Wayne Swan has been having a go at Tony Abbott’s paid maternity leave scheme.
Standing in front of a Woolworths supermarket in the marginal Perth electorate of Swan today, the Treasurer said Mr Abbott had made a “stunning admission”.
“Cost of living is a very important part of this discussion we are having as we go through to the election campaign and the election itself,” he said.
“His Coles and Woolies tax will put upward pressure on business costs which will flow through to the prices at the supermarket and flow through to a whole range of items.
“Mr Abbott has admitted that very clearly today on radio.”
Clearly Swan is no longer under the influence of the Australian Treasury. Ken Henry recently told the Parliament.
A profits based tax should not affect prices. A lot of people have suggested that a profits based tax will affect prices. I do not know; I learnt in high school in the study of economics that profits based taxes cannot affect prices. I will leave the matter there.
At the time I suggested that Ken Henry may have misspoken because that view is incorrect but to the best of my knowledge no correction has been issued. This does put Swan in a difficult position – is he correct now, or was Henry wrong then?
Update: In comments Harry Clarke suggests that Ken Henry is technically correct. Economists often use the term ‘profit’ in a technical sense where they actually mean ‘supernormal profit’ or pure economic profit. Giving Henry the benfit of the doubt, that could be correct, but I don’t think so. If that was the explanation Henry would have been consistent in his usage, but I don’t think he’s that either. Have a look at what he says in the Hansard. In answer to a question from Senator Joyce he says.
On the other hand, the RSPT is a neutral tax. Unlike the company income tax, the RSPT should not have any impact on the level of investment. That is because, unlike the company income tax, the RSPT taxes a pure economic rent, and taking away some part of a pure economic rent should not affect the behaviour of investors.
In theory that answer is correct – a tax on a pure economic rent should not affect behaviour. A minute later, or so, he says in answer to a question by Senator Pratt.
I could start with where I left off with Senator Joyce: a tax that does not affect the level of economic activity cannot either affect prices unless demand curves are vertical. I have not heard anyone suggest that demand curves are vertical. A profits based tax should not affect prices. A lot of people have suggested that a profits based tax will affect prices. I do not know; I learnt in high school in the study of economics that profits based taxes cannot affect prices. I will leave the matter there.
See the change in terminology.
I saw the footage. Swan is awful to watch, so much of schoolboy blowhard. Utterly frightening that when Gillard is away he is the PM.
DavidJ
26 Jul 10 at 6:49 pm
Aren’t all taxes profit based?
Start from income. Deduct cost of goods and capital. Profit.
Deduct tax.
Obviously this excludes taxes withn the “cost of goods” calc but give me some leeway here, given you get input credits.
So, all / most (?) taxes then go after profit?
I know lots don’t – eg excise duty.
What he doesn’t address is ROI. If you tax someone 90% tax, their ROI is miniscule. Money just departs for elsewhere if it can.
Swan was always aweful. Having him on the world stage as our 2ic is shameful.
pete m
26 Jul 10 at 7:11 pm
Pete:
I think it’s fine having DC up there. Stupid people are much too discriminated against and we need to show compassion times.
JC
26 Jul 10 at 7:17 pm
Sinclair, If a monopolist’s profits SS depend on their output q as SS(q) and I levy a tax on them at a constant rate t then their after-tax profits are (1-t)$$(q).
If pre-tax profits are maximised at q* then post tax profits will also be maximised at q* since the original expression for profits multiplied by (1-t) gives post tax profits. Multiplying by (1-t) doesn’t alter desired output.
So if demand is price p = D(q) the price won’t change either when a tax is introduced since a firm will select the same price with or without the tax.
This only fails if the tax is prohibitive so t>1 when the firm shuts up shop.
Perfectly competitive firms earn no pure profits so the issue is moot.
That’s what generations of school and first-year undergraduate students have learnt. Ken Henry learnt it too and it is the intellectual basis for the RSPT which was also a neutral tax. Its simple economics and it is right.
The critics of the RSPT have forced a bodgie RSPTmark2 which is not neutral since not all costs are refunded. They forced a tax which harms Australia because they didn’t distinguish the issue of whether or not the tax was neutral to whether or not it was fair to shareholders.
You can legitimately argue that the tax is unfair to shareholders but don’t confuse that withy the wrong argument that it will drive up prices or alter things such as the level of exploration activity.
The latter was a lie told by Australia’s mining interests to deflect attention from the fact that their real gripe was that the tax was unfair to shareholders. Interestingly almost economists and commentators on the libertarian side of politics gulped down their bullshit. A tasty snack?
hc
26 Jul 10 at 7:32 pm
How come all the Labor taxes are investments in our future, but Liberal taxes drive up the cost of living?
Michael Sutcliffe
26 Jul 10 at 7:36 pm
Harry – I understand your point, but that’s not what Henry said. He said a tax on profit (not rent or supernormal profit) will not impact prices. That is either correct or not. I say ‘not’.
Sinclair Davidson
26 Jul 10 at 7:37 pm
The Libs outflank Labor from the left with a special tax on rich corporations to fund six months of paid maternity leave.
Labor responds by saying taxes are bad and drive up the cost of living.
It’s a crazy old world we live in.
Michael Sutcliffe
26 Jul 10 at 7:39 pm
Good to see you back, Harry after your long sojourn. If nothing else you always added color to the site.
As usual you’re beating the incorrect straw-man Harry, laced with a little delusion too.
Unless I’m mistaken the point of this thread is that SwanDive and his servant Henry are at odds as they’re essentially saying the opposite to each other.
You obviously take Herny’s side which of course has nothing to do with that silly congestion tax he looked at and propsed. Of course not.
JC
26 Jul 10 at 7:44 pm
Sinclair, My argument relates to profit defined as the difference between revenue and costs. Revenue is price*quantity (or p.q) and price depends on quantity sold (via demand p=D(q) so revenue R also depends on quantity as R(q). Costs also depend on output q as C(q). So profits can be written SS(q) =
R(q)-C(q) which is what I claimed.
A tax on profits will not increase prices at all for the reasons explained above and that’s the statement you attribute to Henry.
Henry’s arguments are correct and standard unarguable economics.
hc
26 Jul 10 at 7:50 pm
Harold, while you’re here I’d like to run something by you in regards to that recent public announcement you’re voting for Christine Milne’s outfit. In that thread you described the Greens economics as “overall not terrible”.
On another occasion you described their economics as “woeful”
Here, I’ll post the two offending comments up for you to look at, examine and give me a detailed explanation to this 180 degree turn only after a few months
Only comment if you’re up to it. Don’t, if you don’t wish to on my account only.
Harry Clarke May 6th 2009
I will think seriously about voting for the idiot Greens (woeful economics, sound environmental policies) in the next election.
http://www.harryrclarke.com/2009/05/06/rudd-on-climate-change/
Harry Clarke 18th July 2010
Their pro-industry policies cause concerns as do their opposition to VAT-style taxes (it was the Democrats who stuffed up Australia’s GST) but overall not terrible.
So which is it, “Hare”? Are they “idiots, woeful” or “overall not terrible”?
[JC - please stay OT. If you want to ask Harry questions about his voting intention then do so at his blog. Sinc]
JC
26 Jul 10 at 8:00 pm
Harry – what you said and what Henry said deviate from the phrase, “If a monopolist’s profits …”. The word “monopolist” appears nowhere in that issue of the Hansard. Henry was not speaking in the context of a theoretical model of monopoly in first year economics, he was explaining a general point about taxation to the Parliament.
Sinclair Davidson
26 Jul 10 at 8:19 pm
Sorry, Sinc. You’re right.
JC
26 Jul 10 at 8:31 pm
Sinclair, You need to have some monopoly power to earn pure economic profits. Otherwise competition will force profits back to a normal level just sufficient to keep resources in an industry. So profits-based taxes are directed only at monopolies. On competitive firms they won’t work.
There isn’t a ‘real world’ and a ‘theoretical model of monopoly’. There’s just reality and ways of capturing the essence of that by being explicit about what you are supposing.
What sort of setting do you have in mind where profits are earned but monopoly power is not involved?
hc
26 Jul 10 at 8:57 pm
Harry, I agree. In economic theory you need monopoly power to earn supernormal profits in the long run. If it was possible in practice to identify and tax rent then it would be a neutral source of revenue. But I suspect the practicalities defeat that theoretical idea.
More generally, you haven’t demonstrated that Australian mines have monopoly power. I would argue that they almost certainly do not earn super-normal profits. In rents that they could earn would be quasi-rents and temporary. An industry that faces massive global competition and sells its output into global markets (usually in forex) cannot be described as earning monopoly rents.
(have to run)
Sinclair Davidson
26 Jul 10 at 9:09 pm
Monopoly power only means the ability to influence prices rather than being price takers. It would be very difficult to argue that Australian mining producers have no power in that sense given the annual Chinese-Australian price negotiations and the unbelievably large improvement in Australia’s terms of trade in recent years.
You are not dealing with the issue I raise and suspect you won’t. What are the ‘practicalities’ you refer to that make the standard economic result that pure profits-based taxes non-neutral?
hc
26 Jul 10 at 9:19 pm
find this astonishing. Professor Clarke says:
You can legitimately argue that the tax is unfair to shareholders but don’t confuse that withy the wrong argument that it will drive up prices or alter things such as the level of exploration activity.
The latter was a lie told by Australia’s mining interests to deflect attention from the fact that their real gripe was that the tax was unfair to shareholders. Interestingly almost economists and commentators on the libertarian side of politics gulped down their bullshit. A tasty snack?
Is Harry actually suggesting here that the proposed tax did not come with costs?
If not it would be good if the professor was able to clarify this point and while he’s there instead of simply stating and assuming we would accept it as fact if he could demonstrate how a tax would not reduce exploration if there was a reduction in net profit in the industry.
JC
26 Jul 10 at 9:26 pm
Oops this should be in quotes;
You can legitimately argue that the tax is unfair to shareholders but don’t confuse that withy the wrong argument that it will drive up prices or alter things such as the level of exploration activity.
The latter was a lie told by Australia’s mining interests to deflect attention from the fact that their real gripe was that the tax was unfair to shareholders. Interestingly almost economists and commentators on the libertarian side of politics gulped down their bullshit. A tasty snack?
JC
26 Jul 10 at 9:27 pm
(back again – sorry)
Harry – you seem to be suggesting that Henry used ‘profit’ in a narrow economic term as a proxy for the term supernormal profit or pure economic profit, but I don’t buy that for one minute. I have just done a quick scan through the Henry Review final report and everywhere the term profit is used, it is used in the normal everyday manner and not as a proxy for economc profit. I can check the Hansard too, if you like, but I suspect that he always uses the word ‘profit’ in the everyday sense.
The most obvious practicality is how to measure ‘rent’ – nobody believes that a return in excess of the LT bod rate is a supernormal profit.
Sinclair Davidson
26 Jul 10 at 9:29 pm
So what’s happening here? Swan and Harry are saying that Coalition taxes affect the cost of living but that Labor taxes are magic – is that about it?
C.L.
26 Jul 10 at 9:30 pm
Because JC – as has been shouted from the rooftops by every tax economist worth his salt – the RSPT paid for a proportionate share of the costs you blithering ninny.
If you expend $10m to make a profit of $20m and the government taxes you 50% on your net profits it takes 50% of your revenues but refunds 50% of your costs. Can I spell it out more s-i-m-p-l-y?
Thus you know invest only $5m and make only $10m in profits. You still get exactly the same rate of return on capital so your incentives to go through with the project are unaltered. No change AT ALL.
Instead of making your irrelevant comments on everything that comes your way you might occasionally think about trying to understand the basics of an argument – I spent some effort trying to set things out as clearly as I am able – before you open your mouth.
Its so nice to get a chance to catch up with you JC. But let’s not do it again too soon. 2050 would be fairly ideal.
hc
26 Jul 10 at 9:44 pm
CL
Harold is saying that:
Profit based taxes don’t effect prices because they are absorbed. Theoretically there is some merit (to that argument at a point in time) on the demand/supply curve .
However a profit based tax is essentially a change in net profit of firms. So the eventual effect that the text book doesn’t tell is (that with time this should drive out marginal producers) and that if one drives out marginal producers you will eventually see shift in the supply curve and therefore price.
In other words it’s nonsense.
Harry covers this by presenting the theoretical introduction of monopoly situation. He has to of course otherwise he’d run into my point and end up with a head on accident.
He’s also not explaining how a reduction in net profit will encourage capital in that industry without any change to that.
In reality he’s in fact suggesting that we should accept this assumption through ad hom.
JC
26 Jul 10 at 9:48 pm
Sinclair, I am suggesting Sinclair that Henry defined profits as all economists define it as the difference between revenues and costs.
Let me ask directly. How do you define profits if not in this way? If you can indicate this I may be able to understand what you see as a non-neutrality of a tax on profits?
For the life of me I currently cannot? You haven’t provided a ‘practical’ definition of profits but only described what it isn’t. Now be fair dinkum and say what bit is you mean by this term.
hc
26 Jul 10 at 9:51 pm
If you expend $10m to make a profit of $20m and the government taxes you 50% on your net profits it takes 50% of your revenues but refunds 50% of your costs.
Harry, that’s you first error. The government does not refund you 50%of your costs. You don’t seem to understand the tax.
While you’re there Harry can you explain that if a tax drives out marginal producers it won’t effect supply and if it effects supply without a change in demand it will not shift the price?
JC
26 Jul 10 at 9:55 pm
Harry – see the update above.
I would normally use the term ‘profit’ in the usual sense (revenue less costs excluding entreprenurial return) and supernormal profit or economic profit to describe revenue less costs including entrepreneurial return.
I went up to Canberra and gave them a talk about land tax in 2009. At the time I told them (a) land rent probably didn’t exist and (b) even if it did exist they could probably never measure it. But they went ahead anyway and got slaughtered on that very point.
Sinclair Davidson
26 Jul 10 at 9:55 pm
Here is George Fane as explained by Harry Clarke.
Sinclair Davidson
26 Jul 10 at 10:02 pm
JC, You don’t kknow what you are talking about. I am not sure whether you are being intentionally or unintentionally stupid. Its hard to tell reading your meandering nonsense.
Costs were refunded under an RSPT with interest. Its you who doesn’t (or doesn’t want to) understand. Jibberish is more important to you than than the truth and
Marginal firms can’t be forced out because it was levied only on net positive profits – if firms earned no profits they paid no tax. If firms made a loss they got a refund.
Sinclair, That’s not a definition but an evasion. You must know that redefining profits in this way doesn’t rationalise any non-neutrality. You won’t come clean and be straightforward because you can’t.
Ken Henry is a decent bloke who is just being honest. The attacks on him over the RSPT were dishonest and despicable.
hc
26 Jul 10 at 10:09 pm
Sinclair you cite George Fane. His point was that the cost refunds offered under a RSPT were not set in stone and hence might be disbelieved. But he and Ben Smith argued in the 1980s for an RSPT. They favour this tax.
The obvious wrinkle is to issue an interest-bearing bond paying the costs that can be cashed in once the firm earns profits or goes bankrupt. That gets rid of that non-neutrality. But where is yours and what is its source.
After listening to Ben Smith at the ATAX Conference even simpler vpossibilities present themselves. If miners are concerned about governments not repaying the costs refund them as they occur.
After listening to Smith I changed my mind about the importance of this wrinkle”
http://www.harryrclarke.com/2010/06/25/post-henry-tax-review/
But disregarding this you have not identified any non-neutrality. You have evaded the issue by refusing to set out how you define profits.
hc
26 Jul 10 at 10:19 pm
I don’t know what you mean by coming clean – Henry either misspoke or tried to mislead the Senators by being too clever. He got caught out.
I don’t know Henry, I can’t comment on that point.
Henry chose to politicise himself (and the Treasury) in 2007 and it got worse after November that year.
Sinclair Davidson
26 Jul 10 at 10:24 pm
(sigh) The first non-neutrality is the requirement that miners finance the government share at the Long Bond rate. The second non-neutrality is that the tax assumed away risk – all returns above the long bond rate were defined as supernormal profit (or just profit in your terminlogy). The third problem with the tax was that it relied heavily on assumptions that were easily violated in the real world. As I told a group of parlimentarians
Sinclair Davidson
26 Jul 10 at 10:28 pm
Harry, stop it with the ad homs for a change. It’s you that doesn’t understand the tax and the only meandering I’m seeing is from you.
You didn’t follow the thread from the start.
Having said that:
The My-fair-share-tax does not refund costs. It would theoretically refund losses after a project has been closed. That’s different.
Marginal firms can’t be forced out because it was levied only on net positive profits – if firms earned no profits they paid no tax. If firms made a loss they got a refund.
You’re meandering again Harry. My comment about marginal firms being forced out was not directly about the tax but a response to your explanation relating to your support of Henry’s claim about profit based taxes not effecting prices.
You are unable to offer an explanation are you?
Keep up with the class, Harry.
In direct response to this:
Marginal firms can’t be forced out because it was levied only on net positive profits – if firms earned no profits they paid no tax.
Yea? You’re actually saying that marginally profitable firms (or firms becoming more marginal as a result of a tax) or projects will continue in perpetuity and no one would pull the plug? Are you serious? Do you really believe that?
If firms made a loss they got a refund.
They may get a refund.
You still haven’t provided evidence why investors would want to give up 40% of the top for the bottom. How do you know that, Harry? Why should we believe you to the point where you think people are simply lying?
JC
26 Jul 10 at 10:33 pm
Goodnight.
hc
26 Jul 10 at 10:43 pm
There was no fucking legislation, so how can we know what the RSPT was going to look like?
After yeras in the Tax industry, I can tell you that tax legislation always looks different to what governments announce it to be. Hence, in the good old days before Rudd, the Government always released the legislation before announcing a new tax.
Can anyone believe that the LAbor government (Bogan’s Heroes) would really refund costs to a miner that made a loss?
Rococo Liberal
26 Jul 10 at 10:43 pm
You’re right, RL. We really only know the broad outlines of the tax, not the legislation and the proof is in the pudding as they say.
However we’re being theoretical here.
Here’s my point.
Harry claims the tax will not adversely affect the level of new entrants with the 40 40 proposal. He utters that with enough confidence and aplomb that he’s calling people who disagree liars.
I’ve asked him to provide evidence but all he’s done is repeat the proposal to me and confidently suggest how no one would take it, deliberately refusing to provide evidence.
Personally I would have thought he had the evidence at his finger tips.
JC
26 Jul 10 at 10:55 pm
Here’s the other things Harry never mentioned but still calls people liars.
Around 88% of the profits in the mining industry are made by mega established firms.
1. He’s asking you to believe that large firms will have their major projects turn unprofitable and the government will fund them 40% of the losses. What are the chances that BHP’s iron ore and coal operations for instance are going to turn profitable in the foreseeable future?
2. Investors tailor their risk according to their own investment philosophies and limitations. So they don’t need or want downside government protection if the top side opportunity is going to have a fairly hefty ceiling.
in other words I’d tailor my risk capital allocation according to perceived sense of where it is.
However to believe this means harry will call you a liar. Amazing.
JC
26 Jul 10 at 11:16 pm
oops turn unprofitable in the near future…
JC
26 Jul 10 at 11:42 pm
Investors are looking to make multiples on their investment that’s combined with a specific downside, which is losing all their capital.
Let’s have a look at what happens in this scenario calculating the payout ration from a loss perspective and see what happens.
Investment of $10,000
There’s 30% of losing all the investment, but a 70% chance of making $100,000.
The probability factor is
30% * $10,000 = $3,000 and adjusted return of $30,000
What happens if there’s the 40/40 tax refund split .
10,000-4000 = 6,000 * 30% = $1,800 and adjusted return of :
100,000 * 40% = 40,000 * 30% = $12,000
so we go from
30,000 /3,000 = 10
12,000 / 1,800 = 6.6
In other words the effect of the tax has reduced the chances of a higher return on the payout ratio and of course the reason is the expectation of large returns to compensate for risk.
JC
27 Jul 10 at 12:11 am
Interesting:
Independent grocery retailers to join miners in anti-MRRT ads.
Looks like these real-world businessmen have decided that Ken Henry (and certain academic eggheads) are gilding the lily.
C.L.
27 Jul 10 at 12:13 am
oops
……calculating the payout ratio from a loss perspective and see what happens.
JC
27 Jul 10 at 12:13 am
If Wayne Swan thinks that a $2.7 billion tax across many companies is going to increase inflation and prices, then he should cut government spending and cut taxes. A lot.
Samuel J
27 Jul 10 at 7:43 am
Clarke
There are a lot of questions here for you. Don’t do a runner with your tail between you legs.
JC
27 Jul 10 at 1:39 pm
“Hence, in the good old days before Rudd, the Government always released the legislation before announcing a new tax.”
Before anyone I can remember.
One thing is for sure, somebody will be paying the baby tax, and it will be a combination of shareholders, customers and employees.
pedro
27 Jul 10 at 5:45 pm