Last month, in some strikingly straight talk, a Mideast oil minister publicly outed his region for a strategy it has long used to buy political peace: subsidizing people’s use of fossil fuels.
“What is really destroying us right now is subsidies,” Oman’s oil and gas minister, Mohammed bin Hamad al-Rumhy, told an energy conference in Abu Dhabi. With global energy prices rising, he warned, the Mideast no longer can afford to provide fossil fuel to its people at the bargain-basement rates it traditionally has ensured. “Our cars are getting bigger. Our consumption is getting bigger. And the price is almost free,” he said. “We simply need to raise the price of petrol and electricity.”
The Omani oilman was articulating what’s fast becoming an article of faith among countries that, when it comes to energy policy, can agree on little else: Fossil-fuel subsidies are economically and environmentally untenable and should be slashed. The cast of characters now championing this argument includes the Obama Administration, the International Monetary Fund, the International Energy Agency, the Organization for Economic Cooperation and Development, and the governments of such developing countries as Brazil, China and Iran. According to IMF calculations issued earlier this year, global fossil-fuel subsidies in 2011 cost $1.9 trillion — fully 2.5% of global gross domestic product — and the biggest single source of subsidies was the United States. Eliminating these subsidies globally, the IMF said, would cut energy-related carbon-dioxide emissions a whopping 13%.
It’s one thing, however, to decide that fossil-fuel subsidies are bad. It’s another thing to get rid of them. In the industrialized world, which according to the IMF’s controversial math is responsible for the bulk of global fossil-fuel subsidies, there’s mounting disagreement over what a subsidy is. In the developing world, where the subsidies are more explicit, the record on rolling them back is equally clear: Politicians tend to be loath to boost prices at the pump or at the plug.
The logic against fossil-fuel subsidies is hard to dispute. By reducing the cost consumers pay for oil, natural gas and coal, subsidies promote the wasteful use of these polluting — and, at least in theory, finite — resources. Arthur Rosenfeld, a California physicist and retired energy regulator famous for his efforts to promote energy efficiency, often offers this bromide to encapsulate the concern: In much of the word, energy traditionally has been “dirt cheap,” he likes to say, “and what’s dirt cheap gets treated like dirt.”
All sorts of energy are subsidized. Renewable energy received $101 billion in subsidies in 2012, up 11% from 2011, due largely to a big jump in the use of subsidized solar energy, the IEA said in a report it released last month. That’s a fraction of the total amount of subsidies fossil fuels received. But, given that renewable energy provides an even smaller fraction of total global energy, renewable energy is still more heavily subsidized than fossil fuel for every unit of usable power it cranks out.
Fossil-fuel subsidies take two basic forms. In poor countries — places like Oman — governments typically subsidize energy consumption directly. They raid their treasuries to buy fossil fuel on the global market — or, if they produce fuel themselves, they hold it back from global sales — and then they sell the fuel to their domestic consumers at below-market prices. That’s why diesel sells for about 45 cents per gallon in Iran.
These “consumption subsidies” totaled $544 billion in 2012, up 4% from 2011, the IEA says. About half those subsidies went to grease the use of gasoline, diesel and other oil products; the rest artificially lowered the price of electricity, natural gas and coal. The biggest consumption subsidies, the IEA said, came from big oil-producing nations: Iran topped the list, at $82 billion, followed by Saudi Arabia, at $61 billion, and Russia, at $46 billion.
Plenty of countries have tried and failed to wean their populations off this dole. Iran gave it a shot in 2010, but the attempt petered out. What happened in Iran is at once complicated, cautionary and clear. Earlier this year, Iran devalued its currency — the rial — against the US dollar. But when it did the devaluation, it failed to compensate by raising the rial-denominated price of fuel. As a result, the devaluation reduced the price in real terms that consumers in Iran pay for fuel. The market responded swiftly and sensibly: Massive amounts of diesel fuel are being smuggled out of Iran and into neighboring Pakistan, where the price of diesel at the pump now is 10 times what it is in Iran. According to the IEA, 60,000 barrels of diesel fuel are being smuggled out of Iran, mainly into Pakistan, every day.
Brazil is similarly finding reforming energy subsidies a rocky road. In the West, Brazil often is portrayed as an environmental success story. It gets about 80% of its electricity from an essentially carbon-free source: water coursing through dams. It has made major strides in combatting deforestation. And roughly 20% of the automotive fuel it uses is ethanol, made from sugarcane. Yet Brazil’s government-controlled oil company, Petroleo Brasileiro SA, known as Petrobras, long has sold gasoline domestically at below-market prices. Now, as Petrobras tries to extinguish that subsidy, it’s sparking a political blowback.
The subsidy, which Petrobras doesn’t officially acknowledge but which is openly discussed in Brazil, is a creature of the Brazilian government’s desire to minimize inflation. But the subsidy is causing billions of dollars in annual losses in Petrobras’s refining division, analysts estimate. Late last month, in response to investor pressure, Petrobras announced it would phase out the subsidy over what the company called “an appropriate period” of time. That didn’t satisfy investors, who expected a firmer move and who promptly hammered Petrobras’s share price. Smarting from that investor drubbing but leery of stoking Brazilian motorists’ ire, Petrobras has declined to specify how quickly or how significantly it will cut the subsidy.
Hard as it is to pull back these direct fossil-fuel subsidies in poor countries, it’s at least easy to quantify them. Not so for the indirect fossil-fuel subsidies that analysts say the US and other wealthy nations proffer in massive quantities. These subsidies, the IMF says, arise in large part because rich as well as poor countries are failing to tax fossil fuels enough to pay for the environmental and health consequences of burning them — everything from climate change to respiratory disease, things that economists call “externalities.” In Washington and beyond, the argument that the failure to boost the price of energy to cover these factors amounts to a subsidy is stirring a fierce ideological debate.
The IMF estimates that, in 2011, the most recent year it analyzed, indirect fossil-fuel subsidies from both developed and developing countries amounted to about $1.4 trillion. That’s nearly three times the $480 billion the IMF says came through direct fossil-fuel subsidies, which occurred overwhelmingly in developing countries. The IMF reached the larger figure after making various assumptions about the cost of addressing fossil fuels’ environmental and health effects. One of them: that rectifying the global-warming damage wrought by burning fossil fuels will cost $25 for every ton of emitted carbon dioxide. According to the IMF, levying that price on CO2 emissions would raise the price of gasoline or diesel by about 20 cents per gallon.
This penalty has come to be known in many political and academic circles as the “social cost of carbon.” Everything about it elicits debate: not just the general premise that energy should be taxed to penalize carbon emissions, but, even more, the attempt to nail down a specific dollar amount per ton. Some critics, typically those on the right, say the IMF’s $25-per-ton estimate is too high. Others, typically on the left, say it’s too low. Each side cites dueling evidence. In Europe, which has regulated carbon-dioxide emissions since 2005, a permit to emit one ton of CO2 is trading today for only about $5. In the U.S., in an announcement that so far has drawn only limited attention, the Obama Administration last month issued a revised estimate of the social cost of carbon pegging it at $37 per ton of emitted CO2.
The drive to curb fossil-fuel subsidies is sputtering uphill. If one side is right in the dispute over the cost, it’s a few hundred billion dollars. If the other side is right, it’s a few trillion dollars. That gap is no longer academic. It’s about real money. And increasingly, it appears that someone, somewhere, sometime, is going to pay.
Jeffrey Ball, a longtime writer about energy and the environment, is scholar-in-residence at Stanford University's Steyer-Taylor Center for Energy Policy and Finance, a joint initiative of Stanford's law and business schools. Follow @jeff_ball on Twitter.