States that fail to fully develop their gas and mineral reserves will come under further pressure on Monday with the release of a blueprint commissioned by Treasurer Scott Morrison for a shake-up of the way the Commonwealth delivers grants.
The Productivity Commission's draft report on horizontal fiscal equalisation is far more wide-ranging than the separate Grants Commission review which last month suggested penalising states such as NSW and Victoria that restricted coal seam gas mining.
The Grants Commission was limited to considering how to apply the agreed principles for distributing goods and services tax revenue that have been in place since 2000. The Productivity Commission has been asked to examine those principles afresh and advise on alternatives.
Among its specific terms of reference are: "state laws and policies restricting the development of energy resources".
The Commission is understood to be attracted to the findings of the Abbott government's Commission of Audit which recommended in 2014 that revenue raised from the goods and services tax be distributed to states on the basis of population rather than need. The arrangement would leave states free to raise as much as they wanted from mining without endangering their GST distribution. It goes beyond last month's Grants Commission proposal to guarantee that they could keep 50 per cent of any increases in mining revenue without endangering their payout.
The Audit Commission suggested the Commonwealth deliver top-up grants to states that would suffer under the new arrangement including Queensland, the Northern Territory, South Australia and Tasmania. The top-up grants would be funded by cutting so-called tied grants for purposes such education and health.
Monday's Productivity Commission draft report will make the point that the Commonwealth delivers much more to the states via tied grants and national partnership agreements ($160 billion) than it does via the GST ($60.7 billion) and that these tied grants are already made on the basis of need.
It will raise the possibility of no longer using GST distributions to compensate the Northern Territory for its relatively large remote Indigenous population, providing funding for Indigenous disadvantage in another way. At present the Territory gets five times the GST distribution that it would on the basis of population, in part because of its large Indigenous population. Western Australia gets less less than one third of what it would on the basis of population, in part because of earlier high mining tax revenues.
A move towards distribution on the basis of population would have little immediate effect on NSW, Victoria and the ACT as each already gets close to what it would if it was funded on the basis of population.
In ordering the inquiry in April, Mr Morrison asked the Commission to test arguments that the 17-year-old system for distributing GST revenue created "disincentives for reform, including reforms to enhance revenue raising capacities or drive efficiencies in spending". It was to determine whether extra revenue states raised as a result of reforms or mining was "effectively redistributed to other states".
"I recognise the strong advocacy from Western Australian Coalition members of parliament and senators in calling for this review," he said. "They have been effective voices for their state in government."
Prime Minister Turnbull agreed, telling the West Australian state Liberal Party conference in September there was "clearly, at the moment, a disincentive in the way the GST formula operates, to exploit mineral resources".
Mr Morrison asked the Productivity Commission to deliver its final report on the GST distribution by February 2018, an unusually tight timeframe.