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Price Spike Fortifies Fossil Fuel Subsidies

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Fossil fuel subsidies are a perennially thorny topic. The recent UN Intergovernmental Panel on Climate Change (IPCC) report suggests that removing them could reduce global carbon dioxide emissions by 1-4% and overall greenhouse gas emissions by up to 10% by 2030. But fossil fuel subsidies have proved remarkably durable despite decades of initiatives to end them. Most recently, 197 countries agreed at COP26 in Glasgow to accelerate efforts to phase out “inefficient” fossil fuel subsidies. However, if anything, governments are now backsliding due to the pandemic and soaring oil and gas prices, by rolling back taxes and increasing support for consumers facing surging energy bills. Subsidies can include a wide range of measures. On production side, they include tax breaks to reduce costs for oil, gas and coal output. On the consumption side, they include price controls for cooking, heating or transport fuels, particularly in lower-income countries. Subsidies also are often opaque and difficult to quantify. Research recently released by the B Team reckons that that $640 billion of support a year is received by the fossil fuel industry, while the International Energy Agency (IEA) and OECD reckon that government support for the production and use of fossil fuels across major economies totaled $351 billion in 2020.

Even in the best of times subsidy reform is a minefield, with price increases often leading to public protests. This has been seen across the globe recently, from France to Ecuador, and Kazakhstan to India. The problem of adjusting subsidies is more sensitive in producer countries, where such support is seen as part of the social contract. But fossil fuel subsidies also undermine the credibility of public climate commitments, reduce perceived energy transition risks and limit financial sector action, the IPCC report states. They are costly too and generate inefficiencies in the production and use of energy economy-wide — skewing long-term capital investment toward fossil-fuel producers or fossil-fuel intensive industry. This enhances the risk of demand lock-in, the IEA and OECD note. A G20 commitment to phase out fossil fuels first made in 2009 has been reiterated at multiple subsequent summits, but G20 country support levels remain unchanged in nominal terms to those of a decade ago, the IEA and OECD say. The group has still not dropped this pledge, but energy security dominated a meeting of G20 finance ministers in Jakarta last month. They reiterated their commitment to tackle global challenges like climate change and, “if appropriate, to phase out and rationalize, over the medium term, inefficient fossil fuel subsidies that encourage wasteful consumption.”

Even the EU, a self-professed climate leader, is struggling. Its fossil fuel subsidies have remained relatively constant over the last decade despite commitments from the European Commission and some member states to phase them out, according to a review published by the European Court of Auditors (ECA) in January. Fifteen member states are also still spending more on fossil fuel subsidies than on renewable energy subsidies, and the EU’s goal of phasing out fossil-fuel subsidies by 2025, “will be a challenging social and economic transition,” the ECA said. That could be an understatement considering the lack of progress before the recent oil and gas price spike and now the bloc's commitment to wean itself off Russian oil and gas. To alleviate the risk of rejection of tax reforms, the auditors recommend reducing other taxes and applying redistribution measures. The IEA also points to some “ingredients for success” in subsidy reform, including a clear and graduated timetable that is clearly communicated and explained to consumers, schemes to mitigate the impact on the poorest and most vulnerable sections of society, and efforts to increase the supply of high-efficiency appliances to cushion the impact on all consumers. The IMF says there is "no single recipe" for successful subsidy reform. But it also calls for comprehensive energy sector reform plans with clear long-term objectives to implement subsidy reforms, as well as institutional reforms that depoliticize energy pricing . This becomes much more challenging in an inflationary environment with oil prices around $100 per barrel and record gas prices in Europe and Asia, however.

Topics:
Low-Carbon Policy, Policy and Regulation, Fiscal Terms, Crude Oil, Oil Prices, Gas Prices
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