- The Writer holds听an MSc in Eurasian Political Economy & Energy听from King鈥檚 College London and听also an听MA in European Studies from Sabanc谋 University.
Energy subsidy reforms have received increasing attention in recent years and remain high on the policy agenda. Understanding allocations of energy subsidies across fossil fuels and regions is critical in shedding light on their social, economic, fiscal and environmental impact. In an era of low fossil fuel prices, a window of opportunity to better reform the current fossil fuel subsidies arises.
The International Energy Agency (IEA) points out that although the value of energy subsidies vary from year to year due to fluctuations in energy prices, inflation as well as currency exchange also affect their value as is demonstrated in 2009 when energy subsidies amounted to US$390 billion compared to $494 billion in 2014. The IEA estimates that the majority of subsidies used from 2009 to 2014 were mainly concentrated in oil and gas exporting countries.
In its seminal paper published in 2015, the International Monetary Fund (IMF) found that a post-tax energy subsidy was much higher than earlier estimated. While it is easier to estimate pre-tax subsidies since it is more visible, estimating post-tax subsidies, however, due to its negative externalities, is not as easy to fully estimate. As the finding of the study shows, in 2015 global pre-tax subsidies stood at $492 billion while post-tax subsidies were around $2 trillion.
The Organization for Economic Co-operation and Development (OECD)听defines the subsidy as, 鈥渁ny measure that keeps prices for consumers below market levels, or for producers above market levels or that reduces costs for consumers or producers.鈥�
As this fossil fuel subsidy definition suggests, the idea that 鈥渟ubsidies would keep prices lower for consumers鈥� requires further evaluation. Studies has shown that fossil fuel subsidies have worked well for the richest segment of society and failed to achieve its most important policy objective for the poorer segment. The subsidies allocated for petroleum products are mainly benefiting predominantly wealthy and urban middle class households, who can afford a vehicle.
Conventionally, it is true that wealthy households are inclined to consume more energy and the idea that phasing out subsidies would impact them more so might well sound valid, however, considering the fact that poorer households spend greater shares of their income on fossil fuels, these households would still be affected disproportionately when subsidies are lifted on fossil fuels. Nonetheless, the impact of these subsidies can still be curtailed for the most vulnerable households through well-administered assessment procedures. As a matter of course, subsidies applied to higher income groups can still be channeled to lower income groups in the form of education, health, better infrastructure and tax deductions - measures that would return better benefits to society in general.
Energy subsidies constitute a considerable fiscal burden that pushes out high priority government spending and distorts price signals, which could result in a costly, socially inequitable and economically inefficient resource allocation.
To eliminate the regressive and inefficient aspects of subsidies, it is necessary to have both significant skills and political will. To mitigate the impact of a decline in real income, particularly for lower income groups arising from major subsidy reforms, appropriate compensatory policies need to be put in place. The removal of energy subsidies can be felt both directly and indirectly; as a direct impact, low-income groups could be forced to pay higher electricity bills, and as an indirect impact, the overall price tag could increase for products produced in energy-intensive industries. To avoid the disproportionate negative outcome on all sectors of society from subsidy removals, the financial benefits acquired through the reduction of subsidies should be directed at the expansion of productivity in public services. Therefore, the reform program should be sensitively formulated to protect the most vulnerable and lower income groups.
When subsidies are lifted, fossil fuel importing countries are likely to reduce their demand, resulting in a better trade balance. In addition, economic decision makers would be drawn to invest in other alternative energy sources and implement measures for energy efficiency, and impose policies to reduce overall energy intensity in sectors that are heavily reliant on subsidies.
The application of massive subsidies would discourage private companies from investing in other alternative energy sources or other sectors that would initiate economic growth in the medium to long term.
The overall impact of the removal of energy subsidies would vary from country to country whether they are energy importing or exporting countries and from sector to sector and dependent on their energy intensity.
The lion鈥檚 share of subsidies went to the coal industry, which was estimated to reach $2.5 trillion as of 2015, while the natural gas sector received $518 billion in 2015 and petroleum industry has remained high as well, accounting for 2.2 percent of global GDP, or $1.6 trillion. While fossil fuel subsidies have remained exponentially high, the cost of electricity subsidies was around $148 billion in 2015, according to IMF figures.听 Additionally, from a governmental view, what matters the most is how money is spent through the removal of energy subsidies, - whether it is used to increase overall energy efficiency and enhance the capacity of energy sectors, which were once reliant on subsidies, or whether savings are used in gaining voters confidence by transferring cash to them. 听
One way of dealing with the impact of fossil fuels subsidies is to levy environmental taxes with a strong enforcement policy, which is considered to be the most efficient way of addressing the problem. Until taxes on carbon emissions become widely available and integrated by the whole society, current low energy prices should benefit, since it is expected that oil price levels will increase to a more optimum level and rebalance at $80 a barrel.
Enormous potential remains to be exploited in the world of energy subsidies. A positive environment derived from low energy prices would create opportunities to overhaul counterproductive outcomes stemming from massive energy subsidies. If governments prioritize comprehensive reform policies towards fostering domestic industrial growth, then an efficient functioning welfare system with more equitable distribution of income will be realized.
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- Opinions expressed in this piece are the author鈥檚 own and do not necessarily reflect Anadolu Agency's editorial policy.听
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