Fossil fuel subsidies have been a staple of economic policies for decades. For many citizens around the world, fuel subsidies have become an unquestioned reality. In recent months, however, this reality has been questioned. The presence of a global pandemic and record-low oil prices have created an opportunity to eliminate fossil fuel subsidies; however, previous attempts to cut fuel subsidies have been met by civil unrest. If countries leverage this unique time to persuade citizens why it is prudent to eliminate fuel subsidies, it will be the first step on a long journey to reducing global carbon emissions.
What are Fossil Fuel Subsidies?
Fossil fuel subsidies typically come in two flavors. They can be consumer-focused, making fuel and electricity cheaper by covering the difference between the lower price people pay for fuel and what it costs to produce. They can also be producer-focused, lowering the cost it takes to produce fuel through tax breaks and other government concessions directed at energy companies.
Energy subsidies are tricky for governments to navigate. Used predominantly in countries with poor social service and tax collection systems, fossil fuel subsidies are an easy way to help lower-income families afford the fuel and electricity they need to survive. At the same time, energy subsidies can be a huge burden on governments’ long-term budgets and take away from spending that could be directed elsewhere, to include education and health care.
Many economists challenge how much energy subsidies actually help the poor. In many developing countries, the poorest do not own cars and may live in communities with limited access to electricity, resulting in very little benefit from subsidies. Instead, it is argued, more affluent families reap the greatest benefits of energy subsidies. On the whole, most fossil fuel subsidies are seen as largely outdated and inefficient use of government revenue.
Fossil fuel subsidies are also incredibly harmful to the environment. In 2017, the International Monetary Fund (IMF) estimated that the externalities associated with fossil fuel subsidies cost society and the environment $4.9 trillion. The IMF also found that reducing subsidies could have lowered global carbon emissions by 28% in recent years.
Elimination of Subsidies
Recently, two factors have created an opportunity to eliminate fossil fuel subsidies. First, the pandemic caused demand for oil, which was down before the pandemic, to plummet, resulting in negative oil prices in late April. The low price of oil left some oil-exporting countries, typically the largest subsidizers, strapped for cash. Middle-income oil exporters spend 2 to 10% of their gross domestic product on fossil fuel subsidies. Furthermore, many governments recognize that eliminating subsidies now, while the cost of oil is low, could soften the blow for consumers and mitigate some political blowback.
Second, to effectively fight coronavirus, governments need significant financial resources. As public health costs skyrocket, governments now have a legitimate reason to reallocate subsidy funds on Covid-19 response measures. In the same vein, many countries can use their relative unpreparedness for Covid-19 as reason to focus future expenditures on health care and other priorities instead of subsidies.
What is Happening?
Several countries have already taken action. Both Nigeria and Tunisia have decreased fuel subsidies recently, while Sudan is planning on replacing some energy subsidies with direct payments to the poor. In Dubai, a state-owned utility company is considering raising rates for the first time in decades.
However, some countries are using subsidies to cushion the economic blow of Covid-19. Indonesia, Kazakhstan, and Thailand lowered utility costs and subsidized electricity in response to Covid-19. Though these policies are largely short-term actions designed to buttress the poor, there is a chance they may become permanent energy policies post-pandemic.
Curbing subsidies now does not guarantee that countries will not reverse course in the future. After oil prices plummeted in 2015, several countries, including Kuwait, Oman, and Saudi Arabia, moved to reduce subsidies. Following a series of protests in response to the move, Kuwait and Oman reinstated the subsidies.
Countries have an opportunity to eliminate fossil fuel subsidies. However, if history is any indication, removing subsidies may be easier said than done. Many of the largest fossil fuel subsidizers are politically unstable, making the prospect of slashing popular subsidies a particularly risky move. Nigeria and Iran have experienced considerable instability in recent years and may fear that cutting subsidies will exacerbate other domestic issues. Eliminating fuel subsidies will likely be perceived as an accelerant of instability and must be handled carefully.
Understanding the potential for political backlash, countries should seize this opportunity to make the case to citizens as to why it is prudent to eliminate subsidies.
First, countries that put subsidies in place to cushion the economic blow of the pandemic should commit to slashing these subsidies when the economy improves. As seen in the past, many governments will face the temptation of keeping these programs in place for years to come.
Second, nations should articulate why a budget that prioritizes spending on health care and other sectors is more prudent than funding fuel subsidies.
Finally, countries should invest in green energy technology and infrastructure. Wind and solar power often generate cheaper energy than fossil fuel alternatives. Pursuing greener options will allow governments to provide cheap energy to the poorest, while saving on fossil fuel subsidies. Several Middle Eastern countries are already aggressively pursuing renewable energy development and can serve as examples for other large subsidizers around the world.
Large subsidizers will likely be unable to eliminate fuel subsidies on their own. The US should help. This support may come in the form of mutual goal setting, designed to cut subsidies over time, or technical and financial support for renewable energy technology and infrastructure development. Most importantly, the US should consider eliminating its own producer-focused tax breaks for the fossil fuel industry, and invest that money in green energy technology.
Some countries may not be able to make the case for eliminating fuel subsidies. That said, ushering the beginning of the end to fuel subsidies may be one of the pandemic’s few silver linings.