increase from their share of 19 per cent in 2001. This increase in profit share was largely at the expense of manufacturing, which had approximately the same share of non-agricultural, non-financial profits as mineral exploitation in 2001 but declined to 11 per cent in 2011 (ABS, 2012). There was a causal relationship at work here:

  • The Reserve Bank of Australia responded to the resources boom by raising interest rates. The currency market responded to this and to the increase in foreign investment in Australia by raising the Australian exchange rate, which reduced the Australian dollar prices of imported manufactured goods. The Australian manufacturing industry found itself unable to compete.
  • The rise in resource exploitation profits generated a boom in resource-related investment and, hence, in the demand for construction labour. Although there has been no general wage breakout during the boom, there has been competition for skilled labour, to the detriment of manufacturing.

Although the primary victim of the resource boom has been manufacturing, the high exchange rate has penalised export industries across the board, including resource exploitation itself. However, the penalty is of little concern to the mineral resource industry because it has been counterbalanced by booming prices. In addition, the industry is largely overseas-owned and thinks in terms of the US dollar, the euro, the yen or the yuan. The penalty has been severe for tourism and export education but because of the hazy definition of these industries in official statistics is not well documented.

The farming and pastoral industries are also trade-exposed, but have been relatively well placed to survive the high exchange rate, for three main reasons. First, the agricultural and pastoral industries have a long history of exposure to fluctuating world prices, including (since 1983) fluctuations due to the floating exchange rate. Through long and sometimes bitter experience they are better prepared to deal with fluctuating prices than manufacturing and service industries. Second, the agricultural and pastoral industries likewise have a long history of exposure to good and bad seasons, which has again forced resilience upon them. It has helped that in much of Australia seasonal conditions have been reasonably good in recent years so that increases in quantity sold have helped to counteract price reductions due to the spike in the exchange rate. Finally, international prices for a number of key pastoral and agricultural commodities have been reasonably favourable over the past few years. Thus, in 2011 the US dollar prices of beef and fine wool were sufficiently high to offset the exchange rate so that Australian dollar prices were comfortably above the low levels suffered in the 1990s and up to 2005. These factors have so far sheltered many agricultural and pastoral businesses from the adverse effects of the resources boom expressed in the high exchange rate and competition for labour.

A further potential adverse effect of resource exploitation, its environmental impact, can be important for the agricultural and pastoral industries, as well as for tourism, although it is not important for manufacturing or export education. For example, several decades ago the mining of beach sand in Queensland was curtailed because of its serious environmental effects, including the impact on tourism. More generally, resource exploitation can directly disrupt rural production. Mineral exploration can involve entry to farm properties, which affects the use of the properties, while mining and quarrying can debilitate farmland, pre-empt water supplies and pollute creeks and ground water. The various state mining acts provide for compensation but farm organisations argue that the compensation is insufficient. More fundamentally, they claim that it is not right that mining should have the automatic precedence over agriculture as a land use granted to it by the current state mining acts.

The rapid changes in relative industry competitiveness that have resulted from the resources boom have had pronounced regional effects. Activity has boomed in the mineral resource regions and slumped in regions based on manufacturing and tourism. The effects in the agricultural and pastoral regions are more complex, partly because the high exchange rate has been partially offset by increased international prices and partly because several agricultural and pastoral regions also host mineral resources.

The prospect of an end to the boom is of great importance in assessing its effects. If the increase in the profitability of mineral resource exploitation is permanent, it is rational to divert resources from less-profitable industries to the new high-profit industry. However, if the high profits are temporary, the diversion of resources may come to be regretted once the boom ends and the country has to depend on its established industries. Thus, a boom that weakens other industries, for example by raising wage costs so that routine maintenance is postponed, may turn out to be costly in the long term, because it will be difficult for the established regional industries to take up the slack when the boom ends. In contrast, it is possible for boom investment to strengthen the other industries, for instance, by improving general transport infrastructure. If this happens its long-term effect is likely to be positive.

South West Queensland: Geography and population
As an example of the effects of the resources boom in a largely pastoral region, part of which has been directly affected by the boom, we take South West Queensland, here defined as five local government areas (LGAs): Bulloo, Maranoa, Murweh, Paroo and Quilpie. This region lies north of the New South Wales border and forms a strip approximately 350 km wide, stretching roughly 800 km east from the South Australian border. Four of these LGAs are legally shires, while Maranoa is legally a regional council, but, with apologies to Maranoa, in this article we will use the term ‘shire’ to refer to each of them. Each shire is geographically large, typically 200 km east to west and 200 km north to south. At the 2011 Census the resident population of the region was 20,931. More than half these people (13,100) live in Maranoa. The largest town in Maranoa, and, indeed, in the region, is Roma, with a population of approximately 6,000. The next most populous shire is Murweh, which accounts for nearly one-quarter of the population of the region and has the second-largest town, Charleville, with a population of around 3,200. Paroo follows, with a shire population of 1,900, including the region’s third largest town, Cunnamulla (population 1,200). Quilpie Shire has a population of a little fewer than 1,000 and Bulloo Shire a resident population of 400. The region has one other town of around 1,000 population: Mitchell, in Maranoa shire. The largest town in Quilpie Shire is Quilpie, with the population around 560, while the largest (some would say only) town in Bulloo Shire is Thargomindah, with a population of 200.

Over the past two decades the population of the region has increased gently, although it is best described as stable.

The economy of South West Queensland
The market value of output produced in the region, excluding corporate profits, is estimated at $A918 million, of which roughly 60 per cent originates in Maranoa, 19 per cent in Murweh, 8 per cent each in Quilpie and Paroo, and 4 per cent in Bulloo. The value of output per person employed is highest in Paroo and Quilpie (approximately $A108,000 per worker). This is something of a statistical artefact, because output in these shires is dominated by the pastoral industry, much of which is run by family businesses whose profits are included in the value of production. The value of output per person is somewhat lower in Bulloo and Maranoa: between $A80,000 and $A90,000 per person employed. The gas industry is important in these shires, but its corporate profits are not included in the value of production because they are difficult to allocate geographically and do not generate incomes available for local distribution. Finally, Murweh has the lowest value of output per person employed, a little under $A70,000, due to its hosting low value-added industries, such as the abattoirs and various service industries.

Across the region as a whole, approximately 7 per cent of the value of production is not available for distribution within the region because it is claimed by workers who live elsewhere. The remaining income generated within the region is split more or less equally between wages/salaries and business income. In 2010– 2011 residents of the region paid approximately $A160 million in income tax but received approximately $A180 million in social security payments. The balance differed between the shires. Income tax payments by Murweh residents comfortably exceeded their social security receipts but it was the other way round in Paroo, with the position in the remaining shires being more or less balanced. Residents of the region also paid indirect taxes but benefited from the provision of government services that generated employment in public administration and police, education and health services. This employment accounted for nearly one-quarter of total jobs, and its location was determined largely by government policy on service provision and, in turn, by the location of people who required services. The underlying reason why people live in the region is the incomes generated by its economic base.

The economic base of South West Queensland
Residents of the region earn incomes from the export of the products and services of three main industries to people outside the region. These economic base industries account for approximately one-third of total employment in the region, with other support and service industries accounting for the remaining two-thirds. In what follows, the long-term economic mainstay of the region, the pastoral industry, is first considered. Tourism and support services are then discussed before turning to mineral resource exploitation.

The pastoral industry
The resident employed workforce comprises a little over 10,000 workers, of whom one-quarter are employed in agriculture and forestry: primarily in pastoral production, although dry-land crops are grown in favoured parts of Maranoa. There is also a small irrigation area based on the Warrego River at Cunnamulla. In addition, the wild honey of the bush is harvested by beekeepers and the forestry industry feeds several small sawmills. The principal export products are beef cattle, wool and sheep for meat. Producing all three requires careful management to ensure that the fluctuating carrying capacity of the country is utilised without overgrazing. Management techniques include rotation between paddocks, browsing, agistment and judicious timing of animal turn-off.

Several challenges face the pastoral industry. One such challenge is maintaining detailed local knowledge to underpin property management. This knowledge is not easily acquired because it takes decades to experience the full range of seasonal conditions. Another is developing pastoral products that meet specific market requirements and, hence, command premium prices. Controlling costs, particularly labour costs but also transport costs, is another issue. It is here that there is potential for conflict with the mining industry. Another issue is the control of pests, especially wild dogs and cats.

Two other meat animals, goats and kangaroos, offer potential for expanded production, but both are difficult to manage because neither species respects fences. So far, goats have been herded and then processed as for other meat animals while kangaroos have been culled in the field: a process that has led to problems of quality management. The future of these products depends on improvements in animal management.

For the region as a whole, employment in the pastoral industry declined by 20 per cent from 1991 to 2011. The decline was most severe in Quilpie and Bulloo and had two major causes. The first was the prolonged slump in wool prices during the 1990s and early 2000s, which generated a move out of wool. There was a magnified effect on regional employment, because wool production is more labour-intensive than beef cattle or meat sheep production, and even itinerant workers (such as shearers) tend to live locally. The second major cause was an unusually long drought, particularly in the western part of the region. Both the drought and the wool slump have ended, and over the past few years employment in the pastoral industry has been recovering. It should also be remembered that other elements in regional employment are directly linked to the industry. Roma has the largest cattle sale yard in Australia and Charleville has one of the few remaining inland abattoirs.

Pastoral production is an extensive land use that is not seriously disturbed by mineral exploration nor seriously compromised by oil or gas wells or pipelines. The main potential for environmental conflict concerns ground water, with potential for competition for ground water flows and potential for the mineral resource industry to pollute ground water flows as well as creeks and waterholes.

Tourism
Compared to the agricultural and mineral resource sectors, tourism is a relatively minor export industry for the region. Accommodation and food services account for less than 6 per cent of the resident workforce and many of these workers are employed to provide services for local people or for the mineral resource exploitation industry. However, the region has capitalised on its position astride the grey nomad route through inland Australia, an imaginative example being its investment in the Cosmos Centre at Charleville. The region does not attract many international visitors except for the backpackers who provide much of the hotel workforce in Roma. The mining boom has resulted in a shortage of tourist accommodation in Maranoa but not in the other shires.

Support industries
Apart from the export-oriented elements in its economic base, the region provides employment in necessary commercial support services in transport, construction and trade. These services account for approximately 40 per cent of total employment in the region.

Mineral resource industries
The region’s second most important export industry, measured by employment, is the exploitation of mineral resources, which employs a little over 5 per cent of the resident workforce. Because of the importance of fly-in fly-out in this industry, its contribution to total jobs located in the region is somewhat greater, at 8 per cent, and because it pays relatively high wages its contribution to wage incomes would be somewhat greater again, but still way short of the pastoral industry.

This industry comprises three distinct segments. First, in Quilpie and Bulloo Shires, opals are mined by fossickers and other small businessmen. These enterprises have none of the characteristics of the big mining companies and can be treated as an adjunct to the tourism industry.

Second, the western parts of Quilpie and Bulloo Shires lie within the Cooper Eromanga basin and have proved prospective for hydrocarbons. Local crude oil production supports the Eromanga oil refinery: a small but significant enterprise that supplies diesel, kerosene and specialist mining fuels to a large area of outback Australia. The Jackson oilfields in Bulloo shire have been producing since 1981, with crude oil piped out via Adelaide and Brisbane. More recently, the area has been developed for natural gas. Santos operates a processing facility at Ballera, from where gas can be piped west to the Moomba hub, north to Mount Isa or east to the hub at Wallumbilla. Exploration is under way to potentially extend gas production to Paroo and Murweh Shires, but these at present have no mineral production.

Finally, energy resources available in Maranoa include coal, oil, natural gas and coal seam gas. Coal was mined at Injune until the dieselisation of the Queensland Railways in the early 1960s. The oil and natural gas fields have a century-old history, much of it a history of disappointment. The natural gas hub at Wallumbilla, east of Roma, was not sited to serve local production but lies at the point where the natural gas pipeline from Ballera bifurcates to serve Brisbane and Gladstone. However, over the past decade, coal seam gas production has increased considerably in Maranoa and across the borders in Western Downs and Banana. These increases have generated investment in gas processing plants and an increase in the importance of Wallumbilla. Coal production has yet to resume in the shire but seems likely to do so as soon as the present limits on transport capacity to the coast can be overcome.

Resources boom in South West Queensland
The national resources boom has been based on iron ore, coal and gas. South West Queensland cannot produce iron ore and does not currently produce coal but has been well placed to participate in the gas boom. The pace of development in the gas industry in South West Queensland picked up in the early 2000s, well before the national resources boom was triggered in 2004 by the rise in world prices of iron ore and energy minerals. At the time there was no question of export markets and, indeed, there was a strong possibility that Queensland would be supplied with natural gas from Papua New Guinea. Three factors served to increase interest in local gas production. First, in 2000, the Queensland Government announced a cleaner air policy, which, with a long lead time, guaranteed a market for gas in electricity generation in Queensland. Second, at approximately the same time, investors were showing considerable interest in alumina production at Gladstone, again with potential to increase the demand for gas. Finally, developments in the technology of coal seam gas production lowered costs.

In response to these signals, investment in coal seam gas began in earnest in Maranoa and adjacent LGAs. The contribution of the national resources boom has been to confirm demand, including introducing the prospect of export demand by construction of LNG export terminals at Gladstone. Investment has continued, now mainly focused on export demand. Employment in the mining sector in Maranoa continues to increase but not at the rapid rate experienced in the first 5 years of the present century.

The timing of gas industry expansion was similar in Bulloo and Paroo, although to a considerable extent it reflected the completion of a pipeline investments committed in the late 1980s. The Ballera gas hub was constructed and connected by pipeline to the Moomba hub in 1994, which enabled wells in South West Queensland to supply the Adelaide market. The pipeline to Wallumbilla was added in 1997, providing access to markets in Brisbane and Gladstone, and the pipeline to Mount Isa was completed in 1998. These connections inaugurated a program of gas field development that peaked in the early 2000s but continues to this day, with the locus of activity moving northward into Quilpie Shire. As in Maranoa, the contribution of the natural resources boom has been indirect, by maintaining confidence that gas from the Cooper Eromanga basins will continue to find profitable markets.

Sequence of mineral resource development
The impact of mineral resource development on incomes and on other industries has to be understood in relation to the typical life of a gasfield. This has four phases: exploration, construction, production and remediation.

The exploration phase is carried out by a small mobile workforce spread over a large area. This workforce is highly skilled and depends on scientific support. It is inevitably based in major centres and its members frequently camp out when in the field. The chief limit to the duration of the exploration phase is the time limits that state governments impose on exploration licences to prevent ‘warehousing’. The exploration phase ends when sufficient reserves have been proved to justify the construction of processing and transport facilities.

During the construction phase the processing plant and transport pipelines are built and a relatively large workforce is brought in. Most of this labour requires general construction industry skills. Because serious capital expenditure is involved, it is in the investor’s interest that the construction phase should be as brief as possible, a few years at the most. The high wages paid in mineral resource sector construction are partly explained by the hurry.

For most minerals the production phase requires less labour than the construction phase. However, this is not necessarily true for onshore oil fields and gas fields where, as the field ages, exploration continues to pinpoint additional reserves and wells are drilled to exploit marginal reserves.

In the remediation phase the skills required revert to general construction industry skills. Revegetation can be quite labour-intensive, but the gas industry does not require the extensive surface earthworks typical of coal mining. The mining industry has a history of failure to provide for remediation but mine and petroleum tenements now require remediation and the major mining companies make reasonable provision, the costs being small relative to the damage to their reputations if remediation is not properly implemented.

The course of the resources boom in South West Queensland can be charted by its labour market effects.

The resources boom and the labour market
Between 2001 and 2011 employment in the mineral resource exploitation sector in Maranoa increased by 380 workers and in Bulloo/Quilpie by 220 workers. These increases followed a period of construction. Although its skill requirements are not outstanding compared with manufacturing or rural industries or, indeed, with local government services, the mineral resource sector is now renowned for the payment of high wages, at least during booms. It was not always thus: workers in the Maranoa colliery of the 1950s were paid much the same wages as other rural workers.

There are several reasons for the high wage rates currently paid. For example, the gas industry, like other major resource industries, is capital-intensive. Disruptions from labour shortages that involve leaving equipment idle are accordingly very costly and employers are willing to pay to avoid plant stoppages. The quid pro quo is that workers must submit to the discipline of working the required shifts. Another reason is that plant operators in the industry are frequently in charge of valuable equipment and mistakes in equipment operation can cost millions of dollars. High wages are, in part, compensation for being careful, the quid pro quo being that carelessness results in dismissal. High wages can also be seen as compensation for the personal disruptions that occur when people go to work in distant places in jobs that carry no guarantee of permanence.

Although not all firms in the industry follow this policy, the industry has a reputation for high labour turnover and low expenditure on training. The industry relies on two main sources of labour: local labour is recruited, either from those previously unemployed or underemployed or by recruiting from those previously employed by other local industries; and labour is recruited from outside the region.

Local labour
The advantage in recruiting local people is that they are already accommodated, acclimatised and incorporated into the local community. However, not all local people take up the opportunity to work in mining. For instance, many are not willing to submit to the industry’s work discipline. In addition, production sites are frequently located away from established homes and many are not willing to put up with the resulting travel requirements. Another issue is local workers not meeting the industry’s skill requirements. Thus, it is normal for mineral resource jobs to be on offer but not taken up by the local unemployed. In many remote areas governments and some mining companies provide training programs that attempt to upgrade the work and social skills of local unemployed people, particularly Aboriginal people, and these, coupled sometimes with job redesign, have been credited with increasing local participation in the industry.

Therefore, a mining boom is no guarantee for an end to local unemployment, although by all measures unemployment rates in South West Queensland have been below the national average and significantly below the average in other rural areas that lack resource sector employment. (The exception is Paroo, which of all the five shires has been least affected by the resources boom.)

Despite the reluctance of many local workers to accept mining sector employment, the sector has succeeded in attracting locally resident workers away from employers who are not able to match resource industry pay rates. The pressure was reported as least in Paroo, which is the furthest of the five shires from developments in the gas industry: 500 km away is too far for comfortable drive-in drive-out, let alone commuting, and the supply of housing in Cunnamulla is sufficient to keep housing costs low for purchasers if not for tenants. Home owners are understandably reluctant to trade their present comforts for high housing costs in the boom areas.

At the other extreme, high rents in Roma are reported to have forced local residents into the industry just to get enough cash to pay the rent. The following were reported:

  • pastoral workers and even owners were transferring to the resource industry, often part-year in the off-season for pastoral activity. The downside of this was that non-urgent maintenance tasks on the properties were being deferred, with eventual run-down in production capacity;
  • contractors, transport businesses and councils other than Paroo were finding it hard to keep drivers and plant operators; and
  • the Charleville abattoirs now rely on 457 visa workers.

Two dangers arise if labour cannot be found at costs similar to those prevailing in the regions without mineral resource developments: government (particularly local government) assets will be run down, particularly roads; and industries will be run down or even closed. As regards roads and other local government services, the resource exploitation companies can be required to pay rates that not only cover a fair share of road costs but allow councils to pay competitive wages, even though councils are reluctant to lock in high wage rates which will continue to apply after the need for them is over. However, this opportunity is not available in shires without mineral production. As regards the pastoral industry, the effect of the resources boom seems to have been marginal. Immediately essential production tasks are being carried out but there is a concern that a maintenance backlog is building up.

In industries characterised by large employers who offer permanent career employment, the established method of staffing unpopular posts is to make service in them a condition of career advancement. Recent management fashions have deemphasised permanent employment but outback experience can still be a valuable item on a professional CV. Career promotion continues to be an important element in staffing schools, hospitals, banks, police stations and the like: broadly, in providing professional personnel. The resource exploitation industry does not, in general, directly compete for the services of remote-area professional personnel but can make it difficult to recruit such people by raising housing costs. Housing would seem to be the key to maintaining the attractiveness of non-resource jobs in the region, whether or not the jobs require skills attractive to the resource exploitation sector. This will be discussed below.

Tax incentives and Higher Education Contribution Scheme repayment incentives may also be valuable, and are discussed in a separate article.

Labour recruited outside the region
When labour cannot be found locally, the mineral resource industry recruits elsewhere, not only within Australia but overseas. The industry uses permanent visas for skilled professionals and 457 visas for other workers. When employing labour from outside the region the resource industry has used two markedly different recruitment strategies:

  • In Bulloo and Quilpie almost 90 per cent of the industry workforce has been recruited from outside the region and continues to reside elsewhere (generally Adelaide, from where they fly in and fly out). Significant numbers of support personnel in accommodation and transport also fly in and fly out.
  • In Maranoa the number of resident mineral resource industry employees very nearly balances against the number of employment positions. However, this is believed to understate the importance of drive-in drive-out for the local economy, some of the drive-in drive-out activity being internal to the shire and some of it involving cross-border traffic to and from neighbouring shires.

The obvious reason for this difference is that Maranoa is less remote than Bulloo and Quilpie. The gas fields and processing facilities of the Cooper Eromanga basin are too far from either Thargomindah or Quilpie to support daily commuting from these established towns, although drive-in drive-out is a possibility. If these fields were to be served by resident labour, it would be necessary to build new townships: probably several of them, in view of the dispersion of the fields. There are numerous arguments in favour of fly-in fly-out:

  • Nobody wants to develop settlements that become ghost towns within a decade or two. Fly-in fly-out is appropriate when a workforce has to bivouac in a remote area for the limited duration of a project, especially a construction project. Accommodation needs can be met by temporary dongas without the need to provide more than basic facilities.
  • Recent experience at Ravensthorpe (Western Australia) highlights the perils of investing in mine-site townships.
  • In some remote areas, although not as far as is known in the Bulloo and Quilpie shires, the Aboriginal Traditional Owners prefer that outside workforces are employed on a fly-in fly-out basis.
  • There are employers in the mineral resource industries who believe that fly-in fly-out workforces are easier to manage. They are less likely to unionise strongly and there is a potentially wide field of recruitment when workers are sacked for failures of discipline.

Fly-in fly-out accords well with the industry’s tolerance for high labour turnover.

  • The Cooper/Eromanga gasfields are so spread out that townships to serve them would be very small and have limited facilities.

The arguments against fly-in fly-out are as follows:

  • The fly-in fly-out lifestyle corrodes social and family life, although probably no more so than established ‘tour of duty’ occupations such as defence and seafaring.
  • Fly-in fly-out incurs high transport costs.
  • The pastoral and tourist industries in the same area rely on resident employment, so why not the resource exploitation industry?
  • Additional townships would help support the pastoral and tourist industries.
  • The Cooper/Eromanga oil and gas fields have turned yielded employment for two decades past and probably for two or three to come. Had townships been established when the fields were young they would have lasted long enough to be fully depreciated by the time their economic rationale disappears and they are abandoned and demolished.

Whatever the reasons for the long-term reliance on fly-in fly-out in the Cooper/Eromanga, the result has been that recruitment to the gas industry in Quilpie and Bulloo has placed very little pressure on local accommodation and has generated very little consumer expenditure in those shires: the fly-in fly-out workers do all their living and spending in their places of residence.

By contrast, many of the Maranoa gasfields are within daily commuting distance of Roma and other established towns and all are within drive-in drive-out distance. There has been strong pressure on all classes of accommodation in Maranoa, which, in turn, has fed back into the difficulty of recruiting employees for other industries. This applies not only to the pastoral and tourism industries (elements of the economic base) but to the service industries, which have opportunities to expand to service consumption expenditure given the increasing number of resident resource sector employees. We will return to the accommodation shortage when discussing housing.

The hospitality industry and agricultural enterprises with seasonal labour demands have made considerable use of backpackers while construction and manufacturing have made use of 457 visa workers. The question is why industries resort to immigrant labour when there are still large numbers of underemployed and unemployed Australians in other parts of the country and even within the region. One major reason is skill mismatches, many of which are as much social and behavioural as technical. More and better training and re-training are often recommended as answers. Another reason is the pressure on accommodation in the region coupled with the reluctance of Australian workers to leave their established houses in other regions and the metropolitan areas and the social networks that they have developed in those areas.

If immigrants are to be used to meet the local labour shortages created by the resource boom, there is something to be said for making work in the resource-booming areas a condition of their visas.

Transport effects
Gas and petroleum are most cheaply transported in bulk by pipeline. Once a pipeline is in place it makes no demands on the general transport system. However, the process of exploration, well drilling, processing plant construction and pipeline construction all require use of the general transport system, particularly roads, including many shire roads. The industry also uses road transport for product flows that are too small to justify pipeline construction.

Coal is a different matter. Export coal requires heavy haul transport as does domestic metallurgical coal and coal for electricity generation, except where the power station is located beside the mine. Although export coal is not, as yet, mined in the region, mines located in Western Downs and Toowoomba LGAs have contracted a high proportion of the limited rail capacity between Toowoomba and Brisbane and are also prominent generators of road traffic. The agricultural and pastoral industries complain that this is depriving them of high-capacity access to the abattoirs and Port of Brisbane: an especially serious matter for shippers who, for various reasons, do not have the alternative of export shipping through Newcastle via Moree. It is expected in the region that the construction of a rail connection to Gladstone and/or the bypassing of the Toowoomba Range by tunnel will allow a revival of low-cost bulk rail services. However, this is by no means certain, if only because the two main rail service companies active in Queensland have both decided to concentrate on bulk mineral and container traffic: there is no equivalent of the smaller operators who carry agricultural products from Moree to Newcastle. Under current prices and technologies it is arguable that the pastoral and farming industries can prosper without rail transport, but there is a strong argument for maintaining rail capacity against that day when the reduction of greenhouse gas emissions becomes a world and national priority.

Returning to roads, the Commonwealth remains the main source of roads funding for the South West, just as it is the main collector of road-related taxes. Its distributions are watched intently by local government and are more or less adequate: average road condition in the region is now substantially better than it was a couple of decades ago. The five shires also appear to have been reasonably satisfied with the distributions for flood damage repair made during 2011. However, resource-boom effects on local costs are not taken into account in the Commonwealth’s distributions. Again, some local roads bear mineral resource-related traffic, which is not taken into account in the Commonwealth’s distributions. However, the three shires directly affected (Bulloo, Quilpie and Maranoa) have moved to increase rates on the oil and gas industry to cover these costs. Shires have also negotiated with the gas companies to directly finance the construction of public roads required by the industry.

These arrangements do not cover road use during the exploration phase of mining development nor do they cover roads used in adjacent shires that have no mining tax base. However, apart from these deficiencies, the arrangements appear to be working.

Payments by resource extraction companies to governments
In addition to general taxes, such as corporation tax and payroll tax, there are two main classes of payment that governments may require from companies that extract non-renewable resources. The first is compensation for costs imposed on the community, notably road costs but also other items such as the cost of site rectification and pollutant management when these are left to governments rather than done by the business itself. The second is compensation for the loss of non-renewable resources. In the Australian states, these resources are owned by the states and compensation is known as royalties. The resource exploitation industries like to refer to royalties as taxes, but this is not correct.

Royalties are the price that the resource industries pay to gain ownership of the minerals they extract.

Because subsoil minerals in the region are the property of the state, neither local government nor the Commonwealth have the right to levy royalties. Therefore, local government has concentrated on cost recovery.

Payments to local government
The principal source of local government revenue, other than grants, is the rate on land. As landowners and lessees the mineral resource industries are liable to pay rates.

Queensland legislation requires rating to be on unimproved values, which have considerable merit as means of spreading the rate burden across ratepayers. However, a strict unimproved value rate generates notoriously small revenue from town allotments in rural shires. The legislation allows differential rating and it has become customary to impose a higher rate in the dollar for urban allotments than for rural allotments, the differential being determined by an estimate of the value of services provided to town ratepayers as compared to rural ratepayers. Rating on strict unimproved values also yields very low revenue from mineral resource exploitation properties: the unimproved values of these properties are low because the state-owned mineral resources lying under the property are not taken into account in valuing them. Local government has accordingly extended the established practice of differential rates for urban properties to impose differential rates on the mineral resource industry.

We may take the example of Bulloo Council, which has defined four areas occupied by mineral extractive businesses, each of which, ‘by virtue of its operation impacts significantly on the economic, environmental and social welfare aspects of the local community’.

Two of these areas are large consumers of council services, particularly roads. Land in these four areas attracts a considerably higher rate in the dollar unimproved capital value than rural land. These rates were determined by negotiation between council and the industry, and reflect estimates of: road maintenance costs occasioned by resource industry traffic; depreciation of relevant roads, which is fully funded; waste management; a contribution towards other shire services; compensation for the increase in wage costs due to the local presence of the mineral extraction industry; and a contribution towards the sustainability reserve which is being accumulated with an eye to maintaining services (particularly roads) when direct contributions from the resource industry cease due to the exhaustion of non-renewable resources.

By means of differential rating, Bulloo Shire Council raises nearly three-quarters of its total rate revenue from the oil and gas industry, but because grants and recoverable works are major sources of council funds this represents only 16 per cent of operating revenue. (Recoverable works are mainly road works at the behest of the state and Commonwealth governments but can include works negotiated with the resource companies to further their operations.) At less than $A3 million, the rate payment is also a minor expense in the books of the oil and gas companies.

Quilpie follows similar differential rating policies, and in 2011–2012 expects to raise nearly half its rate revenue from the oil and gas industry. After imposing differential rates on the industry it has abandoned a former road maintenance contribution levied on oil haulage. In rating the oil and gas industry Quilpie keeps an eye on the value of mineral production in the shire as reported by the Department of Mines and Energy.

Maranoa has likewise defined six resource-related areas on which it imposes differential rates: four areas of extractive industry plus petroleum leases and land ‘that is identified as having a gas refinery established on it’.

Although all shires host pipelines these are not rated. This policy concords with the general rate exemption for transport facilities. Mineral exploration licences are similarly rate exempt, presumably because they do not grant ownership or leasehold of land for which an unimproved value can be assessed. However, given their legal status as tenements they are potentially rateable, particularly if a fair value could be determined vis-à-vis other land titles.

The differential rating approach appears, so far, to have yielded revenue reasonably proportional to the increase in operational costs occasioned by resource extraction.

Two approaches have been noted: the ‘Bulloo’ approach, based on a broad assessment of the costs occasioned by resource extraction, including contributions to a sustainability fund; and the ‘Quilpie’ approach, based on the value of production. These two approaches frequently occur in public finance, the former reflecting the benefit principle and the latter the ability-to-pay principle. In the local government context the cost-based approach is on firm ground, but the negotiated nature of the settlements could prove a weakness in the case of councils that underestimate costs or that encounter resource extraction companies that are determined to strike a hard bargain, irrespective of the costs they impose. There may also be potential for dispute as the profitability of mineral extraction declines. If arguments develop, the parties are likely to appeal to costs, and councils should be prepared to provide a careful and accurate account of the costs occasioned for them by resource exploitation. The ability-to-pay approach is riskier for the council: it avoids the difficulty of trying to recover costs from unprofitable mineral extraction ventures and is likely to raise greater revenue from bonanzas. It is open to the objection that it is effectively a royalty and, hence, open only to the state (see below), but there are precedents in indigenous mining agreements and in the conditions under which mining leases are bought and sold. Given that state royalty rates on gas are 10 per cent of wellhead value, a local government addition of approximately 2 per cent would not be an excessive burden on the producers.

The two principles are not mutually exclusive, and it could be appropriate to combine them, with a basic rate related to direct costs occasioned by resource exploitation and a value-related addition, which would come into play only when the basic rate yielded less than (say) 2 per cent of wellhead value. The additional revenue could then be credited to a sustainability reserve.

A second area where there may be scope for formalisation of current practice is the once-only capital contributions made by resource extraction companies as part of bringing resources into production. An analogy may be made with the contributions made by developers of urban housing estates. Contributions by resource companies may appropriately include capital roadworks, water supply, sewerage, water pollution control and drainage works required for the project to proceed.

An important aspect of urban developer contributions is compliance with town planning. This cannot so easily be imposed on mineral resource developments, because the resource determines the location of the development. However, there is scope for negotiation over the location of supporting developments: roads, pipelines, processing facilities, campsites and townships. It makes sense to locate these so that, as far as possible, they will be generally useful both during and after resource extraction. For example, some of the remote area roads in Bulloo Shire have been routed to be useful to grey nomads as well as to the gas industry. Maranoa is seeking to ensure that facilities are subsequently useful for rural residential areas.

A more contentious matter is the question of industry contributions to housing and urban development. It is accepted practice that where the mineral resource industry (or the pastoral industry for that matter) employs people in remote areas it should provide accommodation. Such accommodation is either exempt from fringe benefits tax (FBT) or is assessed for FBT at

50 per cent of ‘market rates’. In towns where there are dwellings for private rental, FBT becomes unavoidable. There is a case for review of the incidence of FBT to ensure that it does not constitute a subtle incentive favouring fly-in fly-out.

A question of incentives also arises where councils require that resource companies should pay developer charges towards the provision of housing in existing towns which are to be extended to accommodate resource industry workers. The companies may then calculate that it is cheaper for them to use drive-in drive-out or fly-in fly-out. Despite the possible adverse incentives, there is a case that developments other than short-term construction should include a contribution to local government urban infrastructure. There may also be scope for measures to assist in the provision of actual housing, for example a requirement that resource exploitation companies, as part of the price of their permission to exploit, should provide bank guarantees for mortgages raised on new owner-occupied or rental housing owned by third parties in urban areas expected to house personnel employed at the resource development, with the number of dwellings covered depending on the size of the resource development.

Payments to the state government: Royalties
The administration of mineral wealth would be a relatively simple matter if all resources were known, complete with the cost of extraction. The fundamental problem of resource management would then be seen as one of resource allocation between the current and future generations. Having made a decision about this, the state could call tenders for the extraction of particular resources. It would receive, as sales revenue, the difference between the tender price and the resource sale price. However, neither the true extent of resources nor the cost of their extraction are known. Weighing up the risks and incentives, the state may be expected to maximise the return from its resources if it exacts a price that rises as the final sale price of the mineral goes up but falls as extraction costs increase. A price so determined becomes a form of profit sharing and can easily be mistaken for a tax: an emotive misidentification which the mining industry played for all it was worth in opposing recent Commonwealth mining tax proposals. In fairness to the industry, the Commonwealth proposal was, indeed, a tax, because the Commonwealth has no right to levy royalties (if a state had required a similar payment, it would have been a royalty). The Commonwealth saw an opportunity to raise revenue because the states had failed to raise their royalties in line with the resources boom. The upshot is that the right of the states to levy royalties has been vindicated and they have the opportunity to raise their mineral prices to claim a larger share of the current boom.

The history of royalty payments in Australia begins with the nineteenth century gold rushes, during which the colonial governments were reluctant to levy royalties because the diggers were numerous, vociferous and had many ways to evade payment. To this day, fossicking minerals are largely exempt from royalties, in Queensland and elsewhere. However, most of the mineral extraction industry is now large-scale and capital-intensive and there are no technical problems in the calculation of royalties provided the formula is clear. In Queensland royalties are mostly charged ad valorem, varying by mineral, as follows: gemstones are free of royalty up to $A100,000 sale value, after which the state claims 2.5 per cent of their sale price; petroleum (including natural gas and coal seam gas) is sold for 10 per cent of its wellhead value; and coal is sold for 7 per cent of its value up to $A100 a tonne and 10 per cent thereafter, with the calculation performed separately for domestic and export sales.

Because this revenue is derived from the sale of non-renewable assets, there are strong arguments for hypothecation of the revenue to investment in replacement assets. Western Australia has set a precedent with its Royalties for Regions fund, which feeds the Western Australian Regional Development Trust. Queensland faces many of the same problems of development of remote regions as Western Australia, so the Western precedent is especially relevant and should be investigated.

One of the hopes of the Western Australian government is that it will be able to develop industries to process its resources before they are exported. People in South West Queensland also wonder whether manufacturing industries can be built on the basis of its gas and coal supplies. The present oil refinery at Eromanga provides a small-scale precedent, but it is sheltered by transport costs from world competition in a way that a larger-scale industry would not be. Even so, the region should be alert to opportunities, which could arise in conjunction with that other energy resource which the region has in abundance: sunlight.

Housing
At the 2006 Census, approximately one-third of the occupied dwellings in the region were rented with the remaining two-thirds occupied by owners or purchasers. The individual shires varied from the overall pattern as follows:

  • In Bulloo, the proportion renting was relatively high, due largely to state-owned houses, many of which were presumably occupied by personnel providing state services. In addition, the council was an important landlord. Few houses were being purchased but a substantial proportion was wholly-owned. Very few new dwellings were being built.
  • The pattern in Paroo and Quilpie was broadly similar, although with a little less emphasis on state ownership and a few more home buyers. New dwellings were under construction despite the gradual fall in population in Paroo.
  • In Maranoa and Murweh, approximately one-quarter of dwellings were being purchased, balanced by a smaller proportion of outright ownership. New dwellings were under construction but not at a particularly rapid rate and in Maranoa a shortage of accommodation was developing.

All shires reported that they were trying to promote low accommodation costs as a way of retaining workers for industries that could not afford to pay resource industry wage rates. A primary element in the strategy was low land costs, well below metropolitan levels. However, both lot servicing costs and dwelling construction costs were higher than in the metropolitan areas for three reasons: the transport costs for materials; the need to accommodate out-of-town skilled labour; and the lack of economies of scale in construction.

In Thargomindah the impact on costs was estimated at between 25 and 30 per cent over costs in Toowoomba, raising the cost of a $A300,000 dwelling to $A380,000. The impact in Charleville would be less because of the availability of local tradespeople, but in Roma would reflect direct competition from resource-related construction for the services of local tradespeople.

In Australia the preferred low-cost tenure is home ownership. The low costs derive in part from tax favours, particularly the lack of taxation of capital gains made on owner-occupied dwellings. However, the benefits of owner-occupancy can be offset by the costs of buying and selling houses. For people who are obliged to change residence in the course of their careers, home ownership is not necessarily the lowest-cost housing option, particularly when they live in regions where capital gains are far from guaranteed. In South West Queensland towns home ownership is likely to be the lowest-cost housing option for people who stay put for at least a decade, perhaps less, but there is likely to be a healthy demand for rental accommodation not only from people who cannot surmount the financial barriers to home ownership but from people who expect to be stationed in the town for less than a decade.

Two particular barriers to entry into home ownership were reported in the towns of South West Queensland: bank requirements for relatively high down payments, reported to be due to an assessment that employment continuity is risky in towns with a narrow economic base; and fear on the part of potential buyers that they might be landed with capital losses, again reflecting an estimate that the economic base is narrow and the risk of downturns is serious. These two barriers also affected investment by private landlords: hence the heavy reliance on employer-provided housing, including housing provided by the shires. Several of the shires have become active traders on the housing market in the attempt to keep house prices down in their towns.

The two barriers have a common cause: the risks that derive from a narrow economic base. However, pool together all the remote towns of Australia and one no longer has a narrow economic base. This is the classic basis for insurance. It is surprising that the finance sector, which so prides itself on its capacity to innovate, has not offered insurance against the risk of falling dwelling values in defined locations. Essentially the risk concerned is that of falling unimproved values, although it could also be based on average improved values for the town concerned. There is a case for Commonwealth government action to ensure that the finance sector provides such insurance, at least in remote areas (but possibly generally) at a reasonable price. If this risk can be specified and insured against, it should become easier to gain funds for investment in housing in remote areas. (A similar proposal is developed in R. Shiller, 2004, p. 118.)

Another suggestion is to invest in the upgrading of removable homes. Historically, a high proportion of the dwellings in South West Queensland have been wooden, designed so that, if they are no longer needed on a particular site, they can be uplifted from their stumps and re-erected elsewhere. In view of the uncertain prospects for employment based on mineral resources, there is a case for a continuation of this tradition, with opportunities to use prefabrication and modern materials. Such techniques are already in general use for temporary camp dongas and the challenge is to move them upmarket. There is also a challenge to local government to ensure provision of adequate sites for such homes, not in caravan parks but urban lots so that the resident families can integrate into the town population without stigma. Such land developments should include plans for re-use of the sites should this become necessary.

As noted above, the only industry in the region with the capacity to pay developer charges to councils to assist with new housing construction is the resource exploitation industry, where such charges may be required as part of the price of the resource. Many factors enter into the decision as to whether a given mining licensee should be required to contribute to housing development, particularly the permanence of the development and its location vis-à-vis employee source towns. However, councils should not be shy of arguing for such contributions.

Gender balance in employment
It is now accepted Australian practice that both men and women wish to be in paid employment while they are of workforce age. Therefore, if families are to be attracted to live in country towns suitable paid work must be available for both husbands and wives. Second-earner work does not necessarily have to be full-time (many second-earners prefer part-time work), but it does have to be available, along with complementary services, particularly child care.

The labour market in the towns of South West Queensland has proved reasonably accommodating in supplying work for married couples. The service industries are adept at creating part-time positions, the gender stereotyping of jobs has broken down and the TAFE network assists in providing necessary skills. However, there is still a responsibility for councils and other public institutions, in their role as employers, to watch the local labour market and endeavour in their employment policies to ensure that couples can find satisfactory work for both partners.

Tax concessions and government services in remote areas
In this article the consequences of the resources boom for South West Queensland have been reviewed. The region has participated in the boom, although not fully: mineral resource exploitation has not become its dominant economic activity. On the assumption that booms do not last forever, we have considered ways in which the pastoral, tourism and other industries can be sustained, not only for the sake of their current economic contribution but even more in anticipation of their continued contribution once the resources boom has subsided.

The discussion has not been exhaustive and, in particular, two groups of policies have not been mentioned. First, the Commonwealth offers tax incentives to work in remote areas. These can be helpful in recruitment and payment of personnel. Second, both the Commonwealth and state governments pursue policies on service provision which can be helpful in recruiting personnel to work in South West Queensland. These topics (which are related) are discussed in a companion article.

Conclusion
On balance, South West Queensland is benefiting from the mineral resources boom: some shires more than others. However, to ensure that benefits continue, it is necessary to plan for what will happen after the boom has run its course. There are two main concerns. First, infrastructure should not be allowed to deteriorate as a result of boom usage. Similarly, infrastructure put in place as a result of the boom (including transport, water management and urban development) should be designed for maximum value after as well as during the boom. Second, the boom should not be allowed to detract from the productive capacity of the pastoral, tourism and other non-mineral resource industries in which the region has expertise. Even during the boom these industries continue to dominate the region’s economic and employment base, and the region will once again turn to them when the resource boom subsides.

Numerous measures have been canvassed in this paper. One such measure is ensuring that the mineral resources industry makes appropriate contributions to local infrastructure through a rural equivalent of the urban developer charge system. (The local governments of the region are already doing this but there may be room for systematisation.) Another is ensuring that the mineral resources industry makes appropriate direct contributions to local government. (The local governments of the region are already doing this through differential rating but there may be room for underpinning what are essentially now negotiated contributions.) In addition, state royalties could be increased to fund a regional development trust, as pioneered in Western Australia. Financial regulations should require appropriate financial intermediaries to insure housing values in the towns of the region. Finally, investment is necessary to improve the quality of transportable homes.

References

Australian Bureau of Statistics, 2012, ‘Business Indicators, Australia, Mar 2012’, cat. no. 5676.0, ABS, Canberra.

Shiller, R., 2004, The New Financial Order, Scribe, Melbourne.

Blainey, G., The Rush That Never Ended, Melbourne University Press, Melbourne.

 

 

 

 

 

 

 

 

Net Benefits of Mining Expansion

National Economic Review
National Institute of Economic and Industry Research
No. 68   October 2013

The National Economic Review is published four times each year under the auspices of the Institute’s Academic Board. The Review contains articles on economic and social issues relevant to Australia. While the Institute endeavours to provide reliable forecasts and believes material published in the Review is accurate it will not be liable for any claim by any party acting on such information.

Editor: Kylie Moreland

©National Institute of Economic and Industry Research

This journal is subject to copyright. Apart from such purposes as study, research, criticism or review as provided by the Copyright Act no part may be reproduced without the consent in writing of the relevant Institute.
ISSN 0813-9474

Net benefits of mining expansion
Dr Peter Brain, Executive Director, NIEIR

Abstract
The present study examines the net benefits to the Australian economy of a mining boom. In light of the changed circumstances that are likely to prevail over the coming years, extrapolation of past responses to mining expansion into the future suggests that there may be little headline net per capita additional benefit. The resource claims to meet the infrastructure and service demands of the increased population induced by the current episode of mining expansion will be presented in full, creating very difficult political and economic constraints, adding to those from climate change. The situation will be compounded by the national productivity growth tending to remain below historical trend levels. However, the resource expansion could be managed differently, to maximise its net additionality. Such management would include increased harvesting of resource rents and measures to increase the domestic content of mining investment.

Introduction
In a previous article we argued that, because the mining industry produces standardised commodity products, the drivers of expansion in the industry are very different from those in industries which develop and market differentiated and branded products (Brain, 2012). The commodity-production nature of the industry means that bursts of expansion generally occur as a response to unexpectedly high mineral prices, although they can also take place as a response to the discovery of new low-cost resources.

The current Australian episode of high investment in additional capacity to produce iron ore and energy minerals was generated by a burst of high prices. Past experience is that such episodes induce sufficient capacity expansion to increase world supply and so bring prices back towards costs of production, ending the investment boom. An episode of mining expansion thus has several phases: an initial phase of normal production; a phase of investment and high construction activity induced by high prices; a phase of increasing output as additional capacity comes on stream; and, finally, the stabilisation of production, generally at a higher level of output but not necessarily at higher prices than during the first phase.

During the construction phase the mining industry makes major demands on the construction industry in the country where the investment takes place. In particular, the demand for labour is high during the construction phase but falls during the enhanced output phase, a characteristic which is generally true of investment–output sequences. This demand for skilled construction workers can be met in four ways:

  • the existing workforce could be used more intensively, so that other construction activity is unaffected;
  • labour could be diverted from other construction to mining investment;
  • guest workers could be used from overseas, with workers obliged to return home after completion of the investment campaign; and
  • immigration of workers with the appropriate skills could be increased.

Each method has its disadvantages.

  • If mining investment is limited to that which can be undertaken by available labour, even working intensively, the amount of investment will be limited, perhaps to less than that desired by investors.
  • If labour is diverted, other construction programs will have to be curtailed. The question is then whether the mining investment has higher priority than the curtailed investment.
  • Guest workers have a habit of becoming permanent migrants, in which case the disadvantages of the immigration solution become relevant.
  • Increased immigration raises the question of how to find work for the immigrants (or for the established residents they have displaced) once the construction boom is over and the demand for labour has subsided.

The demand for construction materials also rises during periods of enhanced mining investment, but this demand can readily be met from imports if for any reason there is a shortage of local supply. Indeed, the global strategies of mining investors often favour overseas sourcing, because this adds to demand in their home countries. It is mainly in regard to labour that an important analytical question arises. From a country’s point of view, who are to be regarded as the potential beneficiaries of a period of mining expansion: the population of the country as at the beginning of the expansion plus its descendants or the population as augmented by any induced migration?

Not only is it important to be clear as to the population relevant to assessment of the benefits of mining investment, it is important to be clear as to the metric of assessment.

Indicators of national economic welfare
National economic benefit or welfare can be measured by a variety of indicators. The most often used indicators are employment, preferably full-time equivalent employment, and gross domestic product (GDP). The two are used together because there will be times when employment will increase but productivity measured by GDP per person employed will fall. An unambiguous increase in national economic welfare will only occur if GDP and employment both increase and productivity does not fall.

The use of the GDP measure, especially in the case of mining expansion, is open to the criticism that it does not distinguish between foreign-owned product and product owned by domestic residents. The important consideration here is the distribution of gross product generated by overseas-owned enterprises. If 90 per cent of the gross product is distributed to domestic employees and in tax payments, foreign ownership is of little relevance. However, in mining approximately 60 per cent of value added accrues to foreigners in the form of interest payments, depreciation cash flow, dividends and retained earnings in the enterprise. These do not add to domestic incomes. An indicator which excludes foreign payments for interest, dividends and retained earnings is gross national product (GNP).

The other distinguishing feature of mining is its high level of capital intensity. Relatively large increments in investment are required to increase output. In turn, this means that there will need to be large deductions from GDP in the form of replacement investment appropriately financed from depreciation, if the output is to be sustained. A measure which deducts depreciation, or at least depreciation undertaken on behalf of domestic residents and foreign distributions out of value added, is net national product (NNP). This concept is akin to the concept of national net disposable income in the Australian National Accounts and measures the benefits to domestic residents in terms of household consumption expenditures and government finances.

Finally, it is argued that the prime measure of welfare is consumption expenditure. Hence, the relevant welfare indicator is the flow-on implications for household consumption expenditure plus net additional taxation receipts. Tax receipts are included because they determine further potential flow-on benefits for household consumption expenditure (tax rate reductions) or public consumption expenditure increases.

Gross benefits of the construction phase
The extent to which an episode of mining expansion benefits the prior-resident population of the country in which it takes place is strongly influenced by two factors:

  1. the extent to which mining investment in the construction phase increases demand and so increases employment; and
  2. the extent to which labour demands during the construction phase are met by immigration.

The first step in calculating the significance of the increase in demand is to assess the impact of mining investment under full additionality; that is, where the increase is met in a way which does not diminish other demands including other investment. This estimate can then be modified according to the extent to which the increase in mining investment reduces other investment.

The most practical and transparent analytical framework to estimate the demand effect under full additionality is to utilise a set of input–output tables that reflects the structure of the economy at the time the investment takes place. For this study, this was provided by a set of tables updated from the 2005– 2006 table to 2008–2009 with the distribution of value added reflecting the impact of foreign ownership. The algebra underlying the calculations is given at the end of the article.

From the 2008–2009 updated tables, the structure of the economy reflects the commodity price relativities which are likely to prevail, at least until 2014. Earlier input–output tables do not reflect current price relativities. If there are no capacity constraints on production, the increase in demand due to mining construction is measured by Type II multipliers; that is, the total of intermediate plus private consumption flow-on. These are given in Table 1, which is based on a flow of $A33 billion average annual net additional mining investment during the construction phase.

The modelling indicates that total imports grow by $A17 billion, which limits the increase in headline GDP to $A23.3 billion. If indirect taxes are added this gives a traditional multiplier of 0.74. If a Type III multiplier analysis had been employed, including induced non-mining investment flow-on, the multiplier would have been closer to unity.

A key variable of interest is the employment impact. The answer from Table 1 is that just under 200,000 additional workers will be required. The other key variable is the flow-on orders to manufacturing. From more detailed work, the total increase in gross output of the MM sector (from iron and steel to other machinery and equipment) comes to just under $A4 billion or a local content for the industry relative to total expenditure of 12 per cent.

Capture

These calculations provide an outside estimate of the value to the economy of the increase in demand due to mining expansion. The actual value is likely to be less, for two main reasons. First, the construction boom may directly attract labour and capital from other activities. Second, price effects associated with the boom may reduce the utilisation of both labour and capacity in other industries without transfer to the booming sector.

The first of these effects is expected and, indeed, welcomed by the neoclassical economists who dominate Australian policy formation; the latter, colloquially the ‘Dutch disease’ effect, they prefer to assume away.

Migration and mining expansion
Prima facie, there is little reason to expect major reductions in capacity utilisation in the non-resource industries as a result of the mining boom. On the capital side, much of the capital is supplied from overseas, both financially and physically. Indeed, the complaint is not that demand in the mining and construction industries is stretching capacity in the Australian capital goods industries but rather the reverse: that insufficient demand is flowing to these industries to offset the Dutch disease effect. On the labour side, the increase of less than 2 per cent in total labour demand is a lot less than the current unemployment rate, especially when Australia’s low labour-force participation rate (compared at least to some European countries) is taken into account.

However, it is no simple matter to shift underemployed labour into the jobs created by a mining boom. There are several reasons.

  • Many of the jobs call for specialised skills. Here there is something of an impasse: Australian governments (Commonwealth and state) expect either that private individuals will see the opportunities and acquire the necessary skills, or that the mining and construction industries will provide the necessary training. For their part, and with occasional exceptions, the mining and construction companies expect that individuals and/or governments will ensure that the necessary skills are available. The result is that skill-specific labour shortages can easily occur.
  • A significant minority of the jobs generated are located in remote areas where housing is poor but expensive and social opportunities are limited. Once again, there is an impasse: with honourable exceptions now mainly past, neither governments nor mining companies are willing to invest in remote mining towns which may lose their raison d’être within decades, and even when the physical infrastructure is provided the settlements often remain unattractive due to their isolation. The fly-in fly-out alternative gets round some of these difficulties at the cost of creating difficulties of its own, particularly for families.
  • Mining and construction involve the operation of valuable equipment. The companies accordingly impose tight labour discipline and are quick to sack workers who breach discipline. Poor labour relations do nothing to assist recruitment.

The mining and construction companies attempt to overcome these disadvantages with high pay. They also call for immigration as a way of meeting their recruitment problems. If recruitment were purely on a guest-worker basis, this would parallel their attitude to the supply of capital and ensure that the mining expansion was essentially an offshore matter. However, Australia has no tradition of guest-worker migration, preferring permanent migration. This may be a realistic attitude in view of experience elsewhere (that guest workers become permanent) but may also reflect folk memories of the high transport costs once associated with migration to Australia and the resulting difficulties in attracting migrants. The result is that considerable migration is required to satisfy the limited and specialised labour demands of the boom, given that only a small minority among migrants is directly suited to fulfilling these demands. Therefore, we take a macroeconomic approach to assessing the immigration requirements of a mining expansion.

Given the strong employment impact of the construction phase, the expectation would be for net Australian migration to be correlated with mining investment. From Figure 1, typically Australia has responded to each episode of elevated mining expansion with increases in net immigration. As Figure 1 indicates, for the years 1980 to 1989 the level of net immigration averaged 105,000 a year compared to 60,000 for the 4 years before 1980. At the end of the 1990s there was another spike in net immigration, partly as a lagged response to the second construction phase.

Before the third mining construction episode the average was 150,000. However, from 2006 to 2010 the average was 260,000 a year, or a total cumulative increase in population of 550,000 compared to trends before the current episode of mining expansion.

Capture2

 

Capture3

 

If mi in the equation is set at zero and compared against the actual outcome, the estimate of the increase in population due to the mining boom falls to an additional 400,000 population between 2006 and 2010. This is lower than the 500,000 estimate given above from Figure 1 because of the influence of the trend term in the estimated equation.

If the average worker to immigrant population rate is between 0.3 and 0.4 (allowing for children and the basic male demands of the construction industry) immigration would have yielded approximately 150,000 workers towards the labour requirements of the construction phase. Therefore, between 60 and 80 per cent of the employment required by the current episode of mining expansion construction phase has been supplied by imported labour.

This dynamic is ignored in most assessments of the impact of elevated mining expansion. However, it is critical to the evaluation of economic benefits. The figure shows that a net 950,000 persons (rounded up to one million to allow for very modest net natural increase after migrant arrival) have been added to Australia because of the employment opportunities created by the three episodes of mining expansion since the late 1970s.

Significance of mining for the balance of payments
Where businesses are overseas-owned, employ little local labour and exist purely to supply overseas markets, a case can be made that they should be excluded from the national accounts of the host country and, instead, covered as offshore extensions of the owning economy. The case for this is particularly strong where labour is also supplied from overseas. Such enterprises were common in the 19th-century and early 20th-century empires and were often called enclave-export industries. Given that they frequently depended on franchises awarded by the colonial government, it is no surprise that with the end of colonialism they frequently found themselves nationalised.

The effect of excluding enclave-export enterprises from the national accounts of their host country would be to reduce the reported values for a number of variables, chiefly the following:

  • the inflow of overseas investment, particularly during the construction phase of the enterprise;
  • the stock of overseas investment;
  • the outflow of funds to service overseas investment, both profits and capital repatriation; and
  • the level of exports. (Sales by the excluded businesses would no longer be counted as export revenues of the host economy. Instead, resource rents collected by host-country resource owners (both governments and private owners) would be shown as exports, as well as labour supplied and any other sales by domestic businesses to the enclave-export industry.)

The net effect would be a major diminution in the importance of the excluded industries as measured by GDP or the national balance sheet, although as already remarked above there would be no effect in their importance as measured by NNP. The mining companies are strongly opposed to being defined as enclave-export industries, and equally to the use of measures such as NNP, because they wish to be regarded as pillars of the Australian economy. Their aversion to being regarded as overseas operators who just happen to be extracting resources in Australia is easy to understand given the history of nationalisation of mineral resources in countries where exploitation has been completely in overseas hands.

The decision to define mining operations as domestic rather than enclave-export industries has major effects on the headline economic indicators of host countries during periods of mining expansion. In particular:

  • commentators focus on the growth rate of GDP rather than the relatively low growth rate of NNP;
  • the growth rate of gross exports is emphasised at the expense of the lower growth rate of net export earnings after servicing overseas investment; and
  • the terms of trade are calculated on the basis of the price of exported products rather than the price of services to the enclave-export industry.

In a rational world these effects would not matter much, but in the harried world of finance it is likely that they contribute to the Dutch disease. In what follows, the indirect effects of periods of mining expansion on resource allocation are considered.

Dutch disease
As noted above, an episode of mining expansion requires a burst of capital investment. The benefit of the episode will be greatest if it uses otherwise unemployed resources, but it is more likely that resources will be transferred from less promising investments, or from less productive activities, into the construction effort required to expand mining. There is a double danger in this process.

  • The price mechanisms which assist this transfer may themselves create offsetting unemployment. This can happen when they dampen demand for non-mining products and services without affecting the transfer of resources into the expanding sector. Instead these resources become unemployed.
  • It produces a lingering shadow, in that investment foregone in the non-mining industries during the construction phase permanently affects their competitiveness. This mechanism was discussed in a previous article and its significance will be assessed below (Brain, 2012).

A particular case of these problems, referred to as the Dutch disease (because it was first recognised in the Netherlands during the North Sea oil boom) has two parts:

  • During the construction phase the exchange rate is overvalued, in the sense that it renders industries uncompetitive when they would be competitive at the exchange rates which obtain both before and after the period of mining expansion. This reduces non-mining exports, a matter of some concern when mining commodity prices fall back towards pre-boom levels. Because investment in product development has been curtailed, the reduction in non-mining investment during a period of resource expansion carries the risk that production in non-mining trade-exposed industries will be reduced more or less permanently.
  • The possibility of further episodes of overvaluation increases the riskiness of investment in non-commodity trade-exposed industries, so further reducing exports and import-competing capacity in these industries.

But why should the exchange rate be overvalued during the construction phase? In neoclassical theory the exchange rate cannot be overvalued or undervalued, because the foreign exchange markets are believed to take into account all relevant factors, focusing on the balance of trade and, hence, the ability of each debtor country to service its debts. Sufficient to say that during the era of fluctuating exchange rates (broadly since the mid-1980s) the Australian exchange rate has failed to behave as theoretically predicted. Reasons for the current overvaluation of the Australian dollar which relate to the decision to treat enclave-export industries as integral parts of the Australian economy include the following:

  • an apparent high level of capital inflow;
  • an apparent prospect of high growth in export revenues; and
  • a high terms of trade.

In addition, other factors may be important, including the option exercised by a number of trade-surplus countries to maintain their exchange rates at ‘competitive’ levels by accumulating the financial assets of the indebted world (including Australia). It is also relevant that Australian real interest rates are higher than in the rest of the world, partly to restrain the level of economic activity (and, hence, assist in the transfer of resources to mining investment) but also because of the need to finance the high level of foreign debt.

For the purposes of the present study we now require a practical assessment of the severity of the Dutch disease as it currently affects Australia. The assessment requires comparison of a base case in which the mining industry continues its 1998–2005 growth rate through the period 2006 to 2012 and the actual case in which mining expansion occurred. The National Institute of Economic and Industry Review (NIEIR) has used its modelling system to make this comparison and published the results in the State of the Regions Report 2012–13 (Chapter 10). In brief, during the construction phase to date the mining expansion has, through mining investment and its multiplier effects, generated an increase of just under 7 per cent in Australian GDP. However, there have been offsetting reductions in activity in the non-mining industries which reduce the net benefit to date to approximately 3.1 per cent. This falls further, to 2.7 per cent, if the calculations are converted to a NNP basis. Taking into account the increase in population due to additional migration induced by the increase in mining activity, this further reduces to an increase of approximately 1 per cent in NNP per capita.

The State of the Regions Report further points out that all regions in Western Australia have unambiguously benefited from the mining boom. The regional pattern of benefit in the other states is patchy at best. The same goes for industry patterns, with strong increases of activity flowing from mining investment into construction while import-competing and non-mining export industries do less well than they would have in the absence of the boom. Among the industries which, on balance, do badly metal and machinery manufacturing is prominent. Given the importance of metal and machinery inputs to mining investment, this is an unexpected result, and raises the question as to why the linkage from mining investment to domestic demand for MM is so weak.

Local content of mining activity
Using NIEIR’s input–output table, the local content of mining activity for 2009 can be estimated. The direct demand from mining is defined as operational demands for goods and services plus investment requirements, including replacement investment. The operational demands are simply the intermediate industry demand column sums from the estimated input–output tables for all mining industries. This comes to a total demand for the mining sector of $A85.7 billion, of which $A75.8 billion is supplied by local industry. The bulk of the imports come from the metals and machinery (MM) sectors of overseas economies. Total MM demand for operations is $A11 billion, of which $A4.4 billion is supplied locally.

More importantly, from the investment data which is included in the totals in Table 2, it can be calculated that the investment component has a much higher import content. The import content is approximately half, with imports of $A26 billion. This includes replacement investment. Of the total imports, 60 per cent come in the form of products from the MM sector overseas.

These averages will change from year to year as the industry/project mix changes. For example, as the share of liquefied natural gas (LNG) projects in total mining investment increases over the next 2 years the MM sector’s share can be expected to increase.

Capture4

Effects beyond the construction phase
These calculations place us in the position to assess the impact, not only of the construction phase but of the production phase which follows. The more the increase in mining capacity is bought at the expense of capacity in other industries, the less these industries will be able to respond to increases in demand during the production phase. We investigate these possibilities on the basis of the two extreme sets of assumptions (full additionality and full displacement) and also consider the consequences of the resource requirements to support the induced population increase.

Mining expansion: Full additionality
Full additionality occurs when impact of both the construction and production phases on the economy is close to the Type II multiplier estimates from the latest input–output table. This calculation shows what would happen if no capacity is lost in the non-mining industries during the construction phase.

Given the Australian Bureau of Agricultural and Resource Economics and Sciences (ABARES’s) benchmark for forecast mining production over the next 5 years, Table 3 shows the impact of each annual increment in production. ABARE’s projection implies an annual average increase of $A12.6 billion in gross mining output, or $A63 billion between 2010 and 2015.

From Table 3, the increase in GDP is $A12 billion, of which $A6.8 billion is mining gross product. Thus, the total mining gross product multiplier would be 1.76 under full additionality. Much of this is overseas-owned, and GNP increases by $A7 billion. What is important, however, is the increase in real NNP, or what the Australian Bureau of Statistics now calls real net national disposable income. This increases by $A8 billion, or 1.18 times the increase in mining gross product. The increase in real net national disposable income is two thirds of the GDP increase because depreciation and foreign transfers from the mining industry (which include repayment of foreign loans, interest, dividends and retained earnings) reduce mining NNP to 53 per cent of mining gross product.

Government revenues increase by $A2.8 billion while total employment increases by 57,200. This means that over the next 5 years a total of 286,500 employment positions will be created by the projected mining output expansion. If full additionality applies there is every reason to welcome a mining expansion.

Mining expansion: Full displacement
Gross full displacement is defined as the Type II multiplier that results when the increase in mining exports is neutralised completely by an increase in imports and a reduction in non-mining exports. This adjustment is modelled by applying the same percentage adjustment to all import penetration ratios and non-mining exports. In this case GDP falls by $A8.8 billion and NNP by $A7.2 billion. Employment falls by 78,100, reflecting the relatively high labour intensity of the sectors displaced. This is further reflected in the near $A5 billion fall in wages and salaries.

Net full displacement can be estimated by subtracting the second from the first column in Tables 4 and 5. Compared to the full additionality case, displacement considerably reduces the benefits of a mining boom, but in Australia’s case does not completely take them away. The numbers indicate that, except for employment, policy-makers can be indifferent to a mining expansion which results in full net displacement because, on this basis, there would be a key benefit of an increase in national productivity. Government revenue is also positive with net full displacement.

The issue of government revenue
A first caveat to this reasonably positive result is that the tax revenue for new mining projects may take 5 to 10 years to peak because of the high write-offs in the early stage of production for, for example, preliminary expenses, depreciation and exploration expenditure. Second, for highly capital-intensive projects, resource rent tax may not be levied for 8 to 10 years from the commencement of production. The taxation results in the tables assume immediate payment of resource rent tax based on the industry averages. For the full additionality case, the increase in direct tax revenue from the mining sector equals $A1 billion. In the early years at least the estimate of nearly $A3 billion government revenue from mining should be reduced significantly.

Capture5

Capture6

Costs of additional population
The second adjustment that must be made is that the gross and full displacement analysis indicates that 78,000 jobs are lost from industries that are, in the main, located in established regions with adequate infrastructure and community services.

The mining expansion case, in contrast, involves the necessity to increase national population in regions where, in the main, the infrastructure and resource requirements have not been provided. These costs need to be taken into account.

It is argued above that an additional 400,000 people will be induced to migrate into Australia to resource construction to allow mining production to increase as analysed in the tables. Given the rigours of life in many of the regions where mining investment is taking place, the workers imported to support the mining expansion will, by attrition, shift to industries and regions that are unrelated to the mining construction and production supply chain. If inflationary pressures are to be avoided, part of this attrition will have to be replaced by additional migration over the next few years. It will be assumed that the additional immigration will average out at 50,000 a year for the duration of the expansion, which is likely to continue to 2015 at least, and later for LNG if not for metallic minerals. Therefore, a notional 10 year construction phase will be assumed.

The annual and once-off expenditures that will be required over the next decade to support each 50,000 increment are given, by component, in Table 6 and come to a total of between $A5.0 billion and $A6.0 billion (to give a range rather than a point estimate). Given these resource claims from mining expansion either directly on government or in terms of resource claims on society as a whole (as is the case with housing), in order for Government and society to be indifferent between resource expansion and leaving the minerals in the ground the net Government revenue from resource expansion would have to be at least $A1.5 billion to $A2.0 billion greater on an annual basis than what is likely to be generated. If the balance is not to tip decisively away from net benefits to net costs there will have to be higher mining taxes, both in the short term and the long term and/or low levels of displacement of domestic non-mining production.

Three different tests can now be applied to assess the realism of these calculations. The first will examine the statistical relationship between real net national disposable income and mining product, the second will examine the relationship between state capacity and mining investment, and the third will examine the evidence of crowding out in the MM manufacturing sector. The three tests corroborate the reasoning in general, although they also suggest additional lines of investigation.

Capture7

Link between mining and net national income
One simple way to test for the link between mining gross product and net national product/net national income is to run a regression of real net national income (less mining and construction gross product) per capita against time and real mining gross product. To remove the terms of trade effect, nominal mining gross product is deflated by the Australian National Accounts’ gross national income implicit deflator rather than by mining prices. The mining variable is expressed in per capita terms.

Capture8

The zero coefficient for the mining gross product variable indicates that in both real and price terms mining has had no impact on non-mining and construction national net disposable income. At this level of abstraction, mining seems to add to income overall, although without any positive multiplier effects into other industries.

The results suggest a degree of additionality. In the full additionality model run considered above the ratio of the increase in NNP to the increase in mining gross product was 1.18. However, the equation just estimated indicates that full additionality does not apply and the mining production phase has contributed no more than mining’s direct contribution to NNP. The contribution from the full additionality sensitivity analysis is 0.53 per dollar of gross product, or an increase of $A3.6 billion a year between 2010 and 2015. Therefore, taking the ratio of $A3.6 billion to the $A8.0 billion increase in NNP from Table 3 suggests an average net additionality factor of 45 per cent, suggesting that while Australia has not avoided the Dutch disease it has at least managed to gain some net benefit from the construction phase. This case is referred to elsewhere in this study as the 50 per cent gross crowding-out case or the 50 cents in the dollar crowding-out case.

However, the conclusion does not adjust for the increase in population to support mining expansion. This is done in Table 7.

The conclusion from Table 7 is less optimistic than the conclusion derived in the section above on the Dutch disease, where it was found that the mining construction boom from 2006 to 2012 added approximately 1 per cent to NNP per capita. Table 7 relates to a longer time period which includes both periods of mining expansion and periods when the mining industry has been producing but not expanding. The conclusion for this longer period is that the annual mining contribution to net national income has been a little less than the per capita net national income attributed to the one million population increase to support mining construction phases since 1979. In other words, there has been no net additionality in terms of benefits to the original population, defined as the population that would have existed if net mining investment since 1979 had been zero. This means that, on a per capita basis, Australia has been subject to the resource curse, if not in terms of headline outcomes, and suggests that the main impact of the mining expansion since 1979 has been to expand population without loss of per capita net national income but no doubt at a cost of housing shortages and decline in infrastructure quality.

Capture9

Resource expansion: Impact on non-primary GDP capacity
Our discussion in a previous article of the difference in investment drivers between commodity producers (now chiefly miners) and producers of differentiated and branded goods and services indicates that a major driver of displacement is foregone non-mining capacity that results from the pressures of the construction phase (Brain, 2012). Time-series estimates of non-agricultural capacity utilisation are available at the state level from National Australia Bank surveys on a quarterly basis and can be readily adjusted to exclude mining.

To test for the crowding out of non-mining activity during the construction phase the following model was estimated for the five main Australian states (estimation from the fourth quarter of 1989 to 2010):

Capture10

Because of the interaction between import share and capacity it is not possible to interpret outcomes directly from equation coefficients. However, simulations suggest that for a $33 billion annual mining investment, the decline in MM gross output will be around $12 billion if the previous peak import share is exceeded or approximately $8 billion if this is not the case. Given the gross product to gross output ratio, this suggests a loss of output in terms of gross product of between $3 and $4.2 billion directly and perhaps double this after inter-industry flow-ons. This, in turn, would represent a plausible one third to one half of the reduction in aggregate displaced capacity estimated in the previous section.

Capture11

 

Capture12

Capture13

Capture14

Household debt and net additionality
We now have an apparent contradiction. It would appear that there has been headline net additionality, if not on an adjusted per capita basis. The results from the last two sections suggest a situation close to zero net additionality. The two can be reconciled by the recognition of the role of household debt in driving Australian economic growth since the early 1990s.

The accumulation of household debt stimulated growth through equity withdrawal by the household sector, including an increase in debt above the levels required to finance housing and other household investment. The net additional stimulus to growth is measured by the change in household equity withdrawal as a percentage of GDP. This series is given in Figure 2. Between 1992 and the middle of 2008 the average annual stimulus from the change in equity withdrawal was 0.5 percentage points, so that the growth in household debt contributed at least half a percentage point to annual growth. This was a powerful mechanism for producing headline positive net additionality which coincided with the construction phase of resource expansion – and was related to that phase by overseas willingness to lend to the Australian banks. The inference is that without the growth of household debt, mining expansion over the past two decades may well have produced headline zero net additionality. Under these circumstances it is likely that population growth would have been less. However, significant negative per capita additionality may well still have occurred.

The problem is that with the ratio of household debt to net disposable income now at 200 per cent there is only limited further stimulus to economic growth available from this source. It follows that it is likely that the economic stimulus from the current episode of elevated mining expansion over the next few years is will fall well short of expectations based on the last decade.

Macroeconomic policy and crowding out
An important link in all of these effects is the overvaluation of the exchange rate. We therefore revisit the question of why the exchange rate appreciated as it did.

One suggestion is that the appreciation could have been avoided by tighter economic policies. If, at the macroeconomic level, the objective is to protect the domestic non-resource sector an appropriate response to ensure internal/external balance would be to introduce contractionary fiscal policies to prevent the exchange rate appreciating and release sufficient labour resources to resource both mining construction and the maintenance of the non-mining sector activity at pre-mining boom levels. However, Australia took a less painful alternative, at least in the short-term, which was to increase the supply of labour by immigration so that both domestic supply and demand could be expanded and upward pressure on the current account balance neutralised. Australia imported 400,000 additional people which would have been more than enough to prevent crowding out of the non-resource sector and should have been more than enough to prevent upward appreciation of the currency. However, the estimated equations suggest that crowding out was not prevented. Despite a significant deterioration in the current account deficit (Figure 3) the exchange rate appreciated significantly between September 2004 and June 2008. The economic textbooks suggest that this should not have happened – the exchange rate should not have appreciated either due to the increase in the current account deficit or because of the additional population.

capture15

Capture16

What then drives the exchange rate? The latest theory of financial sector analysis is that the high Australian exchange rate is being driven by the Australian currency being a ‘proxy’ for the Chinese currency. The Chinese currency is not fully convertible and is a non-market driven, controlled currency. The Australian currency is market driven. Therefore, international investors are reluctant to invest directly in Chinese financial assets to capture the benefits of China’s economic growth. They reason that the safest next best strategy is to invest in Australian dollar-denominated assets which, because of the dependency of the Australian economy on the Chinese economy, should in value ‘shadow’ the free market outcome for the Chinese economy. The inference is clear. Australia has no ability to control crowding out by macroeconomic policy instruments. The only solution is direct intervention to increase the direct benefits to the Australian economy from elevated periods of mining expansion.

This is not to suggest that increasing the migration rate has not lessened the degree of crowding out from what would otherwise have been the case. What is clear is that textbook policies are necessary, but not sufficient factors, to reduce the degree of crowding out. The textbook policies being insufficient, direct action is required if to crowding out direct action is required if crowding out is to be minimised.

Mining expansion and the national productivity slowdown
The central argument of this article is that the mining boom, by crowding out non-resource activity, has created unutilised resources which can be exploited to increase the direct benefits from the current mining expansion. This argument applies not only to capital and labour resources but also to the potential impact of mining expansion on the rate of productivity growth. This potential stems from the relationship between the rate of growth of productivity and the rate of growth of economic activity. For this to be correct, the evidence must suggest that the current productivity slowdown is related to the slowdown in the rate of growth in the economy. As is indicated below in this section, this is the case. From the December quarter 2011 National Accounts, the rate of growth of productivity measured by GDP per hour worked has fallen from between 0.5 to 0.8 per cent, depending on whether the September or December quarter of 2010 is selected compared to the corresponding quarter a year earlier. Figures 4 and 5 leave out the poor recent quarters and run to the June quarter 2010. Even so, productivity growth was still trending down. What is important here is not so much what the recent rate of growth of productivity has been, but the extent to which the slowdown in productivity growth was due to the changes in the pattern of economic activity.

Figures 4 and 5 indicate such a relationship. In Figure 4, in general the higher the rate of growth of GDP the higher the rate of growth of productivity. This finding is expressed in Figure 5 by a larger gap between the rate of growth of total hours worked and GDP. This gap is larger the higher the rate of growth of GDP.

Capture17

The sample period is the first quarter of 1989 to the second quarter of 2010.

The two key coefficients are the sum of gdpg coefficients and the cute coefficient. The cute coefficient indicates that the lower the capacity utilisation rate in the economy the lower the (labour) productivity growth rate, no doubt in part due to the underutilisation of overhead hours. The sum of the gdpg coefficients is 0.68, indicating that a 1-per cent growth rate of gdpg is associated with an additional labour productivity growth rate of 0.32 per cent.

Capture18

Capture19

To demonstrate this impact of economic activity on GDP growth, the 2007 calendar year will be compared with the 2010 calendar year. The 2007 calendar year was the last year of sustained high productivity growth over all four quarters. The average GDP growth rate for 2007 over the four quarters was 4.6 per cent, compared to 2.7 for 2010. The difference  in  growth was 1.9 per cent,  suggesting that the growth difference would explain a productivity growth decline of 0.6 per cent per annum.

However, productivity growth has also declined because of a fall in capacity utilisation rates between 2007 and 2010. The average non-farm capacity utilisation rate over 2007 was 83.8, compared to 81.6 for 2010. The lower capacity utilisation rate explains another 0.6-per cent decline in productivity. The average labour productivity growth rate in terms of hours worked in 2007 was 1.9 per cent, compared to 0.3 for 2010. Therefore, the slowdown in economic activity between 2007 and 2010 explains 1.2/1.6, or three-quarters of the decline in productivity.

The crowding-out effects of mining expansion would have contributed to the decline in national productivity over the last year. However, to date, the largest contribution to falling productivity would have come from the unwinding of the fiscal stimulus (Brain, 2010).

In the years ahead, however, the cumulative effects of the Dutch disease, if allowed to continue, can be expected to reduce national productivity growth rates from levels that would have been expected given longer-term historical trends.

The important point is that the crowding-out effects of mining expansion are likely to have a larger negative impact on national productivity growth compared to recent past crowdings-out. It follows that the impact of measures to increase the direct benefits from mining expansion will have a positive impact on national productivity and, therefore, will be mildly anti-inflationary, because they will enable existing employed resources to be used more effectively.

Conclusion
Given the changed circumstances that are likely to prevail over the next few years, extrapolation of past responses to mining expansion into the future suggests that there may be little headline net per capita additional benefit. This will come at a time when the resource claims to meet the infrastructure and service demands of the increased population induced by the current episode of mining expansion will be presented in full, creating very difficult political and economic constraints, and adding to those from climate change. This will be compounded by the national productivity growth remaining below historical trend levels other than occasionally, such as in 2011–2012.

The alternative is to change the way resource expansion is managed to maximise its net additionality. As discussed in a previous article, such management would include increased harvesting of resource rents and measures to increase the domestic content of mining investment.

 

References

ABS (Australian   Bureau   of   Statistics), 2010, ‘Australian  System  of  National  Accounts,  2009–10’, ABS Cat. No. 5204.

Brain, P. J. ‘Australia and the Global Financial Crisis: A Highly Efficient Policy Response at the Cost of Locking in Structural Imbalances’, National Economic Review, 65, pp. 1–22.

Brain,  P.  J.,  2012,  ‘The  Mining  Boom  in  Context’,

National Economic Review, 67, pp. 1–18.