Energy Subsidies

Lessons Learned in Assessing their Impact and Designing Policy Reforms

Anja von Moltke, Colin McKee, Trevor Morgan, Klaus Töpfer

• Publisher: Routledge
• Year: 2017
• ISBN:
  9781351283182
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

The need to reform energy subsidies was one of the pressing issues highlighted at the World Summit on Sustainable Development. Many types of subsidy, especially those that encourage the production and use of fossil fuel, and other non-renewable forms of energy, are harmful to the environment. They can also have high financial and economic costs, and often only bring few benefits to the people for whom they are intended.Removing, reducing or restructuring such energy subsidies is helpful for the environment and the economy at the same time. Potential social costs in terms of employment in the conventional energy industry or reduced access to energy could be addressed by redirecting the money formerly spent on subsidies to income support, health, environment, education or regional development programmes.Of course, subsidies can have certain positive consequences, particularly where they are aimed at encouraging more sustainable energy production and use. Temporary support for renewable energy and energy-efficient technologies to overcome market barriers, and measures to improve poor or rural households' access to modern, commercial forms of energy, for instance, could be positive measures in support of sustainable development.Based on ground-breaking work undertaken by UNEP and the International Energy Agency, this book aims to raise awareness of the actual and potential impacts of energy subsidies and provide guidance to policy-makers on how to design and implement energy-subsidy reforms. It provides methodologies for analysing the impact of subsidies and their reform, and reviews experiences with energy subsidies in a number of countries and regions. Drawing on these case studies, it analyses the lessons learned as well as the policy implications, and provides guidance on how to overcome resistance to reform.The book provides an analytical framework which aims to set the scene for the detailed discussion of energy-subsidy issues at the country level. It considers how subsidies are defined, how they can be measured, how big they are and how their effects can be assessed. A more detailed discussion of methodological approaches to the assessment of the economic, environmental and social effects of subsidies and their reform is contained in the Annex.Chapters 3–11 of the book contain country case studies from contributing authors, which review various experiences and issues related to energy subsidies in selected countries, but do not strive for a common approach. They are organised along geographical lines, beginning with a review of energy subsidies generally in OECD countries. Case studies of energy subsidies in transition economies – the Czech and Slovak Republics (Chapter 4) and Russia (Chapter 5) – follow. Three studies of Asian countries focus on the costs of different types of energy subsidy: electricity subsidies in India (Chapter 6), oil subsidies in Indonesia (Chapter 7) and energy subsidies generally in Korea (Chapter 8). Chapter 9 reviews the effect of energy subsidies in Iran and suggests a pragmatic approach to reforming them. This is followed by an assessment of the LPG subsidy programme in Senegal (Chapter 10) and an analysis of the effects of removing coal and oil subsides in Chile (Chapter 11).Chapter 12 analyses the lessons learned from these case studies, focusing on the economic, environmental and social effects and their implications for policy. Finally, Chapter 13 discusses the implications of these findings and makes practical recommendations for designing and implementing policy reforms.This book will be essential for both practitioners and academics involved in the energy sector and for governments and policy-makers wishing to examine the reform of energy subsidies.

1
Introduction

1.1 Background

Natural resource subsidies have a number of perverse consequences: among others, they send false price signs that encourage overuse of resources; they inhibit the development of substitutes that are more environmentally friendly; they distort international trade; and they divert scarce financial resources from other social purposes. Yet they persist. In some cases, subsidies still serve legitimate social goals, benefiting poor or marginalised consumers while, in others, governments are reluctant to undertake reform for fears that their removal may adversely affect competitiveness and employment in certain sectors.

Fossil fuel subsidies offer a good illustration of these linkages. Fossil fuels are the principal cause of climate change, mainly in industrialised countries, but increasingly in developing countries. While considerable political and legal progress has been undertaken in negotiations to control greenhouse gas emissions and mitigate climate change, many countries around the world continue to subsidise fossil fuel production, processing, transportation and consumption. This impedes more efficient energy use and conservation as well as the development and deployment of renewable energy sources. The 1992 UN Framework Convention on Climate Change (UNFCCC) and the 1997 Kyoto Protocol, which aim to stabilise greenhouse gas emissions, both recognise the key role that removing harmful subsidies could play in achieving this goal. However, while general agreement has been reached on the need to reform energy subsidy programmes, implementation of subsidy reform has so far been limited—in a large part due to the difficulty in understanding their complexity and scope. Among the factors that hinder reform are a lack of transparency, disagreement on how to define and measure subsidies and their effects and vested interests.

There is thus the need to better understand the uncertainties surrounding fossil fuel subsidies, to develop policy options that address the economic, environmental and social impacts while helping governments to ease the transition for those who currently benefit from such subsidies.

UNEP, with the IEA, conducted a series of regional workshops on energy subsidy reform and sustainable development in late 2000 and early 2001. They were financed by voluntary contributions from Austria, Canada, Denmark, Germany, the Netherlands, Sweden, Switzerland and the United Kingdom. The primary aims of the workshops, at which the findings of UNEP and IEA analyses of energy subsidy issues were presented, were to:

• • Provide a platform for dialogue at the regional level for government representatives, experts, non-governmental organisations and industry participants to exchange ideas and policy experiences on specific regional issues.
• • Further the dialogue between developed and developing countries on the opportunities and challenges in reforming subsidies.
• • Review and develop methodologies for identifying and assessing quantitatively the effects of energy subsidies.

UNEP and the IEA subsequently prepared a synthesis report, Energy Subsidy Reform and Sustainable Development: Challenges for Policymakers, setting out the key issues discussed during the workshops and the main findings and conclusions. That report was submitted to the ninth session of the United Nations Commission on Sustainable Development held in New York in April 2001. A booklet, Reforming Energy Subsidies, describing in non-technical language the central messages and findings of the synthesis report and the background analytical studies was published in April 2002.¹

1.2 Objectives and structure of this report

This report analyses in more detail issues related to energy subsidies and their reform. It aims to raise awareness of these issues among stakeholders, to highlight the impact of subsidies and the barriers to reform, and to provide guidance to policy-makers on how to go about designing and implementing reforms.

The next chapter, describing the analytical framework, aims to set the scene for the detailed discussion of energy subsidy issues at the country level. It considers how subsidies are defined, how they can be measured, how big they are and how their effects can be assessed. A more detailed discussion of methodological approaches to the assessment of the economic, environmental and social effects of subsidies and their reform is contained in the Annex .

Chapters 3–11 contain country case studies from contributing authors, which review various experiences and issues related to energy subsidies in selected countries, but do not strive for a common approach. They are organised along geographical lines, beginning with a review of energy subsidies generally in OECD countries. Case studies of energy subsidies in transition economies—the Czech and Slovak Republics (Chapter 4) and Russia (Chapter 5)—follow. Three studies of Asian countries focus on the costs of different types of energy subsidy: electricity subsidies in India (Chapter 6), oil subsidies in Indonesia (Chapter 7) and energy subsidies generally in Korea (Chapter 8). Chapter 9 reviews the effect of energy subsidies in Iran and suggests a pragmatic approach to reforming them. This is followed by an assessment of the LPG subsidy programme in Senegal (Chapter 10) and an analysis of the effects of removing coal and oil subsides in Chile (Chapter 11).

Chapter 12 analyses the lessons learned from these case studies, focusing on the economic, environmental and social effects and their implications for policy. Finally, Chapter 13 discusses the implications of these findings and makes practical recommendations for designing and implementing policy reforms.

Note

1 UNEP/IEA 2002. Information about the workshops and the synthesis report can be found at www.uneptie.org/energy/act/pol/wokshops/sub_ws.htm [sic].

2
Analytical framework

This chapter presents various principal issues surrounding energy subsidies, as well as an introduction on how to analyse the economic, environmental and social impacts of subsidies and their reform. Subsidies come in both direct and indirect forms, such as tax exemption and price controls, or as regulations that may skew the market. Such diversity has led to difficulty in defining their exact nature, but it is generally agreed that subsidies can be any government action that keeps the price below or above what the market level would normally determine. Global estimates of fossil fuel consumption subsidies have been placed at around $230 billion. In understanding subsidies’ impacts, as well as the benefits of reform, it is essential that the economic, environmental and social factors be considered together. Such integrated assessment can therefore high light the trade-offs stemming out of government policy impacts, while also accounting for the overall well-being of both individuals and society. Methodologies to undertake such analysis are introduced with further discussion provided in the Annex.

2.1 Defining energy subsidies

There is enormous confusion surrounding the terminology and definition of energy subsidies. Government intervention, assistance, transfers and support measures can all generally be considered as a form of subsidy. The narrowest and perhaps most commonly used definition of a subsidy is a direct cash payment by a government to an energy producer or consumer. But this is just one way in which governments can stimulate the production or use of a particular fuel or form of energy. Broader definitions attempt to capture other types of government intervention that affect prices or costs, either directly or indirectly. For example, an OECD study defined a subsidy in general terms as any measure that keeps prices for consumers below market levels, or for producers above market levels or that reduces costs for consumers and producers (OECD 1998). In a similar way, the IEA defines an energy subsidy as any government action that concerns primarily the energy sector that lowers the cost of energy production, raises the price received by energy producers or lowers the price paid by energy consumers (IEA 1999). This report does not adopt any specific definition but works broadly within these ideas of what a subsidy is.²

An energy subsidy can take several different forms. Table 2.1 sets out the principal sources of subsidies based on the IEA definition. Some subsidies have a direct impact on price, such as grants, tax exemptions and price controls. Others affect prices or costs indirectly, such as regulations that skew the market in favour of a particular fuel or government-sponsored technology research and development.

Table 2.1 Main types of energy subsidy

Government intervention	Example	How the subsidy usually works
		Lowers cast of production	Raises cost of production	Lowers price to consumer
Direct financial transfer	Grants to producers	✓
	Grants to consumers			✓
	Low-interest or preferential loans to producers	✓
Preferential tax treatment	Rebates or exemptions on royalties, sales taxes, producer levies and tariffs	✓
	Tax credit	✓		✓
	Accelerated depreciation allowances on energy supply equipment	✓
Trade restrictions	Quotas, technical restrictions and trade embargoes		✓
Energy-related services provided directly by government at less than full cost	Direct investment in energy infrastructure	✓
	Public research and development	✓
Regulation of the energy sector	Demand guarantees and mandated deployment rates	✓	✓
	Price controls		✓	✓
	Market-access restrictions		✓

Source: UNEP/IEA2002

How governments choose to subsidise energy depends on a number of factors. These include the overall cost of the programme, the transaction and administration costs it involves and how the cost of the subsidy affects different social groups. A per-unit cash payment to producers or consumers is the simplest and most transparent form of subsidy, but can involve considerable accounting and transaction costs. It also involves a heavy direct financial burden on the national treasury. Governments generally like to keep subsidies ‘off-budget’ for political reasons; on-budget subsidies are an easy target for pressure groups interested in reducing the overall tax burden. For this reason, subsidies often take the form of price controls that set prices...

Table of contents

• Cover
• Title
• Copyright
• Contents
• Acknowledgements
• Foreword
• The United Nations Environment Programme
• Executive summary
• 1. Introduction
• 2. Analytical framework
• 3. Energy subsidies in OECD countries.
• 4. Energy subsidies in the Czech and Slovak Republics
• 5. Energy subsidies in Russia: the case of district heating
• 6. Electricity subsidies in India
• 7. Oil subsidies in Indonesia
• 8. Energy subsidies in Korea?
• 9. Energy subsidy reform in Iran
• 10. LPG subsidies in Senegal
• 11. The impact of removing energy subsidies in Chile
• 12. Analysis of the findings of country case studies
• 13. Designing and implementing energy subsidy reforms
• Annex: methodological approaches to analysing energy subsidy reform
• Abbreviations
• References