Energy subsidies: How large are they and how can they be reformed?

Abstract

Energy subsidies are pervasive. Pretax subsidies, which arise when energy consumers pay less than the supply cost of energy, are high in many developing and emerging economies. Although pretax subsidies are not prevalent in advanced economies, they have large tax subsidies. These arise when energy is taxed below the rate of other consumption goods and are not high enough to capture the negative externalities from energy consumption, including the effects on climate change, local pollution, and traffic congestion. Posttax subsidies (the sum of pretax and tax subsidies) are estimated at about US$2 trillion (2.9 percent of global GDP) in 2011, with advanced economies accounting for a substantial share of the total. Energy subsidies aggravate fiscal imbalances, depress growth, damage the environment, and reinforce inequality. Country experience suggests that well-designed energy subsidy reform strategies can win public support. A far-reaching communications strategy, appropriately phased energy price increases, and targeted mitigating measures to protect the poor are among the most important elements of these strategies.