The International Monetary Fund (IMF), in a robust assessment of energy subsidies in 176 countries, has revealed that he global tab for government energy subsidy by developing and industrialized countries was 1.9 trillion in 2011. Globally the countries that provide the largest energy subsidies are United States ($502 billion), China ($279 billion), Russia ($116 billion).
In the paper, “Energy Subsidy Reform: Lessons and Implications”, IMF economists argue that energysubsidies are expensive and undermine governments’ efforts to reduce budget deficits. subsidies crowd out priority public spending in healthcare, infrastructure and education. Subsides encourage excessive energy use, reduce incentives for investment in renewable energy, accelerate depletion of natural resources and exacerbate global warming.
Zimbabwe, Zambia, Mozambique and Tanzania spend 48%, 22%, 17% and 10% respectively on electricity subsidies. The driver of such high subsidies is not low retail prices but high production costs, which stem from operational inefficiencies, extensive use of back-up electricity generation and low economies of scale in generation. Deficient electricity infrastructure and shortages dampen economic growth and weaken competitiveness. Weaknesses in electricity infrastructure are correlated with low levels of economic productivity. Studies suggest that if the quantity and quality of electricity infrastructure in all sub Saharan African countries were improved, long-term per capita growth rates would be 2% higher.
The IMF makes very persuasive arguments against energy subsidies. Energy subsidies, they argue, make it unattractive for both state-owned and private enterprises to invest in expansion of energy production. Subsidies stifle public spending necessary to boost critical investments in education, health care, infrastructure and social protection, thus undermining flourishing of humancapital. The burden of energy subsidies on national revenue is substantial and poses even greater fiscal risks for countries that provide huge subsidies. Moreover, subsidies cause fuel prices remain below the levels necessary to capture the negative externalities of energy consumption on the environment, public health, traffic congestion and green house gas emissions.
Moreover, energy subsidies result in inefficient allocation of resources to investments in capital – and energy – intensive activities, with overuse of subsidized technologies. In Africa, for example, subsidized electricity prices have constrained capacity to invest in increased capacity and improvement of service quality.Moreover, increasing energy subsidies increases energy consumption, which in turn exerts pressure on the balance of payments for net energy importing countries.Egypt, for instance, regularly spends up to 8% of its GDP subsidizing fossil fuels, while running huge budget deficits. Today experts warn of disaster unless Egypt undertakes a package of tax increases and subsidy cuts tied to a $4.8 billion loan from IMF.
By encouraging high consumption and concomitant greenhouse gas emissions, energy subsidies aggravate climate change and worsen local air quality pollution and congestion. Hence, eliminating direct energy subsidies, IMF argues would have the benefit of cutting global greenhouse gas emissions by 13%, improve air quality and shore up the finances of many developing countries, which currently face a double whammy of debt and budget deficits.
IMF further argues that energy subsidies perpetrate social inequality because they largely benefit affluent groups, who are the biggest consumers of energy. It is no wonder that the greatest beneficiaries are those with cars and air-conditioned houses. Take electricity for example, a majority of African countries have huge electricity subsidies but a large majority of the poor in Africa receive no benefit at all because they are not even connected to the electricity grid.
But what really are the impediments to eliminatingenergy price distortions, balancing national budgets andlaunching the world on a low-carbon growth pathway, while cutting greenhouse gas emissions? One of the highest priorities of the United Nations Sustainable Solutions Development Network led by Prof. Jeff Sachs is to identify alternative pathways to a low-carbon economy.
Drawing from 22 case studies IMF outlines the barriers to implementing successful energy subsidy. Theseinclude: inability of the public to make a connection between subsidies, constraints on expanding high-priority public spending, and the adverse effects of subsidies on economic growth and poverty reduction;concerns regarding the adverse impact on inflation, international competitiveness, and volatility of domestic energy prices. Higher energy prices often have effects on inflation, which may have adverse effects on commodity prices and wages.