IMF Recommends Ending Energy Subsidies to Fight Climate Change

A new report from the International Monetary Fund (IMF) claims ending the $1.9 trillion in global energy subsidies could reduce greenhouse gas (GHG) emissions by 4.2 billion tons – a 13 percent reduction – and lead to major gains both for economic growth and the environment.

The study, Energy Subsidy Reform – Lessons and Implications, released earlier this week, urges policymakers around the world to reform subsidies for products ranging from coal to gasoline and argues that to do so could lead to a more efficient allocation of resources and help spur higher long term economic growth.

In 2011 alone, governments around the world spent $480 billion on “fossil fuel" subsidies to lower the price of petroleum, natural gas, coal and electricity for their citizens. The current nearly $2 trillion overall price tag amounts to 2 ½ percent of global GDP, or 8 percent of government revenues.

In a speech at the Peterson Institute for International Economics in Washington D.C., IMF First Deputy Managing Director David Lipton said removing energy subsidies can also strengthen incentives for “research and development in energy-saving and alternative technologies.” He also alleged that while subsidies are intended to benefit consumers, they “could be replaced with better means of protecting the most vulnerable parts of the population.

“The paper shows that for some countries the fiscal weight of energy subsidies is growing so large that budget deficits are becoming unmanageable and threaten the stability of the economy," said Lipton.

IMF research shows that 20 countries maintain pre-tax energy subsidies that exceed 5 percent of GFP, which for emerging and developing countries can be a major hurdle to future growth.

“Because of low prices, there is little investment in much-needed infrastructure. More is spent on subsidies than on public health and education, undermining the development of human capital,” added Lipton.

Energy subsidies also reinforce global inequality because they largely benefit upper-income groups. On average, the richest 20 percent of households in low- and middle-income countries capture 43 percent of fuel subsidies, IMF says.

Lipton also called for governments implementing subsidy reform to enact mitigating measures to help the poor, as it often results in increased prices that can harm the less fortunate.

On the environmental front, Lipton noted that subsidies aggravate climate change and worsen local pollution and congestion. In advanced economies such as the U.S., subsidies most often take the form of taxes that are too low to capture the real cost to society of energy use, which does not account for pollution or road congestion.

The study finds that eliminating pre-tax subsidies would reduce global GHG emissions by about 1-2 percent, which would represent “a significant first step in reducing emissions by delivering about 15-30 percent of the Copenhagen Accord’s goal.”

While reducing subsidies is not easy, many countries have recognized their adverse effects on public finances, economic growth, equity and the environment and are making serious reform efforts. Lipton says the IMF report is intended serve as a roadmap to help governments to succeed, drawing examples from best practices and experience.

“With adequate planning, carefully designed mitigating measures, and a good communications plan, the job can be done,” said Lipton.