PROMOTING AUSTRALIA AS A FINANCIAL SERVICES HUB Brian Toohey has again criticized the Government’s cuts to withholding tax paid by foreign investors in Australia’s managed funds. Unfortunately, Mr Toohey has completely misunderstood both the policy and the underlying policy rationale for the move. Until budget night, Australia had the highest withholding tax rates in the world. A headline rate of 30% which could only be reduced by lodging a tax return and claiming a series of deductions. Our headline rate of 30% compared to 7% for Japan and 10% for Singapore. Now we will have a headline rate of 7.5%. The new rate applies to all managed funds, not just property trusts as incorrectly alleged by Mr Toohey. Mr Toohey argues that reducing our tax rate is an unjustifiable intervention on the market and distorts the results of the Ricardian theory of comparative advantage. Nothing could be further from the truth. Reducing our tax from the world’s highest rate does not create a distortion – it eliminates one. Let me provide an example. Imagine Australia not only exported coal around the world but also imposed a tax on the foreign buyers of our coal. Imagine further that our tax rate was 30% of the profits generated by the coal while the taxes of other coal producers varied between 0% and 15%. Would we retain our comparative advantage in coal? Probably not. Reducing our tax from the highest to one of the lowest in the world would mean Australia’s coal producers could compete on a level playing field. Measures such as our withholding tax reduction are not industry assistance. They are making Australia as competitive as we can be. Mr Toohey continues to insist measures such as this are industry assistance (despite the evidence to the contrary), the amount of money involved is miniscule compared to government assistance for agriculture, manufacturing and even tourism. Mr Toohey argues that the fall of Centro and the international financial turmoil means that Australia should not seek to be a financial centre. Really? If one coal company goes broke (as they sometimes do) we do not question whether we should be a major coal exporting country. Have New York or London questioned whether they would be better off without all the jobs and wealth created by them being international financial centres? I don’t believe so. Mr Toohey thinks the Government should be unconcerned by the fact that a sector, successful locally but weighed down by a series of government imposed uncompetitive burdens exports only 2.5% of its value. We make no apologies for disagreeing. To adopt Mr Toohey’s approach would be negligent in the extreme. Chris Bowen Assistant Treasurer

The Assistant Treasurer Chris Bowen suggests that my critique of the government’s decision to cut withholding tax to 7.5 percent on foreigners who buy paper assets via Australian managed investment funds is somehow akin to my implying that we should impose “a tax on the foreign buyers of our coal”. The comparison is spurious. We don’t tax the export customers of the managed funds industry, nor of the export coal industry. No one suggests we should do so. What’s being exported in the case of the managed funds industry is the services which it sells for a fee to foreigners who put money into an Australian fund. The profits on that fee are taxed in the same manner as applies to other producers of export services or to exporters of coal, iron ore, wool and so on. All that the foreign customers of the Australian fund managers are taxed on is the earnings on the money they put into the fund — not the fees, which constitute export income for the fund managers. The difference is that the government has cut the rate of tax below that paid on other earnings, whether by foreign or local investors. There is no excuse for us to follow suit, just because some other countries are misguided enough to assist their finance sector by cutting taxes on the earnings of foreigners who put money into managed funds. We don’t match countries that try to assist particular industries via high tariffs. Nor is there any reason to do so when they try to achieve a similar result by cutting tax rates for foreigners in a particular industry to well below the normal level they apply to other parts of their economies. If foreigners invest directly in an Australia coal mine, the earnings are taxed at the corporate rate of 30 percent. But Chris Bowen seems to think that we should also cut this rate if some other exporting countries did so. Given that taxes on booming commodity exports have greatly helped the Treasury Wayne Swan achieve a handy budget surplus, he is unlikely to follow the instincts of his assistant any time soon. Australia's success as a commodity exporter depends on many factors, not simply the corporate tax rate which is about average. Far from finding that commodity exporters are over-taxed, the recent Treasury review of our tax architecture suggested that more revenue could be collected via resource rent taxes. Chris Bowen takes issue with my reference to the Centro group of property trusts group in the context of his remarks to a Financial Services Association conference in August 2007 when he said, “You don't need me to tell you how Australia's innovative property trusts are transforming the way property is securitised around the world”. I noted that, even as Chris Bowen was speaking, the most celebrated example of an Australian firm which had developed “innovative” financial engineering practices, the Centro property group, had begun its ignominious slide to the brink of collapse. If Centro's not an example of what he meant, he should tell us which examples he had in mind when he referred to how "Australia's innovative property trusts are transforming the way property is securitised around the world”. In response to my comment that no special measures should be taken to make Sydney a global financial centre, Chris Bowen asks, “Have New York or London [residents] questioned whether they would be better off without all the jobs and wealth created by them being international financial centres?” He then answers his own question by saying, “I don’t believe so”. As they witness the massive destruction of wealth, jobs amid the huge injection of taxpayers money to try to deal with the havoc emanating from these financial centres, many residents may view what’s happening through less rosy glasses than Chris Bowen. The Assistant Treasurer seems largely oblivious to what’s at stake. The financial crisis now engulfing the world stems in large measure from wild risk taking by ridiculously over-paid peddlers of “innovative” forms of securitised paper assets and an assortment of other toxic synthetic financial products with almost no viable connection to investment in the real economy. Australian funds managers have already been given a tremendous leg up by government decisions that ensure a huge flood of money passes through their hands each day because of the mix of compulsion and expensive tax concessions driving contributions to superannuation. No other industry enjoys such a level of guaranteed income due to government decisions. Fortunately, the industry super funds have exercised a commendable degree of restraint on the extent to which the fund managers can pull fat fees from this flood of money. No further government help should be given to the funds management industry by encouraging foreign costumers to turn Sydney into a global financial centre. If exports from the funds management industry never rival those from the mining sector, no great harm will occur. If anything the world could well be a better place in the global financial sector shrunk a little closer to its size in an earlier era in which its primary role was to facilitate the functioning of the "real" economy. As a former chief economist for the International Monetary Fund, Kenneth Rogoff recently suggested that, “Rather than causing a depression, shrinking the financial sector, particularly if facilitated by an improved regulatory structure, might enhance efficiency and growth''.

Brian Toohey