Ameer Randolph
Fossil fuel subsidies are any government action that lowers the cost of fossil fuel energy production, raises the producer's selling price, or lowers the price paid by energy consumers. They are intended to protect consumers by keeping prices low but come at a substantial cost. The fiscal cost of government support for fossil fuels was 1.1 trillion USD in 2023, with most (90%) of this related to consumption. These subsidies are expected to rise to $8.2 trillion by 2030. Fossil fuel subsidies have been in place for over a century in some cases, and while they have helped enable economic growth, they are increasingly seen as outdated and environmentally harmful.
| Characteristics | Values |
|---|---|
| Definition | "Any government action that lowers the cost of fossil fuel energy production, raises the price received by energy producers, or lowers the price paid by energy consumers." |
| Purpose | To make energy more affordable for consumers |
| Cost | $7 trillion or 7.1% of GDP in 2022; $8.2 trillion by 2030 |
| Cost in the US | $34.8 billion a year |
| Cost in the UK | The government covered the remaining costs of energy after implementing a price cap on gas and electricity |
| Fiscal cost of government support | $1.1 trillion in 2023 |
| Fiscal cost of support for residential users | $189 billion in 2023 |
| Fiscal cost of support for manufacturing and other industries | $103.8 billion in 2023 |
| Largest contributor to subsidies | Underpricing for local air pollution costs |
| Positive impact of removing subsidies | Reduce health risks of air pollution, reduce global carbon emissions, save the carbon budget, reduce energy security concerns, reduce projected global fossil fuel CO2 emissions by 43% below baseline levels in 2030, cut global CO2 emissions by 10% by 2030 |
| Negative impact of removing subsidies | Push some households into fuel poverty |
| Difficulty in removing subsidies | Political difficulty, lack of alternative energy sources |
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What You'll Learn
Fossil fuel subsidies are a negative carbon price
The fiscal cost of government support for fossil fuels is significant. In 2023, the fiscal cost of support for residential users was estimated to be 189 billion USD, while for manufacturing and other industries, it was 103.8 billion USD. These subsidies are often not well-targeted at vulnerable groups and tend to benefit higher-income households and the rich. According to the International Energy Agency (IEA), phasing out fossil fuel subsidies would benefit energy markets, climate change mitigation, and government budgets.
The removal of fossil fuel subsidies is expected to reduce the health risks associated with air pollution and lower global carbon emissions, helping to limit climate change. However, there are concerns about the potential impact on poor people due to indirect price increases. Additionally, producers argue that increasing taxes could lead to unemployment and reduced national energy security.
To address these concerns, economists recommend replacing consumption subsidies with direct payments targeted at poor individuals or households. While the phase-out of fossil fuel subsidies is politically challenging, it is important to explore country-specific studies to determine the best use of the saved money. Additionally, raising fossil fuel prices to their fully efficient levels can significantly reduce projected global fossil fuel CO2 emissions, bringing them closer to the Paris goal of containing global warming to 1.5-2 degrees Celsius.
In conclusion, fossil fuel subsidies are indeed a negative carbon price, and their reform or phase-out is essential for mitigating climate change, improving government budgets, and promoting sustainable and equitable outcomes.
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They increase energy security concerns
Fossil fuel subsidies are often viewed as a safety net to protect consumers from rising energy prices. However, this assumption may be misleading. Fossil fuel subsidies can increase energy security concerns in several ways. Firstly, they discourage the diversification of energy sources and the adoption of domestic renewables by artificially lowering fossil fuel prices. This is particularly problematic for importing countries, as lower prices lead to overconsumption, increasing imports and exposing countries to international market fluctuations and supply chain disruptions. For example, the European Union's subsidies for natural gas consumption have led to a continued reliance on imported energy, replacing dependence on Russian piped gas with US-supplied liquefied natural gas.
Secondly, fossil fuel subsidies perpetuate reliance on fossil fuels, hindering the transition to a less energy-intensive system. Renewable energy sources, such as solar, wind, hydro, geothermal, and tidal power, offer greater system diversity and resilience. They are also modular and scalable, making it easier to adapt to changing conditions. In contrast, fossil fuel-based systems are inherently inefficient, with around two-thirds of the energy lost by the time it reaches the end user.
Thirdly, fossil fuel subsidies can increase geopolitical dependencies and the risk of single points of failure due to the centralized nature of fossil fuel supplies. In contrast, renewable energy sources are naturally spread out across different locations, reducing vulnerability to supply disruptions. For instance, China has been reforming its fossil fuel subsidies and encouraging diversification into renewable energy, battery storage, and electric vehicles, while Turkmenistan's high energy intensity, partly due to its large fossil fuel subsidies, has strained its energy infrastructure and accelerated the depletion of finite resources.
Finally, fossil fuel subsidies can contribute to social unrest and political difficulties. When subsidies are reformed and prices increase, this can lead to social unrest, particularly if there is a lack of confidence in the government's ability to compensate vulnerable groups for higher energy prices. Additionally, governments may be concerned about the potential impact of higher energy prices on inflation and their country's competitiveness. As a result, the phase-out of fossil fuel subsidies can be complex and politically challenging, requiring comprehensive energy sector reform plans and transparent communication with stakeholders.
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They disproportionately benefit higher-income groups
Fossil fuel subsidies are a negative carbon price and use government money that could be spent on other things. The IMF states that subsidies have sizable fiscal consequences, including higher taxes and lower spending, and they hinder economic growth by promoting inefficient allocation of resources. They also encourage pollution and contribute to climate change and premature deaths from local air pollution.
Subsidies are intended to protect consumers by keeping prices low, but they often do not benefit those who need them the most. According to the International Energy Agency, "high fossil fuel prices hit the poor the hardest, but subsidies are rarely well-targeted to protect vulnerable groups and tend to benefit better-off segments of the population." This is echoed by the OECD, which states that "most of this support lacked systematic targeting towards those in greatest need, raising both equity and efficiency concerns."
In the United States, for example, taxpayer dollars continue to fund many fossil fuel subsidies that are outdated and embedded within the tax code. Direct subsidies are provided in the form of special provisions in the tax code designed to support and reward domestic fossil fuel-related production. Indirect subsidies are created through provisions aimed at businesses in general and are not exclusive to the fossil fuel industry.
While some argue that subsidies are necessary to shield citizens from variations in international energy prices, the International Energy Agency and many economists recommend phasing out fossil fuel subsidies. Removing subsidies would benefit energy markets, mitigate climate change, and improve government budgets. It would also reduce the health risks of air pollution and lower global carbon emissions.
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They are a significant fiscal cost for governments
Fossil fuel subsidies have significant fiscal implications for governments. They are a form of government intervention in energy markets, often intended to protect consumers by keeping prices low. However, they can lead to higher taxes, increased borrowing, or reduced government spending in other areas. According to the International Monetary Fund (IMF), fossil fuel subsidies cost governments $7 trillion globally in 2022, a substantial increase from $5.9 trillion in 2020. This amount reflects a surge in government support for energy consumers and businesses during the global energy price spike caused by geopolitical tensions and the economic recovery from the pandemic. As a share of global gross domestic product (GDP), fossil fuel subsidies reached 7.1% in 2022, exceeding the percentage of global income that governments spend on education and approaching two-thirds of their healthcare expenditure.
The fiscal cost of fossil fuel subsidies is not limited to direct government support but also includes indirect costs associated with negative externalities. These externalities, such as greenhouse gas emissions and local air pollution, impose significant economic and societal burdens. The environmental and health impacts of fossil fuel consumption result in substantial costs for governments, including healthcare expenditures and climate change mitigation measures. According to the International Institute for Sustainable Development, G7 countries should annually disclose their fossil fuel subsidies under Sustainable Development Goal (SDG) indicator 12.c.1 to promote transparency and accountability.
The distribution of fossil fuel subsidies across regions varies, with explicit subsidies predominantly found in the Middle East and North Africa (MENA), Europe, the Commonwealth of Independent States (CIS), and East Asia and the Pacific (EAP). However, total subsidies (explicit plus implicit) are primarily concentrated in the EAP region. In relative terms, fossil fuel subsidies as a percentage of regional GDP are highest in the CIS region at 23%, followed by MENA, South Asia, and EAP at 19%, 10%, and 10%, respectively. From 2020 to 2022, fossil fuel subsidies increased significantly in all regions except North America.
The high fiscal cost of fossil fuel subsidies presents challenges for governments in balancing economic and environmental priorities. The OECD emphasizes the need to phase out inefficient support for fossil fuels and improve targeting towards those most in need. Removing fossil fuel subsidies can generate additional government revenue, reduce air pollution, and contribute significantly to mitigating climate change. However, the phase-out process must be carefully managed to avoid social unrest and ensure equitable outcomes for vulnerable households facing higher energy prices.
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They can be direct or indirect
Fossil fuel subsidies are a negative carbon price that uses government money to keep consumer prices low. They can be direct or indirect. Direct subsidies are explicit subsidies that occur when the retail price is below a fuel's supply cost. They are intended to protect consumers by keeping prices low but can lead to higher taxes or lower spending and inefficient allocation of resources. They also contribute to climate change and air pollution, which can cause premature deaths.
Explicit subsidies are found in the Middle East and North Africa (MENA), Europe, the Commonwealth of Independent States (CIS), and East Asia and the Pacific (EAP). In 2022, global fossil fuel subsidies totalled $7 trillion or 7.1% of global GDP, with an 18% share coming from undercharging for supply costs (explicit subsidies).
On the other hand, indirect subsidies are created by provisions in the tax code aimed at businesses in general and are not exclusive to the fossil fuels industry. An example of an indirect subsidy is the Master Limited Partnerships (MLP) structure, which combines the investment advantages of publicly traded corporations with the tax benefits of partnerships. While shareholders pay personal income tax, the MLP itself is exempt from corporate income taxes. More than three-quarters of MLPs are fossil fuel companies.
Another example of an indirect subsidy is the discounted cost of leasing federal lands for fossil fuel extraction. Additionally, some fossil fuel subsidies provide public assistance, such as the Low-Income Home Energy Assistance Program (LIHEAP), which assists low-income households with heating costs.
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Frequently asked questions
Fossil fuel subsidies are any policies that favour fossil fuels over other energy sources. They come in the form of tax breaks, low-interest loans, and the failure to account for the true cost of fossil fuel pollution.
Governments provide fossil fuel subsidies to make energy more affordable for consumers. Fossil fuel subsidies also protect consumers from variations in international energy prices.
Fossil fuel subsidies have sizable fiscal consequences, promote inefficient allocation of an economy's resources, encourage pollution, and disproportionately benefit higher-income groups. They also contribute to climate change and make countries more vulnerable to variations in international energy prices.
Removing fossil fuel subsidies would reduce the health risks of air pollution, cut global carbon emissions, and help limit climate change. The saved money could be reinvested in renewable energy and community health and well-being.
