Bureau of Agricultural Economics, Canberra

A BAE submission to the IAC

PETROLEUM PRODUCTS: TAXATION ARRANGEMENTS

Australian Government Publishing Service Canberra 1985

@ Commonwealth of Australia 1985

ISSN 018-9445 ISBN 0 644 04693 7

Printed by Canberra Publishing and Printing Co., Fyshwick, A.C.T.

FOREWORD

The request in May 1985 by the Minister for Industry, Technology and Commerce, Senator Button, that the Industries Assistance Commission review the taxation and subsidy arrangements for petroleum products came at a particularly important time for rural industries. Prices for fuel were rising rapidly following the depreciation of the Australian dollar. In addition, the levels of subsidy provided for the transport of fuel to rural areas had been reduced sharply following questions about the effectiveness of the subsidy in reducing fuel costs. As fuel is a major input for agricultural and fishing industries, any evaluation of the taxation and subsidy arrangements for petroleum products should take full account of the effects on those industries.

Such effects are assessed in this submission. A number of weaknesses have been identified in the present arrangements. Ways of overcoming those weaknesses, which would be beneficial to rural industries and to the economy as a whole, are suggested. However, further research and a significantly improved data base would be required to quantify accurately the probable benefits of the suggested changes.

Preparation of this submission was carried out by Bill Curran and Nancy Wallace.

ANDY STOECKEL Director

Bureau of Agricultural Economics Canberra ACT

December 1985

iii

CONTENTS

Foreword

summary

1. Introduction

1.1 Background

1.2 Terms of reference

1.3 Current taxation arrangements

1.4 Scope of submission

2. Fuel Use in Rural and Fishing ~ndustries

2.1 The importance of fuel

2.2 Direct expenditure on fuel

2.3 Other fuel costs

2.4 Total fuel costs

2.5 Quantities of fuel used

3. Main Issues

3.1 Background

3.2 The rationale for the taxes and subsidies on petrol and diesel

3.3 Taxes and subsidies on petrol and diesel

3.4 Pricing arrangements for crude oil

3.5 Evaluation of the arrangements for petrol and diesel

4. Alternative Taxation Arrangements

4.1 Summary of options

4.2 A sales tax on petroleum products for raising consolidated revenue

4.3 An additional sales tax on petroleum products to finance public provision of transport infrastructure

4.4 Operational issues

4.5 Effects of a change to sales taxes

References

Figures

1 Taxation arrangements for petroleum products

2 Distribution of petroleum products by end use

Tables

1 Expenditure on fuel in the major fishing and broadacre agricultural industries

2 Estimated change in expenditure on fuel per farm in the major broadacre agricultural industries between 1977-78 and 1982-83

3 Estimated value of fuel requirements per $100 of output from major broadacre agricultural industries in 1978-79

4 Estimated fuel component of freight costs for major broadacre agricultural industries

5 Estimated net contract costs for major broadacre agricultural industries

6 Fuel consumption in the agricultural sector

7 Estimated fuel consumption in rural industries and fisheries in 1982-83

8 Sources of benefits and costs of a specific tax or subsidy

9 Revenue generated by Federal excise on petrol and diesel in 1984-85

10 Annual benefits of petroleum product freight subsidy scheme to the Australian fishing industry

11 ORANI projections of the impact of a 25 per cent across-the-board tariff cut

12 ORANI projections of falls in farm industry output from a rise of 10c/L in the price of petroleum products

13 ORANI projections of falls in farm commodity output from a rise of 10c/L in the price of petroleum products

14 Incidence of different kinds of tax on fuel

15 Net change in consolidated revenue due to the excise on petrol and diesel

PETROLEUM PRODUCTS: TAXATION ARRANGEMENTS

Background

. The IAC was r eques t ed by the M i n i s t e r f o r I n d u s t r y , Technology and Commerce t o r e v i e w t h e r a t i o n a l e f o r t h e t a x a t i o n o f pe t ro leum p r o d u c t s ; t o e v a l u a t e e x i s t i n g arrangements; t o r e p o r t on t h e e f f e c t s on r e source a l l o c a t i o n o f t h e e x i s t i n g arrangements ; and t o o u t l i n e o p t i o n s a v a i l a b l e t o reduce any a d v e r s e e f f e c t s a r i s i n g from p r e s e n t arrangements .

. Fuel c o s t s c o n s t i t u t e an impor tan t par t o f t o t a l c a s h c o s t s f o r t h e r u r a l and f i s h i n g i n d u s t r i e s , and any s u b s t a n t i a l change i n t h e t a x and s u b s i d y arrangements cou ld have major e f f e c t s on b o t h t h e o u t p u t o f t h e s e i n d u s t r i e s and t h e i n c i d e n c e o f t a x e s i n r u r a l a reas .

. T h i s submi s s ion f o c u s e s on t h e f o u r arrangements o f d i r e c t r e l e v a n c e t o t h e r u r a l s e c t o r . These a r e t h e e x c i s e t a x on p e t r o l and d i e s e l ; t h e r e b a t e o f t h e e x c i s e on d i e s e l used o f f road i n some i n d u s t r i e s ; t h e s a l e s t a x e s on l u b r i c a n t s ; and t h e f r e i g h t s u b s i d y scheme f o r pe t ro l eum produc t s .

. The p r i c i n g arrangements f o r i n d i g e n o u s c rude o i l , w h i l e n o t w i t h i n t h e t e r m s o f r e f e r e n c e o f t h e i n q u i r y , were t a k e n i n t o account where n e c e s s a r y i n e v a l u a t i n g t h e s u b s i d y and t a x a t i o n arrangements c u r r e n t l y a p p l y i n g t o pe t ro l eum products .

Fuel c o s t s and f u e l consumption

. Whi l e f u e l costs r e p r e s e n t an impor tan t p ropor t i on o f t o t a l c a s h costs f o r a l l a g r i c u l t u r a l and f i s h i n g i n d u s t r i e s , t h e y a r e s i g n i f i c a n t f o r t h e wheat and f i s h i n g i n d u s t r i e s .

. The average d i r e c t e x p e n d i t u r e on f u e l b y farms i n t h e major a g r i c u l t u r a l and p a s t o r a l i n d u s t r i e s was e s t i m a t e d t o b e around $5000 p e r farm i n 1982-83, o r around 1 0 p e r c e n t o f t @ a l c a s h c o s t s .

. I n t h e a g r i c u l t u r a l s e c t o r , consumption o f f u e l p e r e n t e r p r i s e i n c r e a s e d by 1 5 p e r c e n t from 1979-80 t o 1983-84. V i r t u a l l y t h e whole i n c r e a s e was i n d i e s e l , s u g g e s t i n g t h a t t h e r e was some s u b s t i t u t i o n o f d i e s e l f o r p e t r o l o v e r t h a t pe r iod .

- Fuel c o s t s a l s o r o s e r a p i d l y o v e r t h e pe r iod f o r which r e c e n t Bureau su rv e y da ta a r e a v a i l a b l e . For example, i n t h e wheat-only i n d u s t r y , f u e l e x p e n d i t u r e r o s e by ove r 200 p e r c e n t i n the years 1977-78 t o 1982-83 and f o r t h e wheat-sheep-beef i n d u s t r y i t r o s e b y n e a r l y 250 p e r c e n t o v e r t h e same pe r iod . S i n c e 1982-83, f u e l p r i c e s have con t i nued t o r i s e more r a p i d l y t h a n t h e BAE's i n d e x o f p r i c e s pa id f o r a l l i n p u t s and it i s l i k e l y t h a t f u e l c o s t s were a much h i g h e r p r o p o r t i o n o f t o t a l c a s h c o s t s i n 1984-85. For example, f o r t h e sheep and b e e f i n d u s t r i e s , f u e l c o s t s a s a p r o p o r t i o n o f t o t a l ca sh c o s t s cou ld have been some 1 0 p e r c e n t h i g h e r i n 1984-85 t h a n i n 1982-83.

. B e s i d e s t h e d i r e c t f u e l c o s t s i n c u r r e d b y farm e n t e r p r i s e s , t h e r e a r e i n d i r e c t c o s t s o f f u e l used i n producing i n p u t s t o farming. A l though e s t i m a t e s o f t h e i n d i r e c t c o s t s o f f u e l a r e da t ed , i n f o r m a t i o n from

A u s t r a l i a n Bureau o f S t a t i s t i c s i n p u t - o u t p u t t a b l e s i n d i c a t e s s u c h c o s t s c o u l d be 5 0 p e r c e n t o f t h e d i r e c t c o s t s .

I s s u e s i n t h e p r e s e n t a r r a n g e m e n t s f o r p e t r o l and d i e s e l

. T a x a t i o n p o l i c y f o r p e t r o l e u m p r o d u c t s i s b a s e d m a i n l y on t h e a p p l i c a t i o n o f the ' u s e r - p a y s ' p r i n c i p l e t o t h e p r o v i s i o n o f r o a d s and t h e need t o r a i s e c o n s o l i d a t e d .revenue. C u r r e n t l y , 42 p e r c e n t o f r e v e n u e r a i s e d from the excise o n p e t r o l and d i e s e l g o e s i n t o c o n s o l i d a t e d r e v e n u e ; the r e m a i n i n g 58 p e r c e n t i s a l l o c a t e d d i r e c t l y t o t h e p r o v i s i o n o f b o t h r a i l and road i n f r a s t r u c t u r e . Par t o f the f u n d s from c o n s o l i d a t e d r e v e n u e a r e p r o v i d e d a s g r a n t s t o t h e S t a t e s t o fund S t a t e road i n f r a s t r u c t u r e .

. D i r e c t l y c h a r g i n g u s e r s f o r t h e f u l l c o s t o f r a i l f a c i l i t i e s would be a more e f f i c i e n t method o f f u n d i n g these f a c i l i t i e s t h a n b y i n d i r e c t l y f u n d i n g p a r t o f the c o s t s o f t h e s e f a c i l i t i e s b y a u s e r - p a y s t a x o n f u e l .

. T h e r e a r e some arguments b a s e d o n t h e e f f i c i e n c y o f a l l o c a t i o n o f r e s o u r c e s which would s u p p o r t t h e i m p o s i t i o n o f a user -pays t a x t o fund a t l e a s t some p o r t i o n o f t h e level o f e x p e n d i t u r e on r o a d s . T h e s e arguments a r e not c l e a r - c u t and c o n s i d e r a b l e f u r t h e r r e s e a r c h would be needed t o d e t e r m i n e the a p p r o p r i a t e level o f e x p e n d i t u r e o n r o a d s . However, it i s c l e a r t h a t a t a x o n f u e l i s u n l i k e l y t o be a v e r y e f f e c t i v e user -pays t a x on i t s own and n e e d s t o be complemented by o t h e r u s e r t a x e s o n c h a r g e s .

- T h e r e i s n o c l o s e r e l a t i o n s h i p b e t w e e n c o n s u m p t i o n o f f u e l and t h e costs o f road u s e , a s these c o s t s v a r y w i t h t h e t y p e o f v e h i c l e , s t a n d a r d o f road etc.

- N o t a l l o f t h e e f f e c t o f t a x i n g f u e l would be r e f l e c t e d i n a r e d u c t i o n i n the u s e and t h e r e f o r e t h e c o s t o f r o a d s , s i n c e p a r t o f the e f f e c t o f t a x i n g f u e l would be the u s e o f more f u e l - e f f i c i e n t vehicles.

. The a v a i l a b l e e v i d e n c e i n d i c a t e s t h a t there a r e m a j o r c o s t s t o t h e economy a s a whole a r i s i n g from i m p o s i n g r e v e n u e r a i s i n g t a x e s on f u e l wh ich i s used a s a n i n p u t t o p r o d u c t i o n . Because o f t h e s e c o s t s , a n y r e v e n u e r a i s i n g t a x o n f u e l s h o u l d a p p l y o n l y t o f u e l used f o r p r i v a t e c o n s u m p t i o n . F u r t h e r , any u s e r - p a y s t a x t o fund e x p e n d i t u r e on r o a d s s h o u l d a p p l y on1 y t o f u e l used on r o a d s , and not t o f u e l used b y r a i l w a y s , b o a t s or o f f road i n b u s i n e s s o r p r i v a t e u s e .

- The c u r r e n t e x c i s e o n p e t r o l and d i e s e l , i f n o t r e b a t e d , would be an i m p o s t on a g r i c u l t u r a l p r o d u c t i o n e q u a l t o some 7.5-25 p e r c e n t o f the c o s t s imposed b y t a r i f f s .

- T h e p r e s e n t e x c i s e t a x e s a p p l y t o a l l f u e l , w h e t h e r u s e d on o r o f f r o a d , o r f o r p r i v a t e o r b u s i n e s s consumpt ion .

- The p r e s e n t i m p o r t p a r i t y p r i c i n g s y s t e m and t h e e q u a l i s a t i o n o f f r e i g h t c o s t f o r B a s s S t r a i t o i l i m p o s e s an i m p l i c i t t a x on u s e r s o f p e t r o l and d i e s e l wh ich i s b o r n e m o s t 1 y i n s o u t h - e a s t e r n A u s t r a l i a .

. T h e r e b a t e o f the excise o n d i e s e l f u e l used i n t h e a g r i c u l t u r a l , f o r e s t r y and f i s h i n g i n d u s t r i e s r e d u c e s t h e e x t e n t o f the d i s t o r t i o n s i n r e s o u r c e a l l o c a t i o n . However, the e x c i s e o n p e t r o l i s n o t r e b a t a b l e and th i s l e a d s t o s i g n i f i c a n t d i s t o r t i o n s . P e t r o l , a l t h o u g h d e c l i n i n g i n

i m p o r t a n c e , s t i l l c o n s t i t u t e s around 4 0 p e r cent o f the f u e l used i n a g r i c u l t u r e .

. The s u b s i d y on t h e t r a n s p o r t o f f u e l t o r e m o t e a r e a s now h a s l i t t l e , i f a n y , economic j u s t i f i c a t i o n . T o the e x t e n t t h a t it r e s u l t s i n r e d u c e d f u e l c o s t s t o some u s e r s and n o t o t h e r s , it i s l i k e l y f u r t h e r t o d i s t o r t t h e u s e o f r e s o u r c e s .

. The i n c i d e n c e o f p r e s e n t e x c i s e t a x e s and s u b s i d i e s v a r i e s c o n s i d e r a b l y b o t h w i t h i n r u r a l a r e a s and b e t w e e n r u r a l and urban p o p u l a t i o n s . T h e r e a r e h o r i z o n t a l i n e q u i t i e s i n t h a t i n d i v i d u a l s i n r u r a l a r e a s w i l l t e n d t o pay a h i g h e r amount o f t a x , o n a v e r a g e , t h a n i n d i v i d u a l s i n urban a r e a s w i t h the same levels o f t a x a b l e income.

. O v e r a l l , the e f f e c t o f the p r e s e n t s y s t e m o f t a x e s and s u b s i d i e s i s t o r e d u c e s i g n i f i c a n t l y the e f f i c i e n c y o f r e s o u r c e u s e i n t h e economy and t o l e a d t o h o r i z o n t a l i n e q u i t i e s i n their i n c i d e n c e . The s y s t e m o f t a x e s and s u b s i d i e s i s a l s o complex t o a d m i n i s t e r .

A l t e r n a t i v e t a x a t i o n a r r a n g e m e n t s

. In a s s e s s i n g a l t e r n a t i v e s t o the p r e s e n t t a x e s , n o c o n s i d e r a t i o n h a s b e e n g i v e n t o t h e a p p r o p r i a t e level o f f u n d s t o be r a i s e d b y t a x e s o n f u e l . R a t h e r , the approach h a s been t o t r y t o i d e n t i f y ways o f r a i s i n g the same r e v e n u e a s a t p r e s e n t w i t h o u t the costs t o economic e f f i c i e n c y o f the p r e s e n t s y s t e m and w i t h o u t t h e a d m i n i s t r a t i v e c o m p l e x i t y and t h e i n e q u i t i e s i n t h e i n c i d e n c e o f t h e t a x e s .

. W i t h a s y s t e m o f e x c i s e t a x e s , n o d i s t i n c t i o n i s drawn b e t w e e n u s e s o f t h e good, f o r example , b e t w e e n a p r o d u c t i o n i n p u t and f i n a l c o n s u m p t i o n . B u t , a s argued i n t h e BAE ( 1 9 8 5 b ) s u b m i s s i o n t o EPAC o n t a x a t i o n r e f o r m :

' T h e r e a r e t w o b a s i c a r g u m e n t s f o r e x c l u d i n g i n p u t s from the t a x b a s e . F i r s t , t a x i n g i n p u t s may r e s u l t i n g r e a t e r d i s t o r t i o n s t o r e l a t i v e p r i c e s t h a n t a x i n g o n l y f i n a l goods . The f i n a l t a x - i n d u c e d c h a n g e s i n r e l a t i v e p r i c e s , w i t h i n p u t s t a x e d , w i l l depend i n a complex way on i n p u t and o u t p u t m a r k e t s t r u c t u r e and o n t h e n a t u r e o f ~ r o d u c t i o n p r o c e s s e s . Second , there i s some e v i d e n c e t h a t a d i f f e r e n t i a l b u r d e n i s b o r n e b y e x p o r t e r s when s u c h c o s t s a r e imposed (see Dixon et a l . 1 9 8 2 ) . '

. The a r r a n g e m e n t s s u r r o u n d i n g t h i s d i f f e r e n c e b e t w e e n t a x i n g i n p u t s and t a x i n g f i n a l consumpt ion a r e s i m i l a r t o the arguments s u r r o u n d i n g t h e a r e a o f value-added t a x e s a s a g a i n s t r e t a i l s a l e s t a x e s i n an economy. T h i s i s d e s c r i b e d i n BAE ( 1 9 8 5 b ) :

' C o n c e p t u a l l y , a value-added t a x w i t h a n e x p o r t r e b a t e i s e q u i v a l e n t t o a r e t a i l s a l e s t a x w i t h a f u l l r e b a t e o n i n p u t s . S i n c e o n l y s a l e s i n t h e d o m e s t i c economy a r e t a x e d u n d e r a r e t a i l s a l e s t a x , t h e e x p o r t e x e m p t i o n i s a u t o m a t i c i n t h a t c a s e . On t h e o t h e r h a n d , i n p u t s a r e a u t o m a t i c a l l y exempt under a value-added t a x . E x c l u s i o n o f i n p u t s i s p o s s i b l e , i n p r i n c i p l e , w i t h a r e t a i l s a l e s t a x . However, i n p r a c t i c e , it i s l i k e l y t h a t some i n p u t s would be t a x e d and t h a t some f i n a l c o n s u m p t i o n would remain u n t a x e d . '

. Compared w i t h t h e c u r r e n t e x c i s e a r r a n g e m e n t s , chang ing t o a s y s t e m o f s a l e s t a x e s c o u l d a l s o s i m p l i f y and r e d u c e the c o s t o f a d m i n i s t r a t i o n .

- S a l e s t a x e s c o u l d be a d m i n i s t e r e d a s a p a r t o f the p r e s e n t s y s t e m o f s a l e s t a x e s o n o t h e r goods r a t h e r t h a n r e q u i r i n g a s e p a r a t e a d m i n i s t r a t i o n s y s t e m .

- T a x e s would c o n t i n u e t o be c o l l e c t e d a t t h e w h o l e s a l e level b u t t h e r e would be n o need t o i n f o r m w h o l e s a l e r s o f , n o r f o r them t o c h a n g e their p r i c i n g p r a c t i c e s i n r e s p o n s e t o , c h a n g e s i n t h e r a t e s o f t a x .

. For m a j o r economic b e n e f i t s t o a r i s e , however , a n e f f e c t i v e Sys tem o f p r o v i d i n g r e b a t e s o r e x e m p t i o n s from the t a x e s f o r p a r t i c u l a r i n d u s t r i e s and end u s e s would be n e c e s s a r y . I n the a b s e n c e o f s u c h a me thod , s e r i o u s c o n s i d e r a t i o n s h o u l d be g i v e n t o a s s e s s i n g w h e t h e r there a r e o t h e r means o f r a i s i n g f u n d s which would n o t i n v o l v e t h e m a j o r l o s s e s i n economic e f f i c i e n c y a s s o c i a t e d w i t h t h e c u r r e n t t a x e s on p e t r o l and d i e s e l .

. E n s ~ r i n g t h a t the t a x e s a p p l y o n l y t o f u e l u s e d f o r s p e c i f i c p u r p o s e s c o u l d be a c h i e v e d f a r more e f f e c t i v e l y t h r o u g h t h e income t a x s y s t e m t h a n a t p r e s e n t . B u s i n e s s e x p e n d i t u r e o n f u e l a s approved a s a n e x p e n s e f o r income t a x p u r p o s e s would h a v e a r a t e o f t a x payment i m p u t e d a c c o r d i n g t o end u s e . T h i s i m p u t e d t a x would t h e n be a l l o w e d a s a r e b a t e a g a i n s t income t a x payments .

- By u s i n g t h e income t a x s y s t e m , i n f o r m a t i o n o n b u s i n e s s c h a r a c t e r i s t i c s c o u l d be used d i r e c t l y a s a c h e c k o n t h e level o f e x p e n d i t u r e c l a i m e d . T h i s i s n o t p o s s i b l e under the p r e s e n t s e p a r a t e s y s t e m f o r p r o v i s i o n o f r e b a t e s .

- T h e i n c e n t i v e f o r c l a i m i n g p r i v a t e u s e o f fue2 a s a b u s i n e s s e x p e n s e i s n o t l i k e l y t o change s u b s t a n t i a l l y , a s a n y i n c r e a s e i n the p o t e n t i a l g a i n would t e n d t o be matched b y a comparab le i n c r e a s e i n t h e risk o f l o s s e s i f m i s c l a i m i n g were d e t e c t e d .

- The p r o c e d u r e s f o r c l a i m i n g f u e l a s a b u s i n e s s e x p e n s e f o r on-road o r o f f - r o a d u s e c o u l d be s i m i l a r t o t h o s e r e q u i r e d f o r m o t o r v e h i c l e e x p e n s e c l a i m s .

. W i t h e f f e c t i v e s e p a r a t i o n o f t a x e s b y d i f f e r e n t end u s e s , the p r e s e n t c o n t r i b u t i o n o f e x c i s e t a x e s t o F e d e r a l f u n d i n g o f r o a d s c o u l d be g e n e r a t e d b y a w h o l e s a l e s a l e s t a x o f around 20 p e r c e n t o n a l l f u e l used o n road . A f u r t h e r t a x o f 20 p e r c e n t o n f u e l used i n p r i v a t e c o n s u m p t i o n would g e n e r a t e t h e same n e t c o n t r i b u t i o n t o c o n s o l i d a t e d r e v e n u e a s t h e p r e s e n t e x c i s e s .

. S u c h a s y s t e m o f t a x e s , w i t h r e b a t e s t h r o u g h the income t a x s y s t e m , would i n v o l v e a t a x o f 4 0 p e r c e n t o n the w h o l e s a l e v a l u e o f f u e l , a b u s i n e s s income t a x r e b a t e o f 20 p e r c e n t f o r t h e t r a n s p o r t i n d u s t r i e s and a f u l l r e b a t e o f the t a x f o r f u e l u s e d o f f road.

. T h e o v e r a l l e f f e c t would be a n i n c r e a s e o f some 6 c / L i n t h e r e t a i l p r i c e o f b o t h p e t r o l and d i e s e l . T h e r e would , however , be h i g h e r a g g r e g a t e community income and the p r i c e s o f some c o n s u m p t i o n g o o d s would be r e d u c e d .

- T h e r e would be some r e d u c t i o n i n t r a n s p o r t c o s t s and s i g n i f i c a n t d e c r e a s e s i n c o s t s i n some f u e l - i n t e n s i v e m a n u f a c t u r i n g i n d u s t r i e s . T h e s e r e d u c e d costs would be r e f l e c t e d i n h i g h e r b u s i n e s s i n c o m e s , p a r t i c u l a r l y i n e x p o r t i n g i n d u s t r i e s and i m p o r t c o m p e t i n g i n d u s t r i e s . For o t h e r i n d u s t r i e s , some p a r t o f the reduced c o s t s i s l i k e l y t o be r e f l e c t e d i n l o w e r p r i c e s f o r o u t p u t .

1. INTRODUCTION

1.1 Background

The taxation and subsidy arrangements for petroleum products are part of a system which covers all aspects of the petroleum industry from searching for crude oil to the sale of final products. The request by the Minister for Industry, Technology and Commerce in May 1985 for the Industries Assistance Commission to review the taxation of petroleum products was the final step in reviewing all arrangements relating to the petroleum industry.

The present taxation of petroleum products has evolved over a long time in response to changing economic circumstances. The excise taxes On petrol and diesel, for example, were first introduced in 1926 as a means of collecting funds for expenditure on road maintenance and construction. There have recently been some changes to the levels and procedures for intervention in the markets for petroleum products. However, the broad thrust of the arrangements has remained largely unchanged. The principal question is whether a tax on fuel is desirable to help to fund the provision of transport infrastructure and to contribute to consolidated revenue, given current and prospective market circumstances. If so, are there more cost-effective means of meeting these objectives?

1.2 Terms of Reference

The terms of reference for the inquiry under section 23(1) of the Industries Assistance Commission Act 1973 were:

I . . . to review the rationale for the taxation of petroleum products, to identify and evaluate possible taxation bases, and in particular to report on

(a) the effects on resource allocation (including international competitiveness of Australiam industry and achievement of the Government's industry assistance and development objectives) of the existing duties and taxes, any Commonwealth subsidy arrangements bearing directly on the cost to users of these products, and of any proposed changes

(b) the options available to the Government to reduce or eliminate any adverse effects reported under (a) above, or any anomalies or inequities, arising from the present arrangements

( C ) the implications for Government revenue of any proposed changes

(d) the effects of assessing and levying duty on petroleum products at various points in the production, storage and distribution processes, and of varying the timing of duty payments

(e) the cost and effectiveness of the administration qf the Commission's recommendations.'

1.3 Current Taxation Arrangements

A wide range of taxation arrangements apply to petroleum products and there is scope for interaction between different taxes throughout all

Figure 1: TAXATION ARRANGEMENTS FOR PETROLEUM PRODUCTS

Import p a r l t y p r l c e (IPP) IPP + r e f l n e r s margln ( d e t e r m i n e d by + w h o l e s a l e r s margln o f f l c i a l OPEC p r i c e + F e d e r a l e x c l s e and exchange IPP + r e f l n e r s + S t a t e franchise

1 7 r f ees 17 PRODUCER REFINER WHOLESALER RETAILER

) c r u d e 011 e x c l s e 0 I ( % of IPP) ' ' I I /' IPP + r e f l n e r s margln)

I + w h o l e s a l e r s margln I FARM PETROL

I / t Federa l e x c l s e IPP + r e f i n e r s margln + S t a t e E r a n c h l s e f e e s 1

/ F e d e r a l e x c i s e + w h o l e s a l e r s margln + F e d e r a l ewclse + S t a t e f r a n c h l s e f e e s + f r e l g h t c o s t s - f r e l g h t s u b s l d y

GOVERNMENT ----------- FARM DIESEL F e d e r a l r e b a t e IPP + r e f l n e r s margln f o r o f f - r o a d t w h o l e s a l e r s margin use of d i e s e l + Federa l e x c l s e

t f r e i g h t c o s t s - f r e i g h t s u b s i d y - F e d e r a l r e b a t e f o r

o f f - r o a d use

stages of production and consumption of these products. From Figure 1, it can be seen that the final price of petrol and diesel used on the farm is influenced by a number of different taxation and regulatory arrangements.

At the final product level, the Federal Government imposes an excise on motor spirit, diesel, aviation gasoline, aviation turbine fuel, fuel oil, heating oil and power and lighting kerosene. A full rebate of the excise is available on diesel which is used off road in the farming, fishing and forestry industries. There is a partial rebate for fuel used off road in the mining industry, and for fuel used by households, hospitals and aged and nursing homes. In addition to these excise arrangements, the Federal Government imposes a tax on the wholesale price of oils, greases and lubricants. Two subsidies on petroleum products are available to rural and fishing industry users. The first is available under the Petroleum Products Freight Subsidy Scheme, the second under the Safe Anchorage Arrangements for the Northern Prawn Fishery.

1.4 Scope of Submission

In this submission, the focus is on how the arrangements specific to the two major products - petrol (automotive gasoline) and diesel (automotive diesel oil, marine diesel fuel and industrial diesel fuel) - affect rural industries.

Other arrangements which may have major effects on the price of fuel to rural industries include the import parity pricing arrangements for crude oil and the arrangements for pooling the cost of transporting Bass

Strait crude oil to refineries. Explicit consideration of these arrangements lies outside the scope of this inquiry. These arrangements have been considered in this submission only to the extent necessary to assess the effects of the excise and subsidy arrangements on economic efficiency.

In the next section of the report, the importance of fuel costs to the fishing and major broadacre agricultural industries is assessed. Some estimates of the quantities of petrol and diesel used in these industries are also presented as a basis for determining the effects of the various subsidies and taxes on industry costs. The major economic issues arising from the present taxation arrangements are discussed in section 3, and some options available to the Federal Government for changing these arrangements are canvassed in section 4.

2. FUEL USE IN THE RURAL AND FISHING INDUSTRIES

2.1 The Importance of Fuel

The amounts paid by farmers and owners of fishing boats for fuel, oil and grease constitute an important part of the total cash costs of their business enterprises. Fuel costs are also a significant component of the costs of transporting goods to markets and the costs of producing many of the inputs used on farms. As a consequence, changes in fuel costs can have a considerable effect on the profitability of farming and Eishing enterprises, both directly according to the quantities of fuel used and indirectly in changing the costs of other inputs to production and marketing.

Fuel costs also have a further, less obvious, effect on resource use in rural enterprises by adding to the cost of consumer goods. The fuel component of consumer goods is generally higher for people in rural areas than for urban populations because major markets are located in urban areas and there are added costs involved in transporting goods to rural areas. The higher cost of consumer goods effectively reduces the purchasing power of rural incomes and, indirectly, the value of rural land. By leading to a change in land values, a change in the price of fuel may well lead to substitution between land and other inputs to production.

2.2 Direct Expenditure on Fuel

Fuel is an important input in agricultural and fisheries production. In Table 1, fuel costs for the fishing and major broadacre agricultural industries are presented. In the fishing industry, annual expenditure on fuel per vessel was around $94 000 in the Northern Prawn Fishery in 1981-82 compared with $11 000 in the East Coast Prawn Fishery in 1982-83. This difference is largely due to differences in technologies required in each fishery.

The average expenditure on fuel per farm is lowest for the sheep industry and highest for farms producing wheat. Fuel expenditure has also been increasing relatively rapidly in the wheat industry, as shown by the percentage changes presented in Table 2. The greatest estimated rate of change took place on farms producing both wheat and beef, where

Tab le 1: EXPENDITURE ON FUEL I N THE MAJOR FISHING AND BROADACRE AGRICULTURAL INDUSTRIES(a): Average p e r farm o r v e s s e l

Type of e n t e r p r i s e 1977-78 1978-79 1979-80 1980-81 1981-82 1982-83

T o t a l e x p e n d i t u r e $

Sheep-only 1 330 ( 1 0 ) Beef-only 1 197 ( 7 ) Sheep-beef 1 669 ( 6 ) Wheat-only 2 896 ( 1 2 ) Wheat-sheep 2 895 ( 5 ) Wheat-beef 3 025 ( 9 ) Wheat-sheep-beef 3 358 ( 8 ) E a s t Coas t Prawn F i s h e r y na South-East Trawl F i s h e r y na

CO Sou the rn B l u e f i n Tuna F i s h e r y na Nor the rn Prawn F i s h e r y na

Expend i tu re as a p e r c e n t a g e of t o t a l c a s h c o s t s % %

Sheep-only 6.5 ( 7 ) 6.8 ( 8 ) 6 .3 ( 1 2 ) 7.2 ( 7 ) 7.2 ( 7 ) 7.9 ( 7 ) Beef -only 6.0 ( 8 ) 5.1 ( 7 ) 6.2 ( 9 ) 6.2 ( 7 ) 7.1 ( 6 ) 7.3 ( 5 ) Sheep-beef 4.0 ( 5 ) 4.3 ( 8 ) 4.4 ( 9 ) 5.5 ( 6 ) 5.9 ( 6 ) 6.4 ( 6 ) Wheat-only 14.0 ( 7 ) 13.0 (11) 15.8 ( 4 ) 12.1 ( 1 5 ) 12.7 (11) 13 .1 ( 1 3 ) Wheat-sheep 9.2 ( 3 ) 11 .8 ( 6 ) 10 .9 ( 4 ) 10 .5 ( 4 ) 10 .4 ( 5 ) 10.4 ( 4 ) Wheat-beef 10.0 ( 6 ) 11 .7 ( 1 0 ) 9.7 ( 1 7 ) 12.6 ( 1 0 ) 10.6 ( 1 8 ) 14 .1 ( 2 3 ) Wheat-sheep-beef 7.2 ( 5 ) 7.6 ( 7 ) 7.9 ( 1 0 ) 8.9 ( 7 ) 10 .0 ( 6 ) 9.8 ( 7 )

( a ) ' F u e l ' r e f e r s t o f u e l , o i l and g r e a s e . na, Not a v a i l a b l e . Note: F i g u r e s i n p a r e n t h e s e s a r e r e l a t i v e s t a n d a r d e r r o r s (RSEs), e x p r e s s e d a s p e r c e n t a g e s , of t h e e s t i m a t e s . RSEs may be i n t e r p r e t e d a s f o l l o w s : r e s u l t s i n d i c a t e t h a t t h e e x p e n d i t u r e on f u e l on sheep-only farms i n 1977-78, f o r example, was $1330, w i t h an RSE o f 1 0 p e r c e n t . T h i s means t h a t , i f a p o p u l a t i o n c e n s u s r a t h e r t h a n a sample s u r v e y had been t aken , t h e r e is a 95 p e r c e n t chance t h a t t h e census l e v e l would be w i t h i n a range of $1330 p l u s o r minus 2 X 10 p e r c e n t X $1330, t h a t is, between $1064 and $1596.

Source : BAE farm and f i s h i n g su rvey d a t a .

expenditure on fuel increased by 246 per cent between 1977-78 and 1982-83. However, the estimates for the l-ast two years have very large standard errors associated with them and the true values may be much lower. From the other estimates provided in Table 1, it appears that the increase was greatest for those farms where wheat growing was a major enterprise. The sheep industry experienced the lowest rate of change between 1977-78 and 1982-83.

These changes reflect, in part, the rapid increase in fuel prices over this period. Based on data obtained from industry sources, farm prices for petrol and diesel rose by 146 per cent and 196 per cent, respectively, over the period 1977-78 to 1982-83 (BAE 1985a). By comparison, the consumer price index rose by only 60 per cent over that period. However, part of the changes appears to have been due to increases in the size of farm enterprises, as measured by total cash costs. Despite the increase in the absolute level of expenditure on fuel, it remained almost constant as a proportion of the total cash costs for those farms on which wheat was a major enterprise (see Table 1). For both the sheep and beef industries, fuel costs as a proportion of total cash costs increased by around 21 per cent from 1977-78 to 1982-83. The ratio of the price of fuel to the BAE's index of prices paid for inputs by all rural industries rose by over 40 per cent during this period, indicating that the demand for fuel as an input in these industries may be relatively responsive to price changes.

Information obtained from industry sources and the Prices Surveillance Authority indicates that fuel prices in the middle of 1985 were approximately 25 per cent above the average for 1982-83. As the BAE's index of prices paid for all inputs rose by only 14 per cent in that time, it is likely that fuel costs constituted a much higher proportion of total cash costs for most enterprises in 1984-85. Based on changes in the relative prices of fuel and other inputs and the growth in fuel consumption over the period 1977-78 to 1982-83, fuel costs as a proportion of total cash costs could be some 10 per cent higher for the sheep and beef industries in 1984-85 than in 1982-83.

These data on direct expenditure refer only to the major broadacre agricultural industries. Data for the agricultural industries as a whole

Table 2: ESTIMATED CHANGE IN EXPENDITURE ON FUEL PER FARM IN THE MAJOR BROADACRE AGRICULTURAL INDUSTRIES BETWEEN 1977-78 AND 1982-83

Type of enterprise Change

Source: BAE farm survey data.

have been calculated by the Australian Bureau of Statistics. Two estimates are available. Data from the 1978-79 input-output tables (ABS 1984) show an estimate of $2.12 expended on fuel for every $100 worth of output produced. This figure is significantly below the weighted average for survey populations of $3.95 estimated from BAE survey data shown in Table 3. Data from the 1980-81 Agricultural Finance Survey (ABS 1982) are, however, consistent with BAE survey data for that year on an industry basis, and expenditure on fuel is estimated to be around 5 per cent of the value of output for all agricultural industries. The data from the input-output tables would seem therefore to underestimate the amount of direct expenditure on fuel in agriculture.

Table 3: ESTIMATED VALUE OF FUEL REQUIREMENTS PER $100 OF OUTPUT FROM MAJOR BROADACRE AGRICULTURAL INDUSTRIES IN 1978- 79

Type of enterprise

Value of fuel requirements per $100 of output

Sheep-only Beef -only Sheep-beef Wheat-only Wheat-sheep Wheat-beef Wheat-sheep-beef

Source: BAE farm survey data.

2.3 Other Fuel Costs

The estimates presented so far are based on the fuel expenditure information recorded by the farming and fishing industries. However, these figures exclude expenditure on fuel used in Undertaking on-farm contracts such as harvesting, but include expenditure on fuel used by a farmer in off-farm contracting. The data also exclude fuel used in transporting output to markets or inputs to the farm when this is not undertaken by the farmer. Thus, a more consistent estimate of the total farm fuel bill would be obtained if the fuel components of freight and on-farm contracts were added and the cost of fuel used in off-farm contracts subtracted from the farm fuel bill.

Estimates of the fuel component of freight costs for broadacre agricultural industries are presented in Table 4. Expressed as a percentage of direct expenditure on fuel, these costs ranged from approximately 1.2 per cent for the wheat industry to 4.7 per cent for the sheep industry in 1982-83. In the absence of average data specific to the transport industry, these estimates are based on the component cost Of fuel in transport costs as reported in the 1978-79 input-output tables (ABS 1984). However, at the margin, fuel is likely to constitute a more significant proportion of additional costs than suggested by average shares, which are likely to be influenced heavily by fixed costs. Thus,

since for agricultural transport the distances travelled per trip would be longer than average, the actual fuel component could be expected to be higher than this average. The estimates presented in Table 4 are, therefore, likely to be lower than the actual fuel costs, particularly in more recent years following the rapid rise in fuel prices.

Net contract costs are presented in Table 5. These are defined as on-farm contract costs minus revenue received for contracting work done off the farm using farm, machinery. These figures are provided because fuel is an important input f ~ r contracting operations, and an accurate estimate of farm fuel costs would need to incorporate some imputed value for fuel used by contractors. While the fuel component of contracting costs is likely to be significant for the relatively fuel-intensive wheat industry, it would be lower for some other forms of contracting. The large negative figure recorded for the wheat-beef farms in 1982-83 may have arisen because farm operators undertook large off-farm contracts during the drought. Generally, net contract costs are highly variable and the total farm fuel bill would need to be adjusted accordingly.

Some indication of the magnitude of the adjustments required may be obtained by considering the fuel component of total tractor costs, including an allowance for operator and implement costs. These are around 20 per cent for tractors commonly used in some of the major cropping areas of New South Wales (Bailey and Buffier 1982; Davies 1985). If this percentage is taken as representative, the amount of fuel used on the farm in the beef industry in 1982-83 was some 6 per cent higher than the figures shown in Table 1. For wheat and sheep-beef farms, consumption was 12 per cent higher, while for sheep farms it was around 4 per cent lower.

Table 4: ESTIMATED FUEL COMWNENT OF FREIGHT COSTS FOR MAJOR BROADACRE AGRICULTURAL INDUSTRIES (a) : Average per farm

Type of enterprise 1977-78 1978-79 1979-80 1980-81 1981-82 1982-83

S heep-only 3 9 3 8 5 1 68 132 113 Beef-only 86 8 0 92 147 127 142 Sheep-beef 147 106 141 201 173 231 Wheat -only 11 19 132 (b) 25 101 129 Wheat-sheep 43 49 85 100 136 108 Wheat-beef 4 4 85 91 85 132 123 Wheat-sheep-beef 6 9 106 145 124 170 197

(a) The fuel component of freight costs was calculated on the basis of a total requirement coefficient for the transport and communication industry from the petroleum and coal products industry of 8.13. That is, $100 of final output of the transport and communication industry involves a total input requirement from the petroleum and coal products industry of $8.13 (ABS 1984). (b) The subsample of farms with only wheat as the major enterprise is small and the estimate for 1979-80 has been affected by the inclusion for one year only of two farms with very large freight costs.

Table 5: ESTIMATED NET CONTRACT COSTS FOR MAJOR BROADACRE AGRICULTURAL INDUSTRIES(~): Average per farm

Type of enterprise 1977-78 1978-79 1979-80 1980-81 1981-82 1982-83

Sheep-only -523 -676 Beef -only -323 689 Sheep-beef 362 1 239 Wheat-only 1 616 631 Wheat-sheep 52 3 503 Wheat-beef 994 2 240 Wheat-sheep-beef 1 994 4 204

(a) Net contract costs equal on-farm contract revenue.

contract costs minus off-farm

Source: BAE farm survey data.

2.4 Total Fuel Costs

The discussion above focuses on fuel costs incurred directly by farm enterprises. These enterprises also bear indirectly the costs of fuel used in producing inputs to farming. The total (direct and indirect) value of fuel requirements for the agricultural sector reported in the 1978-79 input-output tables derived from the national accounts is $3.31 per $100 of output (ABS 1984). This figure may well be even more of an underestimate than the $2.12 per $100 of output reported for direct fuel costs. It is based on the average fuel requirements of the various industries involved, directly and indirectly, in providing goods and services to agriculture. The fuel requirements of certain industries which provide important services to agriculture are likely to be higher than this average requirement. For example, for the reason given earlier, the requirement for fuel used in the provision of transport services to the rural sector will probably exceed the average fuel requirement of the transport industry because of the greater distance travelled per trip in moving goods to and from rural locations.

2.5 Quantities of Fuel Used

The Federal excise on petrol and the Federal rebate for off-road use of diesel are applied on a per litre basis. Therefore, some estimate of quantities of fuel used by the agricultural and fishing industries is necessary if the revenue implications of proposed changes to existing arrangements are to be made explicit.

As shown in Table 6, the consumption of both petrol and diesel per agricultural enterprise increased between 1979-80 and 1983-84. While the total use of diesel increased steadily, the total use of petrol declined. This substitution of diesel for petrol in farming operations reflects, in part, an increase in the area cropped where large diesel-powered equipment has advantages.

Table 6 : FUEL CONSUMPTION IN THE AGRICULTURAL SECTOR

Year Number of enterprises

Total consumption Petrol Diesel

Consumption per enterprise Petrol Diesel

no. ML ML kL kL

(a) Estimate based on information obtained from the Department of Industry, Technology and Commerce.

Source: ABS (1985~).

The estimated fuel consumption per boat for the major fisheries and per farm for farms with different enterprise mixes in 1982-83 is presented in Table 7. For farms, fuel use is most intensive in wheat production, while for fishing boats, it is most intensive in the Northern Prawn Fishery. While farms with wheat as a major enterprise represent only 29 per cent of farms and the Northern Prawn Fishery utilises only 3 per cent of all fishing boats, together they account for more than 45 per cent of all fuel used in the rural and fishing industries. Therefore, any changes to fuel taxation and pricing policies are likely to have a greater impact on these two industries than on others.

3. MAIN ISSUES

3.1 Background

The usefulness at the national level of any particular set of taxes and subsidies depends on two factors. The first is the effects on the efficiency of allocation of resources - that is, whether the benefits at the national level exceed the costs. The second factor is whether the distribution of benefits and costs is consistent with meeting overall social welfare goals. For individual taxes and subsidies directed toward improving the efficiency of resource allocation, this latter factor can usually be regarded as minor in the overall context of the social welfare system. They can, nevertheless, have important impacts on the welfare of certain groups within the economy and this possibility needs to be carefully considered in evaluating the desirability of any set of taxes and subsidies.

The benefits (t) and costs ( - ) associated with a specific tax or subsidy may be categorised as in Table 8.

Whether a direct improvement in the allocation of resources occurs as a result of imposing a tax or providing a subsidy for a product depends,

Table 7: ESTIMATED FUEL CONSUMPTION IN RURAL INDUSTRIES AND FISHERIES IN 1982-83

Industry Number of Fuel consumption Fuel consumption Fuel cost enterprises per enterprise(a) per industry per enterprise

no. L ML $

Sheep-only Beef -only Sheep-beef Wheat-only Wheat-sheep Wheat-beef Wheat-sheep-beef Dairy ( p ) Horticulture(p) Sugar (p)

C-'

Total 135 510 1 706

East Coast Prawn Trawl (c) South-Eastern Trawl Southern Bluefin Tuna Fishery

Northern Prawn Fishery 240 333 333 8 0 116 666

(a) Fuel consumption per enterprise for rural industries was obtained by dividing average fuel costs per farm by the Australian weighted-average bulk price paid for petrol and diesel in rural locations. For 1982-83, this price was estimated to be 38.18c/L. (c) All fishery data are 1983-84 estimates. (p) Preliminary.

Source: BAE farm survey data; Core (1985).

in part, on whether there are other factors which have led to prices being higher or lower, respectively, than the opportunity cost of that product. For petroleum products, the major factor likely to affect prices is the import parity pricing arrangements for crude oil. Determining whether there are net benefits overall from a tax or subsidy is, however, only a part of determining whether the tax or subsidy is efficient. Even if there are net benefits, there may be other methods of achieving the objectives of the tax or subsidy which would lead to higher net benefits.

3.2 The Rationale for the Taxes and Subsidies on Petrol and Diesel

Some indication of the rationale for the taxes and subsidies on petrol and diesel can be obtained from various government policy statements. These statements point to two main reasons for taxing petrol and diesel, although the importance of each may have varied over time. The first is that a tax on these products is one way of ensuring that costs of roads and other publicly funded transport facilities are paid for by users - the 'user-pays' principle. The second is that taxes on these products raise significant funds for consolidated revenue. Rebating the excise on diesel used off road in rural industries is consistent with the excise being solely a road user charge. However, other off-road users obtain only a partial rebate or no rebate at all. The purpose of the excise and the rebates is, therefore, not clear-cut. Another rationale for the rebate and the subsidy for the transport of petrol and diesel is that they seek to reduce the otherwise relatively high incidence of the excise on rural users.

There are alternative economic reasons which could be adduced for the excise duties. These include conservation of a non-renewable resource (oil) and a reduction in the external effects of fuel usage, for example, on air pollution. However, conservation of oil can be more effectively and efficiently achieved by policies directed toward the use of crude oil rather than specific petroleum products. Further, the case for using the excise to reduce externalities is not strong. The major externality

Table 8: SOURCES OF BENEFITS AND COSTS OF A SPECIFIC TAX OR SUBSIDY

Item Tax Subsidy

Value of direct changes in allocation of resources + /- +/- Value of indirect changes in allocation of resources +/- +/- Value of changes in resource allocation distortions due to necessary associated changes in general revenue taxes (a) + -

Administration costs - -

(a) The imposition of an additional (specific) tax adds to consolidated revenue. If the level of consolidated revenue is to remain unchanged, the funds collected by other (consolidated revenue) taxes could be reduced. As general revenue raising taxes tend to distort resource allocation decisions, any reduction in the amount of revenue collected by such taxes is likely to be of net benefit to the economy as a whole. Conversely, providing an additional specific subsidy would require an increase in general tax levels and lead to additional costs to the economy.

directly associated with fuel consumption is air pollution and other more direct action is being taken in this area, including legislation requiring the use of emission control devices and lead-free petrol in new motor vehicles. For these reasons, these two economic factors are not considered further in this submission.

(a) 'User-pays' principle

The user-pays principle is the proposition that users of a good or service should pay according to the cost of providing it to them. In particular, individuals should pay according to any additional cost caused by their use of the good or service. For a good which is not produced, such as clean air, they should pay according to its value in the next most valuable use. The economic basis for this principle is that there will be excess demand for a 'free' good. If all consumers' demands were met, there would be excessive allocation of resources to the production of that good in relation to their valuation of it. Alternatively, if the supply of the good produced is insufficient to meet consumers' demands, there will be increasing competition to obtain the available supplies, resulting in congestion to the point where the costs to users of consuming more of the good equals the benefits they receive. In the case of roads, congestion costs include increases in travelling and waiting times, fuel consumed and general wear and tear on vehicles.

In Australia, the Federal Government provides both direct and indirect funding for the nation's transport infrastructure, including road, rail, air and shipping facilities. In 1926, an excise was placed on petroleum products to provide funds for road construction. However, hypothecation of the funds raised for road construction was abandoned in the 1 9 3 0 ~ ~ and, until the 1980s, tax revenue collected from petroleum products was not linked to any specific outlays by the Government. In 1982, the Australian Bicentennial Road Development Trust Fund Act required that an extra 2c/L excise be imposed on automotive gasoline and diesel oil. This excise is paid into a trust account and used only for selected road programs. In addition, the Australian Land Transport (Financial Assistance) Act, introduced in 1985, requires that a specified amount of the remaining excise revenue collected from fuel used by road and rail transport be paid into another trust account to fund road and, to a lesser extent, rail maintenance and construction under the Australian Land Transport Program. This amount is indexed twice a year according to the consumer price index.

From this recent legislation, it appears that the user-pays principle is presently an important motivating factor in the taxation of petroleum products in Australia. Of a total excise of 10.007c/L in August 1985, the amount allocated specifically for road and rail maintenance and construction was 5.799c/Lr comprising 2c/L for the Australian Bicentennial Road Development Program and 3.799c/L for the Australian Land Transport Program. The remainder is paid into consolidated revenue. Two questions need to be addressed at this point. First, is the user-pays principle a sound one for transport facilities? Second, is a tax on petrol and diesel consistent with the principle?

. Applicability of the user-pays principle

To varying degrees, users of rail, air and shipping infrastructure Can be charged according to their usage, as access to these facilities can be controlled to some extent. To the extent that users can be charged

directly, there is no necessity for a user-pays tax for financing the provision of these facilities. In fact, inefficiencies in the use of such facilities are likely to arise unless users are charged directly for the full cost of their use of them. With a tax on fuel to recover the costs of the use of facilities, users are likely to economise on fuel rather than on these facilities and congestion costs may continue at undesirably high levels. There are, however, two important exceptions to this - the provision of lighthouses to shipping, and airways navigation aids to civil aviation. In the latter case these are the excises on aviation turbine fuel and gasoline and an explicit part of the system of user charges for the use of air navigation facilities.

The situation for roads is similar to that for air and marine navigation aids, as users generally have uncontrolled access to all roads. Further, the administrative costs of directly charging according to usage appear to be prohibitively high, except for major roads where tolls can be exacted at a low unit cost. As well, there is a constitutional doubt on the validity of direct user charges on taxes on interstate road transport.

It is generally accepted that an ideal road user charge, in terms of allocative efficiency, consists of two elements:

- a variable charge related to the cost of using roads; and

- a fixed charge, such as a registration fee, which would not affect road use and would be set to provide as much additional revenue as required for financing the road system (Shaw 1982, p.326).

There are, however, several points which can be raised regarding this ideal. With an on-going program of road development and with users having access to all roads, full funding of all economic costs of roads via a user tax can be justified. These costs include not only road maintenance costs but the opportunity cost of the land, the replacement cost of the roads and any externalities associated with the provision or operation of the road system (for example, road accidents). A user-pays tax for raising funds to cover all road costs would, therefore, seem desirable.

One exception may be where there is a significant 'existence' demand for a road, where people may place value on a road even if they do not use it. An example would be where a road is necessary for the purposes of national defence. However, it is not clear that there are any roads with significant 'existence' value which would not be financed in an economically efficient fashion by an effective user-pays tax.

Further possible exceptions are roads which service mainly local populations. For many roads in rural areas, charging for the use of roads either would not greatly alter the rate of use or, if it did, would not lead to any substantial change in maintenance costs. In such circumstances the argument for a user-pays tax which varies with usage is not strong and the economic choice of method of financing becomes one of finding the lowest cost methods of raising the funds in question. The funding of local roads, for example, may well be best obtained via council rates, as it mostly is at present.

Where congestion or use costs are more important, charging road users according to their usage of roads can lead to costs being lower than those which would apply if roads were a 'free' good. In this case, improvements

in resource allocation may result if amounts in excess of the cost of providing roads were recovered from road users. If the charges were only equal to the costs of providing the roads used, there could be continuing excess costs in the form of congestion. Setting road user charges at too low a level could, therefore, be just as likely .to lead to excessive costs at the national level in terms of resource misallocation as would setting them at too high a level.

A determination of the ideal structure of any such charges and taxes for roads is beyond the scope of this submission. While a charge or tax should be applied to reduce the congestion costs which are incurred on many major roads, the level is not easily determined. As pointed out by Baumol and Oates (19751, a congestion tax should equal the revenue from congestion costs which would exist after any additional roads financed by the tax had been built. Even if such a tax could be accurately determined by estimating the demand for and supply of road services, there is a

l question about whether expenditure on roads should be equal to the tax revenue raised. This depends, in part, on similar considerations to the tariff compensation arguments (see Harris 1975; Lloyd 1975; Warr 1978, 1979). From these arguments, it is not clear that charging users for all the costs of roads will lead to an overall increase in the efficiency of resource use because of the existence of other distortionary effects in the economy. In this regard, the approach adopted to the recovery of costs for competing modes of transport is particularly relevant. Other things being equal, the imposition of a user charge or tax on one mode of transport but not on its competing mode or modes will lead to a misallocation of transport resources by encouraging overuse of the latter. On this basis, the existence of a user charge on marine navigation aids and airway facilities adds weight to the adoption of an equivalent approach in the case of roads. A separate consideration is that a part of the capital cost of new road developments probably should be financed by loan funds to reflect the expected value of services which will be derived by future users. As a result, the amount of revenue expended on roads at a time when major construction work is being undertaken may well exceed the amount of revenue being collected by a user-pays tax, even if the tax is set at a level sufficient to meet all expenditure on roads in the 'long term'. This optimal relationship between user taxes collected and expenditure on roads warrants further research.

. A road user tax on petrol and diesel

Musgrave and Musgrave (1980) point out that, in imposing a road user tax on petroleum products, it is often difficult to reconcile the rate of taxation of individuals with the cost of their use of the transport system. While accepting that petrol use depends on distances driven, they argue that each kilometre driven does not necessarily result in the same variable cost of maintaining roads and neither does it require the same outlay in providing new road facilities. In addition, the wear and tear on roads by different vehicles, such as cars and trucks, is unlikely to be in proportion to their fuel use (Commonwealth Bureau of Roads 1973). The fact that the excise is paid independently of road use means that petroleum product taxes provide only a rough approximation of the application of the user-pays principle to the road transport system. A further problem in terms of optimal road use is that a user-pays tax on fuel is likely to lead to the use of more fuel-efficient vehicles in the longer term, which would reduce the impact of the tax on the use of roads.

Overall it would appear that the funding of roads solely through a tax on fuel would not be warranted, as it would lead to overuse of some high cost roads and vehicles and underuse of low cost roads and vehicles. Nevertheless, there could be a role for some tax on fuel as a part of a set of user-pays charges or taxes. It is beyond the scope of this submission to determine the appropriate structure of these user charges or taxes as it depends on many factors, including the level and nature of any user-pays taxes imposed by State and local governments. Even if an appropriate level of tax could be determined, however, a major problem would remain with taxing petrol and diesel, as only a proportion is used on roads. Funds collected from taxing the use of these products off road should not be allocated as a user-pays tax to fund roads. But whether fuel has been used on or off road may well be difficult to determine and any allocation between the two would necessarily involve some arbitrariness. As indicated previously, the existence of a user tax on aviation fuel improves the case for adopting the same principle in the case of roads.

(b) The general revenue rationale

Currently, some 40 per cent of the revenue generated by the excise imposed by the Federal Government on petroleum products is directed to consolidated revenue. The relative merits of alternative taxes, such as income taxes, must be considered in evaluating the desirability of the excise on petrol and diesel being used for raising consolidated revenue. The arguments for and against various forms of taxes were considered in the Bureau's submission to EPAC on taxation reform (BAE 1985b). In general, income taxes were considered to be preferable to a tax on specific commodities such as petrol and diesel unless these taxes were part of a uniform broadly based consumption tax. Further, a tax on an input to production was generally less attractive than a tax on a commodity used for final consumption. These preferences were based on four assumptions. First, the administration costs and the efficiency losses due to the income effects of each tax would be the same for the same level of revenue collected. Second, there can be additional consumption efficiency losses from a tax on a single commodity if higher prices for the taxed commodity lead consumers to substitute other commodities for it. Third, there may be further efficiency losses with an input tax, as producers may substitute among inputs to production as well as consumers substituting among outputs. Finally, it is likely that there will be horizontal inequities in the incidence of both input taxes and non-uniform taxes on consumption items in the sense that people with the same amount of taxable income will pay considerably different levels of tax. The importance of these considerations will vary according to the product and how it is taxed.

The excises on petroleum products are applied to both inputs to production and to products used for final consumption, as can be seen from Figure 2. In 1978-79, the latest year for which data are available, 65 per cent of the total value of petroleum product sales represented products used as inputs in the production of further goods and services. The remaining 35 per cent met final demand - namely, for private final consumption, changes in stocks, and exports.

There appear to have been major changes in consumption levels of petrol and diesel associated with price changes in recent years (Minister for Resources and Energy 1985a). The changes in consumption indicate that taxes on final consumption and/or on inputs lead to significant changes in

1

Figure 2: DISTRIBUTION OF PETROLEUM PRODUCTS BY END USE

roduction of ds and services

65%

BAE chart

Data source: ABS (1984)

the patterns of resource allocation. This view is reinforced by considering the wide range of intensities of resource use in various sectors and industries. The intensity of fuel use varies widely among sectors, with the total cost of fuel per $100 of output in 1978-79 varying from less than $1.60 for the clothing and footwear industries to $3.30 for agriculture and $8.10 for transport and communication (ABS 1984). These figures indicate that the taxing of petroleum products is likely to have complex and differential effects on resource allocation between sectors of the economy.

Changes in resource use are also likely to occur within sectors. In the rural sector, there are wide divergences among industries in the intensity of fuel use, as shown in Table 1. Changes in the volume of outputs are therefore likely to occur as resources move into less fuel-intensive industries. All these factors indicate that a tax on petroleum products which are inputs to production is likely to have significant effects on the allocation of resources in the economy. These effects could be considerable. From Table 9, it can be seen that the excise on petrol and diesel currently generates net revenue of around S2000m.

Other things being equal, there could also be significant horizontal inequities arising from the use of the excise to fund consolidated revenue. Ignoring rebates of the excise on diesel used off road, inequities could arise from three sources. First, rural populations tend to be more dispersed. As a result, they are likely to consume more fuel directly and thereby pay more into consolidated revenue through the excise

Table 9: REVENUE GENERATED BY FEDERAL EXCISE ON PETROL AND DIESEL IN 1984-85

Refunds and Product Quantity Gross revenue ' drawbacks(a) Net revenue

Diesel (c) 8 166.8 775.1 188.1 587.0

Total 23 528.3 2 232.4 199.3 2 033.1

(a) Includes rebates for off-road use of diesel. (b) Excludes aviation gasoline. (c) Includes automotive, industrial and marine diesel fuel.

Source: ABS (1985b).

taxes than people in urban communities with the same level of income. Second, because urban centres tend to be the locations for both major input and output markets, rural populations are likely to incur proportionately higher freight costs on inputs to production, outputs and consumption items than urban populations. The excise, for consolidated revenue, on the fuel component of this additional freight cost is effectively a higher rate of indirect tax on rural populations. The final factor is that there is double taxing of the fuel component of some final consumption goods. This arises because, under the present system, some taxes are levied as a percentage of the price of a good, and this price includes a component due to the excise on fuel. As the fuel component of consumption goods tends to be higher in rural areas, this double taxing will have a greater incidence among rural populations.

These three factors lead to individuals in rural areas paying a higher rate of tax than individuals in urban areas with the same level of taxable income. There are, therefore, likely to be horizontal inequities in raising consolidated revenue from the present excise taxes on petrol and diesel. Whether there are any net inequities between rural and urban populations as a whole depends also on the distribution of the benefits of 'expenditure from consolidated revenue, an issue not considered here.

3.3 Taxes and Subsidies on Petrol and Diesel

(a) Diesel rebate for off-road use

This scheme was introduced initially so that off-road users of diesel would not have to contribute toward the cost of road maintenance and construction. That is, the scheme in its original form was consistent with the full amount of the excise on diesel being a user-pays tax for recouping the cost of roads. Since its introduction in 1957, the rebate scheme has been abolished and later reinstated at different levels of rebate. At present, under the Diesel Fuel Taxes Legislation Amendment Act 1982, all diesel fuel sales are required to be made at a price which includes excise and customs duties. The scheme provides for certain categories of users of diesel fuel who use the fuel for specific off-road

Purposes to be eligible for a rebate of the duties paid. The categories specified are agriculture, mining, forestry and fishing industries and also domestic premises, hospitals, aged persons homes and nursing homes. The overriding qualification for the rebate is that the fuel is not used for the purposes of propelling a road vehicle on a public road.

Since 1 November 1985, the Federal excise on automotive diesel fuel has been fully rebated for off-road use in the agricultural, forestry and fishing industries. The rebate for other off-road users continues to be 7.619c/~ or 76 per cent of the excise. The overall effect of the present system of excise and rebates is, then, to tax the use of diesel at zero rates in some industries, at 76 per cent of the rate for other industries, and at 100 per cent for remaining users. The size of these groups of users will probably be roughly the same as in 1983-84, and can be estimated from the rebate figures for that year. Based on the excise rebate of 7.619c/L and the total of rebates paid in 1983-84 reported in Table 9, some 2600 ML of diesel were subject to rebate. After allowing for 570 ML used by rail authorities (ABS 19831, there were about 5000 ML or 60 per cent of diesel largely used privately which were not subject to rebate.

If the user-pays principle is accepted, then clearly petroleum products used off road should not be taxed for road maintenance and construction, or the tax should be rebated. However, the analysis is complicated by the fact that part of the funding for roads is taken from consolidated revenue. This means that, notionally, part of the 42 per cent of revenue generated by the Federal excise on petroleum products, which currently goes into consolidated revenue, should be considered as a user-pays tax. Leaving aside the problem of determining the appropriate level of the rebate, if the user-pays principle is accepted, there should be a rebate of the user-tax part of the excise paid on all diesel used off road. The same rebate should also apply to petrol used off road. However, the present rebate applies only to diesel and only to limited categories of off-road users. The rebate system is, therefore, likely to be less than optimal in terms of economic efficiency in that it may be distorting choices between petrol and diesel. in industries where the rebate is given and may be leading to distortions in resource use between industries.

These costs need to be balanced against any additional costs of extending the rebate system. These would include the cost of limiting a rebate of excise on petrol to off-road use and of confining the excise rebate for diesel to off-road use in industries other than those which at present receive a rebate.

(b) Sales tax

Sales taxes were introduced in Australia in 1930 to raise revenue for the Federal Government. All oils and greases used as lubricants are subject to a sales tax rate of 20 per cent. Prior to the 1983-84 budget, all oils, greases and other preparations used as lubricants of machinery, implements or apparatus other than road vehicles were exempt from the sales tax. However, the administrative difficulties associated with determining whether a particular lubricant should be subject to the tax in situations where it was used for both machinery and road vehicle purposes prompted the removal of the exemption for all users.

While expenditure on lubricants does not form a significant portion of total farm costs, the efficiency arguments put forward earlier in relation

to the taxation of inputs to production apply also to the taxation of this particular input. That is, exemptions from the tax are economically desirable if the lubricant is used as an input to production. However, the administrative costs associated with granting such exemptions need to be taken into account.

(C) Petroleum products freight subsidy scheme

Under this scheme, which was introduced in 1978, grants are made to the States to enable them to subsidise the cost of transporting certain petroleum products (automotive gasoline, automotive distillate and aviation fuels) to non-metropolitan locations. Freight differentials between metropolitan and country locations are identified by the Prices Surveillance Authority and a margin to be paid by the consumer is specified. The rest of the differential is made up by the subsidy. In May 1985, the margin paid by the consumer was raised from 1.2c/L to 5.2c/L. Effectively, this means that only those consumers living in very remote parts of Australia now derive any benefit from the scheme. While the scheme operated at a cost of $125m in 1984-85, the increase in the margin is expected to reduce this cost to less than $20m a year.

Whether or not the scheme achieved its stated objective of reducing petrol and diesel prices for consumers in non-metropolitan locations is unclear. In a report presented by the Auditor General in April 1985, it was concluded that 'it could not be established that the benefits of the current subsidy were being passed on to the consumer' (Minister for Resources and Energy 1985b). Under the scheme, oil companies and direct purchase distributors who are registered as distributors make claims for the subsidy on the basis of their sales. An important condition of registration under the scheme is that the distributors pass on the benefit of the subsidy to consumers. It is very difficult to determine the extent to which this is being done. There are, therefore, likely to be significant administrative and compliance costs associated with the scheme. A further conclusion of the Auditor General's report was that 'the complexity of the scheme and the difficulties in developing suitable operating procedures for verifying claims have left the scheme open to deliberate abuse' (Minister for Resources and Energy 1985b).

Even if the scheme did meet its stated objective at a low cost, there is now only a limited economic basis for the scheme. When the scheme was introduced, prices for fuel were increasing rapidly, and providing a freight subsidy may well have eased the burden of adjustment for major users of fuel. At present, its only economic justification is as a means of efficiently offsetting some unwarranted incidence of the excise taxes. The scheme could partly reduce the extent of horizontal inequities associated with the excise taxes such as the inequities likely to arise from higher consumption of fuel by individuals in rural areas than in urban areas. It is, however, unlikely that any reduction in prices due to the scheme would be closely associated with the differences in levels of consumption between individuals so that the horizontal inequities would be only partly rectified and in some cases made worse. In addition, the scheme applies to all fuel consumed. Under the arrangements announced in the May 1985 economic statement, however, diesel used off road in agriculture is subject to a full rebate of excise. It is, therefore, inappropriate for the scheme to apply to diesel used off road in agriculture, at least on the basis that it reduces the inequities associated with the excise taxes.

(d) Safe anchorage arrangements

These arrangements, which are a component of the Petroleum Products Freight Subsidy Scheme, provide for a Federal Government subsidy to four zones termed 'safe anchorage' in the Northern Prawn Fishery. The subsidy, which is based on the cost of transporting fuel to these zones from the nearest mainland port, is intended to equalise wholesale prices of fuel throughout the zones.

As Part of the changes to the Petroleum Products Freight Subsidy Scheme announced in May 1985, rates of subsidy under this component of the scheme were lowered. Prior to the changes, the rates ranged from 1.6c/L to 7.7c/L; they now range from 0.2c/L to 1.9c/L. In the report of the working group on the impact of fuel price increases on the fishing industry (Core 1985), it is claimed that the changes to the Petroleum Products Freight Subsidy Scheme will have the greatest impact on the Northern Prawn Fishery and the East Coast Prawn Fishery. The estimated effects of these changes on the fishing industry are presented in Table 10.

Table 10: ANNUAL BENEFITS OF PETROLEUM PRODUCT FREIGHT SUBSIDY SCHEME TO THE AUSTRALIAN FISHING INDUSTRY

Item Prior to After

21 May 1985 21 May 1985(s)

$m $m Value of safe anchorage components of scheme 1.8 0.3

Value of scheme to Northern Prawn Fishery(a)

Value of scheme to remainder of fishing industry

Total estimated value of scheme

(a) Includes safe anchorage component of scheme. (S) Estimated.

Source : Core ( 1985) .

3.4 Pricing Arrangements for Crude Oil

The present administered system of pricing domestically produced crude oil which is sold to refineries in Australia comprises two components: a calculated import parity price for oil at the refinery port nearest the well head, and a freight equalisation scheme for Bass Strait oil. The effects of these two components on crude oil prices in Australia are now considered separately.

(a) Import parity pricing

An import parity price for a commodity is that price which an importer would have to pay at the port of entry if the commodity were imported. The

Present system of setting calculated import parity prices for indigenous crude oil was introduced in 1978, when Australia was a net importer of crude oil and petroleum products. At that time, charging refineries import parity prices for crude oil could be justified in economic terms as approximating either the opportunity cost of oil for the economy as a whole or the replacement cost of the oil. There are a number of practical problems in setting prices which may, at times, lead to significant divergences between the prices set and the notional import parity price. These include accurately accounting for differences in crude oil quality, 'normal' contractual specifications and timing of price changes. The effect of such problems on the economic impacts of administered pricing arrangements are not considered in this report.

Since 1978, there have been important changes in the Australian market for crude oil and petroleum products. Australia continues to be a net importer, with total imports of crude oil and products equalling nearly 11 000ML in 1983-84 compared with total exports of some 5600ML (Australian Institute of Petroleum Ltd 1985). However, these imports have been largely of heavier grades of crude oil to meet Australian requirements for products such as fuel oil, lubricating oils and bitumen. There has been a growth in possible production of Australian crude oil, which consists mainly of lighter fractions used in the production of petrol and diesel. At the same time, there has been a decline in demand for these products leading to an exportable surplus of domestic crude oil and the products made from it.

With relaxation of export controls, crude oil exports from Bass Strait fields rose from 61 ML in 1982-83, to 1056 ML in 1983-84 and 5723 ML in 1984-85 (Department of Resources and Energy 1985). Further, net exports of lighter petroleum products such as petrol and diesel were some 2200 ML in 1983-84. If it is assumed that, for technical reasons, meeting Australia's requirements for bitumen and other products made from the heavier fractions of crude oil necessarily involves the import of crude oil which has some of the lighter fractions, then Australia was a net exporter in 1983-84 of 3256 ML of Australian crude oil and oil products. This was equivalent to some 11 per cent of production of crude oil in 1983-84.

Overall, Australia has become effectively a net exporter of indigenous crude oil and products made from it. As a result, the opportunity cost of Australian crude oil is no longer the import parity price. At least for oil produced from Bass Strait fields, the opportunity cost is the export parity price. The difference between these two prices is difficult to ascertain accurately, However, taking account only of the freight cost included in the calculation of import parity prices, export parity prices would be at least 1.5c/L lower (Australian Institute of Petroleum Ltd 1985).

The effects on the Australian markets for crude oil and petroleum products of charging refineries import parity prices for crude oil, when at least a part should be charged at export parity prices, are complex. By effectively raising the cost to refiners of the lighter fractions in domestically produced crude oil, the value to refiners of these fractions in imported oil is increased also. This greater value has probably led to increased imports of crude oil. The higher cost of lighter fractions is also likely to have reduced throughput in Australian refineries by decreasing their competitive advantage in exporting products made from these fractions and by leading to increased imports of such products.

Overall, for consumers of petroleum products in Australia, these arrangements have led to higher prices for products such as petrol and diesel and lower prices for products such as bitumen.

The higher prices for crude oil lead in part to higher revenue to the Government from the crude oil levy which is charged as a percentage of the value of the oil. The distribution of the remaining portion is not so clear-cut due to the high degree of market concentration and vertical integration within the industry. Certainly, crude oil producers obtain some of the benefits but refiners may also gain. However, regardless of who benefits from the higher crude oil prices, the higher prices for petrol and diesel constitute an implicit tax on the consumption of these products. Any further government imposts, such as excise duties, are net additional taxes. Conversely, subsidies such as the petroleum product freight subsidy are partly an offset against this implicit tax.

(b) Transport costs

The crude oil produced from Bass Strait is delivered to a number of geographically dispersed refineries. At present, the cost of transporting the oil from Westernport to each refinery is equalised so that the unit cost of Bass Strait oil is the same for all refineries. These unit costs differ from those which would be incurred by refineries in a perfectly competitive market.

In a competitive market, the export parity price would apply only at the point of first loading for export. For-Bass strait oil, this point would probably be at the end of the oil delivery pipeline at Westernport. Prices at distant refineries would be higher by the amount of the extra cost of transporting the oil. The difference between the costs of Bass Strait oil to refineries under the present arrangements and the 'opportunity cost' of the oil decrease with distance from Westernport. The overall effect of the transport cost equalisation arrangement then is for the costs of transport of Bass Strait crude as well as the implicit tax due to the import parity pricing arrangements to be borne principally by consumers in south-eastern Australia.

3.5 Evaluation of the Arrangements for Petrol and Diesel

As discussed in section 3.3, the tax and subsidy arrangements for petrol and diesel are likely to be borne unequally by individuals with similar incomes and by firms with similar levels of fuel use. The raising of consolidated revenue by means of excise taxes is, therefore, likely to lead to both horizontal inequities in the incidence of the tax and some inefficiency in the use of resources. There are, however, a number of other questions regarding the economic desirability of the arrangements. The major question is whether there are overall efficiency gains or losses from changes in resource allocation associated with imposing a tax on petrol and diesel which are used as inputs to production. As the import parity pricing arrangements lead to an implicit tax on petrol and diesel, the full amount of the excise on these products is an additional tax.

As pointed out in the Bureau's submission to the Industries Assistance Commission on fertilisers (Rose, Moir, Farquharson and Vanzetti 1984), measuring the potential gains from changes in resource allocation is extremely difficult. It is possible, however, to provide some indication of whether the changes are beneficial or detrimental by comparing the

direction of changes in resource allocation among industries with those which would occur as a result of a lowering of distortions in the economy overall. This approach is predicated on the preferred option of removal of all tariffs not being attainable (Lloyd 1975; Warr 1979). If the change in resource allocation among industries due to a tax or subsidy is in the same direction as the change which would occur with the removal of all distortions or a general reduction in the extent of all distortions, then it may be assumed that the tax or subsidy has a beneficial effect on resource allocation. Such a comparison could be made between the impact of changes to existing petroleum product taxation arrangements and an across-the-board tariff cut.

The ORANI model described by Dixon, Parmenter, Sutton and Vincent (1982) is suitable for assessing the effects of tariff changes on resource allocation. This model is used below to compare the changes which would occur in resource allocation among rural industries as a result of a 25 per cent across-the-board reduction in tariffs with those changes which would occur with a 10c/L increase in the price of petroleum products. The output of the model based on the tariff costs provides information on the direction of changes in resource allocation which would be beneficial. The direction of changes in resource allocation arising from an increase in fuel prices can be interpreted as the changes which would occur as a result of an additional tax on fuel.

The changes in resource allocation which would occur due to a reduction in tariffs shown in Table 11 were reported in the Bureau's submission to the Industries Assistance Commission on fertilisers (Rose et al. 1984). The projections were made on the 1968-69 ORANI data base in conjunction with tariff rates for 1980-81.

The changes in industry output predicted by the ORANI model to occur from a 10c/L increase in petroleum product prices in 1980-81 are set out in Table 12. To highlight the effect of wage flow-on, the results under

Table 11 : ORANI PROJECTIONS OF THE IMPACT OF A 25 PER CENT ACROSS-THE-BOARD TARIFF CUT

Increase due to Variable tariff cut(a)

Production Pastoral Zone Wheat-Sheep Zone High Rainfall Zone Northern beef Milk cattle Other farm: export Other farm: import competing Poultry

(a) It is assumed that only manufacturing industries are afforded tariff (and tariff equivalent) subsidies.

Source: Rose et al. (1984).

the three different assumptions of no wage flow-on, 70 per cent wage flow-on and 100 per cent wage flow-on are documented. In this experiment, the input mix for each industry is always held fixed. The macroeconomicassumptions of a fixed exchange rate; fixed real aggregate consumption, investment and government spending; and fixed real wages in each occupation with employers able to employ as much labour of each occupation as they desire at the given wage, are also made.

The changes in industry output shown above translate into changes in commodity outputs. These are shown in Table 13. The greatest adjustments occur for meat cattle, sheep, wheat and other farming exports (for example, sugar and fruit), while the smallest changes are for other cereal grains.

Table 12: ORANI PROJECTIONS OF FALLS IN FARM INDUSTRY OUTPUT FROM A RISE OF 10C/L IN THE PRICE OF PETROLEUM PRODUCTS

Variable

Assumptions No wage 70 per cent 100 per cent flow-on wage flow-on wage flow-on

Pastoral Zone Wheat-Sheep Zone High Rainfall Zone Northern beef Milk cattle Other farming: export Other farming: import competing Poultry

Sources: Vincent, Dixon, Parmenter and Sams (1979); and personal communication with the IMPACT team.

Table 13: ORANI PROJECTIONS OF FALLS IN FARM COMMODITY OUTPUT FROM A RISE OF 10C/L IN THE PRICE OF PETROLEUM PRODUCTS

Variable

Assumptions No wage 70 per cent 100 per cent flow-on wage flow-on wage flow-on

Wool Sheep Wheat Barley Other cereal grains Meat cattle Milk cattle and pigs Other farming: export Other farming: import

0.29 0.35 0.33 0.29 0.05 0.38 0.13 0.38

competing 0.09

Sources: Vincent et al. (1979); and personal communication with the IMPACT team.

Comparison of the results in Tables 11 and 12 indicates the importance of the excise taxes on fuel in affecting the allocation of resources. The analysis on which the results in Table 11 were based was undertaken holding real wages constant. The appropriate comparison then is between the results iq Table 11 and the 'No wage flow-on' results in Table 12. This comparison shows that the resource effects estimated to occur in the Wheat-Sheep Zone as a result of a 10c/L fuel price increase would be some 30 per cent of the estimated impact of a 25 per cent across-the-board tariff cut. For the High-Rainfall Zone, the resource effects are estimated to be the same as for the tariff cut. Further, the ordering of the industries and zones according to the magnitude of impacts on output is very similar in Tables 11 and 12. These results indicate that a tax on fuel inputs to production is likely to have adverse effects on the efficiency of resource allocation within agriculture.

4. ALTERNATIVE TAXATION ARRANGEMENTS

4.1 Summary of Opt ions

The earlier analysis of the rationale for the taxation of petroleum products (section 3.2) demonstrated that two main principles underlie the Federal Government's current taxation policies for petroleum products. These are the desire to raise consolidated revenue through taxing petroleum products, and the belief that the users of the road transport infrastructure should contribute toward the cost of these services. In this submission, neither of these principles is rejected. However, the effectiveness of the taxation arrangements currently being used to achieve these objectives is questioned.

The present arrangements comprise a set of overlapping taxes and subsidies which are not directed specifically to either of the two objectives. The component of the excise revenue directed to road and rail maintenance and construction, for example, is raised from fuel used both on and off roads. While the diesel excise rebate does reduce the inefficiencies inherent in charging a 'road tax' for off-road use, it is of less assistance to some industries than others. Further, the payments provided under the petroleum freight subsidy scheme are not well related to the additional burden borne by rural consumers or users as a result of the general revenue component of the excise taxes. These taxes and subsidies have doubtful overall benefit in terms of improving economic efficiency and lead to inequitable incidence of the tax burden. There is, therefore, a strong case to be made for choosing better targeted forms of user charges, general revenue taxes and subsidies.

l In selecting alternatives to the present excise on petrol and diesel which are superior in terms of economic efficiency and distributional equity, two primary criteria must be satisfied. These are: (a) any tax imposed for the purpose of raising consolidated revenue should not apply to production inputs whether used 'on' or 'off' road because of the likelihood that there would be significant costs from misallocation of resources; and (b) any user tax intended to raise funds to pay for the provision and maintenance of roads should not apply to petroleum products used off road, including by the railways.

Table 14: INCIDENCE OF DIFFERENT KINDS OF TAX ON FUEL

End use of fuel

Input to production Final consumption Private Other

Tax

Road motor (boats, transport Other vehicle mowers) industry industries (on-road) etc.

Proposed on all types of fuel User-pays tax X X Revenue tax X X

Present taxes Petrol Diesel

X X X part X X

The difference in incidence between a set of taxes based on these principles and the present set of excise taxes and rebates can be seen in Table 14.

Within these constraints, choice of a suitable tax will depend to a large extent on its administrative costs, the equity of incidence of the tax, and its revenue implications. Two alternative taxation arrangements are presented in this section. These are, first, the imposition of an ad valorem sales tax on petroleum products used for final consumption as a means of raising consolidated revenue; and, second, the imposition of an additional ad valorem sales tax on petroleum products used on road as a means of generating revenue for the provision of transport infrastructure.

4.2 A Sales Tax on Petroleum Products for Raising Consolidated Revenue

The question of a shift to an ad valorem sales tax on fuel as a way of raising tax revenue may be considered at two (related) levels. First, there is the general question of the most efficient way of raising revenue. This issue was addressed in the Bureau's submission to EPAC on taxation reform (BAE 1985b). In that study it was concluded that there would be significant social benefits from a shift away from the existing income tax base to greater emphasis on broadly based consumption taxes in the tax base. Second, an ad valorem sales tax on fuel would bring the system of taxes on petrol and diesel into line with the taxes presently imposed on lubricating oils and greases and would also conform with the tax treatment of other goods. The tax could be collected at the wholesale level if that proved to be the least cost method. Changing to a sales tax might also have the advantages of administrative simplicity. For example, it could be administered as part of the system of sales taxes which apply on other goods rather than requiring a separate administrative structure as at present. Further, because it would be an ad valorem tax, wholesalers would not have to be informed of, nor have to change their pricing practices in response to, changes in excise rates, as presently occurs.

The question of the rate at which the sales tax should be set must be considered in con junction with the recent rationalisation of the sales tax System proposed by the Federal Government in September 1985. Under the proposed changes, there are three rate categories, namely 10 per cent, 20 per cent and 30 per cent. From the data available, it would seem that a

1 sales tax on petrol and diesel used for final consumption (largely private motor vehicle use) which was set at the rate of 20 per cent would make a

I net contribution to consolidated revenue comparable to that made by the I present excise tax.

This conclusion is based on the data set out in Table 15. The net addition to consolidated revenue from 42 per cent of the excise tax is estimated to be a minimum of $565m or some 25 per cent of the gross amount of excise collected. A wholesale sales tax on 35 per cent of sales would generate an amount equal to some 7 per cent of the total wholesale value of sales. With the average wholesale price of petrol and diesel at 38.18c/L, this would be equivalent to around 2.8c/L or 28 per cent of the gross amount of excise collected.

A sales tax rate of 20 per cent would also be in line with the wholesale sales tax treatment applying to most taxed goods. To this extent, use of such a rate would be likely to minimise any consumption distortions between types of goods as a result of tax-induced relative price differentials.

Table 15: NET CHANGE IN CONSOLIDATED REVENUE DUE TO THE EXCISE ON PETROL AND DIESEL

Item Amount

Consolidated revenue collected (42 per cent of excise)

Deductions

Increase in rebates (42 per cent of total rebates) 84 Increased rail costs(a) 24 Decreased business tax receipts(b) 239 Petroleum product freight subsidy(c) 20

Total deductions 367

Net additional consolidated revenue 565

(a) Based on an estimate of total fuel consumption by rail authorities of 570 ML in 1982-83 derived from ABS (1983) data on expenditure and consumption. (b) Estimated on the basis that 35 per cent of petrol and diesel are used for final consumption and a rate of income tax of 46 per cent. (c) Estimated expenditures after the rates of payment were reduced in the May 1985 economic statement.

4.3 An Additional Sales Tax on Petroleum Products to Finance Public Provision of Transport Infrastructure

Revenue which is allocated specifically for the provision of transport infrastructure could be raised by imposing an additional ad valorem sales tax on all petroleum products used on road. This form of taxation is likely to have the same administrative advantages as are described in section 4.2.

The major advantage of an ad valorem sales tax over the present excise system, however, would be that revenues collected are less likely to diverge significantly from funds required for building and maintaining roads. As a consequence, the system for funding expenditure on roads is likely to require changing less frequently. The basis for this proposition is that the real cost of providing and maintaining transport infrastructure and the real price of fuel are likely to be highly correlated because the cost of petroleum products such as fuel and bitumen constitutes a major part of the cost of road systems. A sales tax set as a fixed percentage of the price of a certain petroleum product is, therefore, more likely to generate revenues which change in line with changes in the cost of providing road infrastructure than is an excise indexed by the consumer price index. Fuel prices rose by around 175 per cent between 1977-78 and 1982-83, for example, while the consumer price index rose by only 60 per cent.

It is beyond the scope of this submission to assess the appropriate level of a user-pays tax on road use of fuel. However, if it is assumed that most petrol and about one-third of diesel are used on road, the total use on road would have been about 18 000 ML in 1984-85 (see Table 9). At a price of around 40c/L, the funding for roads in that year of some $1300m could have been raised by a sales tax of 20 per cent.

4.4 Operational Issues

For major economic and distributional benefits to accrue from a change to a system of sales taxes on petrol and diesel, the revenue raising tax should apply only to the private use of fuel, while the user-pays tax should apply to both private and business use of fuel but only to fuel used on roads. For this to occur, the rates of tax would have to vary according to the end use of fuel. According to the calculations in sections 4.2 and 4.3, fuel used in private motor vehicles would be taxed at 40 per cent of the wholesale price, fuel used as an input in the transport industry would be taxed at 20 per cent, and fuel used as an input in agriculture and other off-road industries would not be taxed at all.

The existence of these different rates of tax for various categories of fuel use could lead to active evasion of taxes which would vitiate the potential benefits of a sales tax system. Similar problems are certain to exist in the present system, even if it is inadvertent, such as application of the diesel fuel rebate to on-road and/or private use of fuel. The problem potentially could be much greater under the system of sales taxes, however, as the differences in rates would apply also to petrol which is the primary fuel used for private consumption.

Whether or not problems of evasion developed would depend to a considerable extent on the way the taxes were administered. One

possibility would be for both taxes to apply to all sales of petrol and diesel. Taxes paid by business enterprises could then be offset against taxes on business income via an imputation system. Fuel used as an input on road would attract a rebate equal to the consolidated revenue component of the taxes. Fuel used as an input off road would attract a full rebate of the taxes. Some allowance could possibly be made for off-road private consumption, although the efficiency and equity effects of not allowing for a rebate in these circumstances probably would not be large relative to the potential overall gains of a change to a system of sales taxes.

As an alternative to a rebate system, it would be possible to allow producers to claim a tax credit against any sales tax paid. However, such a system would be extremely difficult to police adequately. It would also be unnecessary if both losses and rebates could be carried forward (in real terms) as deductions against future assessable income.

A rebate system would have a number of administrative advantages over the present overlapping set of taxes and subsidies. While the revenue collected could be set at approximately the same level as at present, administration of the tax and rebate system could be much simpler and probably less costly and more effective than the present fragmented system. By administering the rebates via the income tax system, additional information can be brought to bear in assessing claims. For example, the rates of fuel consumption in various business enterprises can be determined reasonably accurately in relation to the value of output and/or the levels of other inputs. By using such information, claims for rebates would probably be readily monitored via the income tax system.

Also, by operating through the income tax system, there would be little likelihood of increased avoidance of tax from extending the rebates to include petrol. Business enterprises already have considerable economic incentives to avoid tax by claiming as business expenses the personal use of goods such as petrol. For an individual with a 60 per cent marginal rate of tax, for example, the incentive would only increase by around 13 per cent. At present a person on a 60 per cent marginal tax rate can increase after-tax income by 60 cents for every dollar of personal consumption expenditure claimed as a business expense. With a rebate of 40 per cent on business use of fuel off road, every dollar of personal consumption expenditure on fuel which is claimed as a business deduction would provide an increase in after-tax income of 40 cents due to the fuel tax rebate and 60 per cent of the remaining 60 cents as a business expenditure deduction. The total of these increases is 76 cents or 12.8 per cent higher than at present. There would be a commensurate increase in the cost to the individual if any overclaiming of fuel as a business expenditure were detected.

4.5 Effects of a Change to Sales Taxes

On the basis of the estimates made in this submission, a sales tax of 40 per cent (double the 'normal' rate) on fuel used for private consumption and a tax of 20 per cent on fuel used as an input to production on road would provide a similar level of government revenue to the present system. These estimates are based on a number of assumptions which may not be realistic. If the revenue estimates do prove to be overoptimistic, there may be a case for considering changes to the petroleum product arrangements in the context of the overall levels of assistance provided to various industries. For rural industries, for

example, it may be that the overall benefits of changing the petroleum product arrangements would outweigh the level of subsidy on other inputs such as fertiliser.

Replacement of the present excise of around 10c/L by a 40 per cent wholesale sales tax, would probably result in a rise of around 6 c / ~ in the price of fuel used for final consumption. This increase would be moderated if there were a concomitant change from import to export parity pricing for indigenous crude oil. Further, consumers would probably benefit to some extent from lower prices for other goods due to the removal of consolidated revenue taxes on fuel used as an input to production. This second effect would be significant since the revenue collected through taxes on fuels would remain unchanged, thus resulting in no overall increase in the total direct and indirect cost of fuel used. Consumers would also gain to the extent that there were improvements in the efficiency of resource use.

Rural industries and consumers would stand to gain considerably from the changes, as the taxation on inputs would be reduced, products would become more competitive on world markets and double taxation of the fuel component of consumer goods would be eliminated. As a result of these changes, the diesel excise rebate would no longer be required and the benefits overall would far outweigh any loss of the petroleum product freight subsidy scheme.

Overall, a system of sales taxes with imputation of taxes paid by business enterprises on fuel used in exempt end uses would appear to have many advantages over the present system of excise taxes. Because the taxes and subsidies would be directed to specific targets, there would be a marked reduction in the ad hoc nature of their incidence. As a result, the burden of taxes would be spread more equitably and there would be significant improvements in the efficiency of use of resources. Further, the costs of administration and the losses of revenue due to evasion are likely to be lower than under the present system. However, there would be a noticeable increase in prices of fuel to final consumers. If such a system were to be implemented, there would be less marked changes in final consumption of fuel if it were introduced during a period of declining oil prices in Australia or with a move to export parity pricing of indigenous crude oil.

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