Regan Brown
Fossil fuel subsidies are any government actions that favour fossil fuels over other energy sources. They are expected to decline in the near term as energy price support policies are unwound and international prices fall. However, they are projected to rise to $8.2 trillion by 2030 as the share of fuel consumption in emerging markets continues to climb. In 2022, fossil fuel subsidies surged to a record $7 trillion as governments supported consumers and businesses during the global spike in energy prices caused by Russia's invasion of Ukraine. This is more than governments spend annually on education. Removing fossil fuel subsidies would reduce energy security concerns related to volatile fossil fuel supplies, generate revenue, and make a major contribution to slowing climate change. However, removing fuel subsidies can be tricky, as governments must design, communicate, and implement reforms clearly and carefully as part of a comprehensive policy package.
| Characteristics | Values |
|---|---|
| Global fossil fuel subsidies in 2022 | $7 trillion |
| Percentage of global GDP | 7.1% |
| Share of explicit subsidies in 2022 | 18% |
| Share of implicit subsidies in 2022 | 82% |
| Projected subsidies in 2030 | $8.2 trillion |
| Share of explicit subsidies projected in 2030 | 8% |
| Largest contributor to global fossil fuel subsidies | Underpricing for local air pollution costs and climate damages (30% each) |
| Fossil fuel with the largest external costs | Coal |
| Impact of removing subsidies | Reduced air pollution, increased revenue, contribution to slowing climate change, reduced energy security concerns |
| Impact of raising fuel prices to efficient levels | 43% reduction in projected global fossil fuel CO2 emissions in 2030 |
| Impact of removing explicit subsidies and imposing corrective taxes | $4.4 trillion increase in government revenues, 1.6 million prevented premature deaths annually, improved progress towards global warming targets |
| Main beneficiaries of fuel subsidies | Rich households |
| Effect of subsidies on consumer behaviour | Increased consumption, reduced incentive to use cleaner energy |
| Main reasons for energy subsidies | Prevent financial crises or civil unrest due to energy price spikes, maintain competitiveness of domestic fossil fuel industries |
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What You'll Learn
- Fossil fuel subsidies can be defined in different ways, including production, consumption, explicit, and implicit
- The removal of subsidies would reduce energy security concerns related to volatile fossil fuel supplies
- Fossil fuel subsidies disproportionately impact vulnerable communities, with health and environmental consequences
- Governments subsidise fossil fuels to maintain affordable energy prices and prevent financial crises during price spikes
- Scaling back subsidies would reduce air pollution, generate revenue, and contribute to slowing climate change
Fossil fuel subsidies can be defined in different ways, including production, consumption, explicit, and implicit
Fossil fuel subsidies have a significant impact on prices, with global fossil fuel subsidies reaching $7 trillion or 7.1% of the GDP in 2022, reflecting a $2 trillion increase since 2020. The definition of fossil fuel subsidies varies and includes production, consumption, explicit, and implicit categories.
Production Subsidies
Production subsidies are payments made to fossil fuel producers to reduce the costs of extracting and refining fossil fuels, making them cheaper for consumers. These subsidies are designed to maintain the competitiveness of the industry and are often administered by governments through initiatives and grants. For example, the US has energy subsidies in its tax code to promote the production of cheap fossil energy, and the federal government has provided grants and loans to the petroleum sector.
Consumption Subsidies
Consumption subsidies are payments made directly to consumers to enable them to purchase fossil fuels at prices lower than the market rate. These subsidies are intended to protect consumers from high energy prices and are particularly important for low-income households. During the energy crisis in 2022, many countries implemented consumption subsidies to support households struggling with increased energy costs.
Explicit Subsidies
Explicit subsidies occur when the retail price of a fuel is set below its supply cost. This can happen for non-tradable products, such as electricity, where the supply cost includes production and distribution costs. For internationally tradable products, such as oil, the supply cost is the opportunity cost of consuming the product domestically rather than selling it abroad. Explicit subsidies also include direct support to producers, such as accelerated depreciation. Explicit subsidies are commonly found in regions like the Middle East, North Africa, Europe, and East Asia.
Implicit Subsidies
Implicit subsidies occur when the retail price of a fuel fails to include external costs, such as environmental and health impacts, and consumption taxes. Implicit subsidies are often associated with undercharging for environmental costs, local air pollution costs, and climate damages. They are usually calculated as the opportunity cost of pricing domestic energy below market levels.
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The removal of subsidies would reduce energy security concerns related to volatile fossil fuel supplies
Fossil fuel subsidies are intended to protect consumers from rising energy prices by keeping prices low. However, they come at a substantial cost and have sizable fiscal consequences. In 2022, global fossil fuel subsidies were estimated to be $7 trillion, or 7.1% of the global GDP, reflecting a $2 trillion increase since 2020. These subsidies are expected to decline in the near term as energy price support policies are reversed and international prices fall. However, as the share of fuel consumption in emerging markets increases, subsidies are projected to rise to $8.2 trillion by 2030.
The removal of fossil fuel subsidies would reduce energy security concerns related to volatile fossil fuel supplies. Fossil fuel subsidies are often viewed as a safety net, protecting consumers from rising energy prices. However, they can undermine long-term energy security. Countries that rely heavily on fossil fuel imports are vulnerable to market volatility and geopolitical shocks. For example, the recent cost-of-living crisis and Russia's invasion of Ukraine led to a surge in energy prices, causing many countries to increase fossil fuel subsidies to cushion consumers from the price shock. While these subsidies provided short-term relief, they perpetuated reliance on imported energy sources, exposing countries to international market fluctuations and supply chain disruptions.
By artificially lowering fossil fuel prices, subsidies discourage the diversification of energy sources and the adoption of domestic renewables. This is particularly problematic for importing countries, where lower prices drive overconsumption and increase imports. Removing subsidies would encourage the development of alternative energy sources and improve energy security. Renewable energy sources, such as solar and wind, coupled with battery storage, do not rely on continuous fuel supplies and provide a more secure and price-stable source of energy.
Additionally, fossil fuel subsidies accelerate climate change by encouraging the use of high-emission energy sources. This contributes to more frequent and severe extreme weather events, which can damage energy infrastructure and indirectly affect energy security. Removing subsidies and transitioning to low-carbon energy sources can help reduce greenhouse gas emissions and improve energy security.
While removing fossil fuel subsidies can lead to higher energy prices and social unrest, it is important to use the revenue gain from subsidy removal for better-targeted social spending and productive investments. This can promote sustainable and equitable outcomes while improving long-term energy security.
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Fossil fuel subsidies disproportionately impact vulnerable communities, with health and environmental consequences
The negative consequences of fossil fuel subsidies disproportionately affect communities that are most vulnerable to the health and environmental impacts of fossil fuel combustion and extraction. This includes minority and low-income populations who are more likely to reside near facilities that emit high levels of pollutants, such as ports, airports, highways, and petrochemical refineries. The underpricing of local air pollution costs and climate damages are the largest contributors to global fossil fuel subsidies, accounting for about 30% each.
The health impacts of fossil fuel subsidies are significant. Exposure to air pollution caused by fossil fuel emissions led to 8.1 million deaths globally in 2021. The negative externalities associated with fossil fuel use, including greenhouse gas emissions and other pollution from extraction and burning, result in adverse environmental, climate, and public health impacts. These externalities are estimated to have cost $5.3 trillion globally in 2015 alone. Fossil fuel subsidies contribute to climate change, which is expected to cause unmeasurable human suffering and displace 140 million people by 2050.
Fossil fuel subsidies also contribute to inefficient economic interventions and hinder growth. They encourage the inefficient allocation of resources, resulting in higher taxes, increased borrowing, or reduced spending. Additionally, they promote pollution, contributing to climate change and premature deaths from local air pollution. Furthermore, fossil fuel subsidies disproportionately benefit higher-income households, with the richest 20% receiving 43% of the benefit, while the poorest 20% receive only 7%. This inequality is exacerbated by the fact that the health problems caused by air pollution and the consequences of climate change are disproportionately borne by the poor.
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Governments subsidise fossil fuels to maintain affordable energy prices and prevent financial crises during price spikes
Governments subsidize fossil fuels to maintain affordable energy prices and prevent financial crises during price spikes. The price of energy is a significant driver of economies, and spikes in energy prices can have immediate and significant impacts on the economy.
In 2022, the price of gas increased by up to 400%, causing a sudden and substantial increase in the cost of basic energy services such as heating and electricity. This disproportionately affected low-income households, pushing many into "fuel poverty". In response, many governments implemented mechanisms to support consumers, such as capping energy prices so that households paid a rate lower than the market price, with the government covering the remaining costs.
The true price of fossil fuels is often not reflected in their market cost due to the externalities associated with their production and use. These externalities include environmental costs, such as local air pollution and global warming, as well as health costs and societal costs. Economists refer to these discrepancies as externalities, and they disproportionately affect vulnerable communities. The cost of these externalities is substantial, estimated at over $5 trillion annually, or about $10 million per minute.
By subsidizing fossil fuels, governments provide a "wrong price signal" to consumers, reducing the incentive to use cleaner energy sources. This leads to inefficient behavior, as consumers tend to consume more when they are not facing the real price. Additionally, fossil fuel subsidies can add to the risks of "carbon lock-in", where investment in carbon-intensive infrastructure locks in fossil fuel dependence and the associated carbon emissions for decades.
Removing fossil fuel subsidies and using the revenue for better targeted social spending, reductions in inefficient taxes, and productive investments can promote sustainable and equitable outcomes. It would also reduce energy security concerns related to volatile fossil fuel supplies. However, removing fuel subsidies can be challenging, and governments must carefully design and communicate reforms as part of a comprehensive policy package.
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Scaling back subsidies would reduce air pollution, generate revenue, and contribute to slowing climate change
Fossil fuel subsidies have surged to a record $7 trillion, with governments supporting consumers and businesses during the global spike in energy prices. This includes subsidies for oil, coal, and natural gas, costing the equivalent of 7.1% of global gross domestic product (GDP). This is more than governments spend annually on education and almost two-thirds of what they spend on healthcare. As a result, parts of Asia, Europe, and the United States have been sweltering under extreme heat, underscoring the urgent need to curb human-induced climate change.
Scaling back subsidies would have multiple benefits. Firstly, it would reduce air pollution, which is a significant issue, especially in developing countries with high-polluting power plants, factories, and vehicles. By removing explicit subsidies and imposing corrective taxes, fuel prices would increase, encouraging firms and households to consider environmental costs and make more sustainable decisions. This would lead to cleaner air and improved public health, reducing the number of premature deaths from lung and heart disease caused by air pollution.
Secondly, scrapping fossil fuel subsidies would generate significant revenue for governments. It is estimated that removing explicit and implicit subsidies could raise government revenues by $4.4 trillion. This additional revenue could be used to compensate vulnerable households for higher energy prices, cut taxes on work and investment, and fund public goods such as education, healthcare, and clean energy initiatives.
Lastly, reducing subsidies would contribute to slowing climate change. By removing financial incentives for fossil fuel production and consumption, we can shift towards cleaner and more renewable energy sources. This would help reduce global carbon dioxide emissions and move us closer to reaching global warming targets, such as the Paris goal of containing warming to 1.5-2 degrees Celsius.
While removing fuel subsidies can be challenging, clear and careful policy reforms can ensure a smooth transition. With the increasing availability and affordability of low-carbon energy sources, such as solar, wind, and electric vehicles, we have a unique opportunity to transition away from fossil fuels and towards a more sustainable future.
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Frequently asked questions
Fossil fuel subsidies are any government actions that favour fossil fuels over other energy sources. They are payments made by governments or organisations to reduce the costs of producing fossil fuels or to make them cheaper for consumers.
Fossil fuel subsidies can significantly affect prices by keeping them artificially low. The true price of carbon and other pollutants is not reflected in the actual cost of fossil fuels. In 2022, fossil fuel subsidies surged to a record $7 trillion, or 7.1% of global GDP. This money could have been spent on education or healthcare.
Fossil fuel subsidies have sizable fiscal consequences, promote inefficient allocation of resources, encourage pollution, and disproportionately benefit higher-income households. They also contribute to climate change and negative health impacts, such as premature deaths from local air pollution.
Removing fossil fuel subsidies can be tricky, but it is possible. Governments must design, communicate, and implement reforms clearly and carefully as part of a comprehensive policy package. Scaling back subsidies would reduce air pollution, generate revenue, and contribute to slowing climate change.
Low-carbon energy sources, such as solar, wind, and electric vehicles, have become much cheaper and can be used as alternatives to fossil fuels. Governments can also invest in research and development, provide tax credits for clean energy, and set requirements for renewable energy sources.
