1 Introduction
1. Globally, government subsidies for the use
of resourceswater, energy, steel and foodrun at
$1.1 trillion a year.[1]
The largest part of that figure is accounted for by fossil fuels
subsidies. The International Energy Agency (IEA) identified global
subsidies to fossil fuel producers alone at $523bn in 2011.[2]
The OECD estimates that its member countries spend $55-90bn a
year on such subsidies.[3]
The IEA calculate that subsidies for fossil fuels are six times
higher than for renewables.[4]
2. Such fossil fuel subsidies are inconsistent
with the global effort to tackle climate change. By encouraging
consumption they increase emissions and remove incentives to be
more energy efficient. As Shelagh Whitley of the Overseas Development
Institute puts it:
If their aim is to avoid dangerous climate change,
governments are shooting themselves in both feet. They are subsidising
the very activities that are pushing the world towards dangerous
climate change, and creating barriers to investment in low-carbon
development and subsidy incentives that encourage investment in
carbon-intensive energy.[5]
In 2011 the IEA estimated that completely eliminating
fossil fuel subsidies would cut global energy demand by 4%, and
emissions by nearly 5%, by 2020. A similar OECD analysis envisaged
a 6% reduction in emissions by 2050.[6]
More recently, the IEA estimated that even a partial withdrawal
of fossil fuel subsidies by 2020 could reduce CO2 emissions
by 360m tonnes, or 12% of the reduction needed to keep global
average temperature rise to the 2oC limit set by the
UN Climate Change Convention.[7]
3. In June 2012, the UN 'Rio+20' Earth Summit
resolved:
... to phase out harmful and inefficient fossil fuel
subsidies that encourage wasteful consumption and undermine sustainable
development. We invite others to consider rationalising inefficient
fossil fuel subsidies by removing market distortions, including
restructuring taxation and phasing out harmful subsidies, where
they exist, to reflect their environmental impacts.[8]
This followed a commitment by the G20 in 2009 (restated
in 2012) to:
phase out and rationalise over the medium term inefficient
fossil fuel subsidies while providing targeted support for the
poorest. Inefficient fossil fuel subsidies encourage wasteful
consumption, reduce our energy security, impede investment in
clean energy sources and undermine efforts to deal with the threat
of climate change.[9]
Collectively, the G20 countries accounted for 78%
of global carbon emissions from fuel combustion in 2010.[10]
But of the G20 countries, half (including the UK) claim to have
no 'inefficient' fossil fuel subsidies (paragraph 66).[11]
This contrasts with assessments of the extent of fossil fuel subsidies
in the UK, without the Rio+20 and G20 differentiation of 'harmful'
or 'inefficient' subsidies, of $6.8bn a year by the OECD and $10.9bn
by the IMF.[12]
Definitions
4. Because there is no single globally agreed
definition of energy subsidy,[13]
we commissioned Dr William Blyth of Oxford Energy Associates to
set out the theory and practice of energy subsidies and to review
how the various definitions that are available apply to the UK.[14]
5. He identified a difference between 'direct'
and 'indirect' subsidies. He noted that the subsidies definition
used by the World Trade Organisation ("any financial contribution
by a government ... that confers a benefit on its recipient"[15])
focuses mainly on measuring direct subsidies, including the transfer
of funds, taxes foregone and government guarantees. Such guarantees
transfer risk from producers to government, reducing the cost
of capital for the producer which constitutes a tangible reduction
in cost. Dr Blyth noted that the OECD, on the other hand, also
include as subsidy the impact of "all forms of market price
support involving transfers between consumers and producers created
as a result of policy such as government interventions on tariffs",
which includes applying tax rates which are lower than those 'normally'
applied.[16] Like the
WTO definition, the OECD definition uses the notion of 'conferring
benefit'.[17]
6. Rather than the OECD's bottom-up 'effective
rate of assistance' approach, which relies on identifying different
aspects of subsidy in some detail,[18]
the International Energy Agency uses a 'price gap' approach. Its
definition covers "any government action that concerns primarily
the energy sector that lowers the cost of energy production, raises
the price received by energy producers or lowers the price paid
by energy consumers".[19]
It considers the difference between the subsidy-produced price
and the price in the absence of subsidy.[20]
The latter 'reference price' requires a judgement about what taxes
are 'normal', because taxes are essentially negative subsidies.
The International Monetary Fund (IMF) have a narrow ('before tax')
and a broader ('after tax') measure, which uses a 'price gap'
approach to compare the price paid for energy in a country with
the international price available.[21]
The IMF has included reduced VAT rates within its definition of
subsidies.[22] Under
the IEA methodology, however, lower rates of VAT on electricity
generation are not treated as being a subsidy, on the basis
that the electricity sector is often regarded as an "intermediate
energy transformation process rather than a final consumer"
and therefore not normally taxed.[23]
7. The imposition of carbon prices, Dr Blyth
told us, acts to correct a market failure. In the OECD model,
therefore, they should in theory be considered as "a correction
to a sub-optimal prevailing market price signal ... In that sense,
the absence of a carbon price in energy markets constitutes a
subsidy since in a market without carbon prices, polluters are
not paying their full production costs."[24]
Renewable UK (one of our witnesses) supported this approach.[25]
The IEA methodology, however, "excluded environmental externalities
from their calculations of subsidies on the basis that carbon
pricing is not yet 'normal' practice within its member countries".[26]
The IMF has actually included as subsidy any lack of taxes designed
to internalise the cost of environmental damage, including a $25/tCO2
benchmark for emissions from fossil fuels.[27]
This shifts the focus of the energy subsidy debate. Since most
countries do not tax carbon at this level (if at all), Dr Blyth
pointed out that this under-pricing of externalities, combined
with tax breaks, "swings the total level of energy subsidies
from being dominated by developing country producers (as suggested
by the IEA price-gap approach) to being dominated by the major
energy users".[28]
8. A definition put forward by the Global Subsidies
Initiative (who gave evidence to our inquiry), largely based on
the WTO's definition, covers all forms of supportfinancial
or otherwiseprovided to consumers or producers. The GSI
considers benefits to be a subsidy if they confer a considerable
advantage to groups of market participants, even if some other
groups may receive equal treatment (e.g. accelerated depreciation
allowance is not specific to the oil and gas industry, but the
GSI would still consider it a subsidy).[29]
9. A definition of subsidy is also implicit in
EU state aid rules, which identify several tests which all must
be met for state aid to be present: that is, whether state resources
are being provided, whether they confer an advantage on the recipient
which favours certain commercial undertakings or the production
of certain goods, and whether that distorts competition and affects
trade.[30] Platform,
who also gave evidence to our inquiry, take a wider view than
most others of what comprises subsidy, by including "diplomatic
subsidies and military subsidies" as well as export credit
support (paragraph 34).[31]
10. Some subsidies involve transfers between
consumers and producers, or between different types of producers,
or between different types of consumers. The UK feed-in tariff
for residential solar PV power, for example, provides subsidies
to those with solar panels on their roofs which electricity supply
companies have to pay, but which they then effectively pass on
to all residential electricity customers. The WTO definition of
subsidy (paragraph 5) excludes such transfers because they do
not involve government money.[32]
Other subsidies are paid for by government, however. Dr Blyth
explained how for such subsidies the benefit is shared between
consumers and suppliersirrespective of whether the subsidy
is directed at one rather than the otherdepending on the
elasticity of demand for that energy.[33]
The size of the benefit each receives then depends on the change
in the quantity of energy produced and consumed, as well as the
change in the price, resulting from the subsidising scheme. So,
for example, Cold Weather Payments to pensioners in the UK are
not subsidy, Dr Blyth told us, because although pensioners receive
extra money there is no link to the quantity of energy they consumethey
can spend the money on other things.[34]
11. There is no single internationally
agreed definition of what constitutes energy subsidy. Methodologies
differ widely, as do the nature of transactions and support mechanisms
that might be subsumed in a measurement of subsidy. It is regrettable
that this, as we note later in this Report (paragraph 65), has
provided a way for the Government to rejecterroneously,
in our viewthe proposition in some areas that it provides
energy subsidies.
Our inquiry
12. Dr William Blyth's paper described the nature
of energy subsidies, from first principles. He explained how 'perfect
markets' might achieve 'maximum social welfare', and thereby how
subsidies (like taxes) might represent a distortion from that
ideal. But he also noted that perfect markets are in practice
difficult to find because competition can be limited, because
fixed costs present barriers to market entry, or because 'externalities'
such as environmental damage (paragraph 7) are not reflected in
prices.[35] He concluded
that "the market model still provides a very important benchmark,
but this should not be used as the basis for a dogmatic rejection
of interventions that seek to redress some of the more obvious
failings".[36] He
identifies three main arguments that have been put forward as
rationale for subsidies:
- to allow 'infant industries'
and new technologies to be developed and be able to operate economies
of scale;
- as part of 'pro-poor' policies (the most cited
reason for subsidies at a global level); and
- protection from foreign competition.
Shelagh Whitley of the Overseas Development Institute,
one of our inquiry witnesses, identified other factors which are
often found as the cause for initiating and then failing to curtail
fossil fuel subsidies, including the "national patrimony"
of fossil fuel producing countries seeking to share the benefit
of production across their societies, buffering against price
shocks, the power of special interest groups (eg farmers in India),
lack of information on the extent of subsidies, and a lack of
other available policy levers in countries with weak government
institutions.[37]
13. Against that background, we explore in this
Report the rationale for energy subsidiespro-poor policies
in Part 2 and supporting infant and low-carbon industries in Part
3and the extent to which the UK uses such subsidies. In
Part 4 we consider the extent to which UK subsidies are 'harmful'
or 'inefficient' and the extent of transparency in respect of
energy subsidies in the UK.
14. In addition to discussing the paper we commissioned
from Dr William Blyth of Oxford Energy Associates,[38]
we took oral evidence from others who have studied the extent
of subsidies; representatives of different energy sectors; DfID,
UK Export Finance and DECC officials; and the Energy Minister
Rt Hon Michael Fallon MP. Our aim has been to produce our Report
ahead of the Autumn Statement, which could provide the Government
with a timely opportunity for addressing our recommendations.
1 ODI, Time to change the game: Fossil fuel subsidies and climate
(November 2013) Back
2
IEA, World energy outlook 2012 (2012) Back
3
OECD, Inventory of estimated budgetary support and tax expenditures for fossil fuels
(2012) (From an analysis of 34 countries (Q48)) Back
4
IEA, Redrawing the energy-climate map (2013) Back
5
Time to change the game: Fossil fuel subsidies and climate, op
cit. Back
6
IEA, OPEC, OECD & World Bank, An update of the G20 Pittsburgh and Toronto Commitments
(2011), Section 1.3 Back
7
Redrawing the energy-climate map, op cit. Back
8
UN, The Future We Want (June 2012), para 225 Back
9
G20, Summary of Progress Reports to G-20 Leaders on the Commitment to Rationalize and Phase Out Inefficient Fossil Fuel Subsidies
(2012) Back
10
Time to change the game: Fossil fuel subsidies and climate, op
cit. Back
11
ibid, Table 1; Summary of Progress Reports to G-20 Leaders on the Commitment to Rationalize and Phase Out Inefficient Fossil Fuel Subsidies,
op cit Back
12
Inventory of estimated budgetary support and tax expenditures for fossil fuels,
op cit; IMF, Energy subsidy reform: Lessons and implications
(2013); Time to change the game: Fossil fuel subsidies and climate,
op cit, Table 1 Back
13
Time to change the game: Fossil fuel subsidies and climate, op
cit. Back
14
Ev 64 Back
15
WTO, Uruguay round agreement: Agreement on subsidies and countervailing measures
(1994), Article 1.9 (p44) Back
16
Ev 64; Inventory of estimated budgetary support and tax expenditures for fossil fuels,
op cit. Back
17
OECD, Analysing energy subsidies in the countries of eastern Europe
(2013) Back
18
Ev 64, para 1.2.2 Back
19
Analysing energy subsidies in the countries of eastern Europe,
op cit; IEA, Taxing and Subsidising Energy (2006) Back
20
Ev 64, para 1.2.1 Back
21
Energy subsidy reform: Lessons and implications, op cit;
Time to change the game: Fossil fuel subsidies and climate, op
cit, Section 2.1.3 Back
22
Ev 64 Back
23
ibid Back
24
Ev 64, paras 1.1.5, 1.2.2 and 2.1 Back
25
Q137 Back
26
Ev 64, para 1.2.1 Back
27
Ev 64, para 1.2.4 Back
28
ibid Back
29
Analysing energy subsidies in the countries of eastern Europe,
op cit Back
30
ibid Back
31
Q137 Back
32
Analysing energy subsidies in the countries of eastern Europe,
op cit Back
33
Ev 64, Figure 1 Back
34
Ev 64, para 2.2 Back
35
Ev 64, paras 1.1.1 - 1.1.2 Back
36
Ev 64, para 1.1.3 Back
37
Time to change the game: Fossil fuel subsidies and climate, op
cit. Back
38
Ev 64 Back
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