Low Oil Prices Killing Off Fuel Subsidies

Instead of letting fuel prices fall, several countries are taking advantage of lower oil prices by scrapping fuel subsidies.

Oil prices are at a five-year low, dropping by half in about six months. In much of the world, this has been an enormous boon to the economy. In the U.S., average gasoline prices have fallen to $2.47 per gallon as of December 18 according to AAA, down more than $1 per gallon since June.

The average American will see a 3.5 percent boost in disposable income this holiday season compared to a year ago. People with lower incomes feel the benefits disproportionately, allowing them to put fuel savings toward other spending needs.

But not everyone is experiencing lower fuel bills even though crude oil prices have gone into a freefall.

Several countries are taking advantage of lower oil prices by pairing back generous fuel subsidies that weigh on public budgets. In particular, countries like China, Indonesia, Malaysia, and India are either trimming subsidies or hiking fuel taxes to offset lower oil prices, the Wall Street Journal reports. The Chinese government ratcheted up fuel taxes twice in a month.

The effect is that the average driver in these countries has seen little change in their fuel bills.

Many people in these countries are unhappy with the moves, preferring that lower oil prices would be passed onto them in the form of cheaper prices at the pump. In Indonesia, auto sales fell 13 percent from October to November, a period of time that saw a dramatic fall in oil prices. In China, too, car sales dropped off.

Despite consumer opposition, the benefits of doing so could be multiple. Fuel subsidies are a huge burden for public expenditures, and shrinking them could shore up public budgets. Moreover, many cities in China, India, and Indonesia are clogged with traffic, so higher fuel prices actually serve to keep a lid on further congestion.

Interestingly enough, fossil fuel subsidies have been a main target for activists and nongovernmental organizations around the world hoping for action on reducing global greenhouse gas emissions. The International Energy Agency says that an estimated $550 billion worth of fossil fuel subsidies are doled out by governments around the world each year, nearly four times the amount for cleaner forms of energy.

These subsidies promote dirtier forms of energy over cleaner ones. "The huge subsidies fossil fuels enjoy worldwide gives incentives to their consumption, which means that I'm paying you to pollute the world and use energy inefficiently," Fatih Birol, IEA's chief economist, said at a conference in November.

In an ironic twist, however, the success of the oil industry at extracting more oil supplies in recent years, particularly from U.S. shale, has actually undermined the rationale for fossil fuel subsidies, as we are currently witnessing. The last six months of plunging oil prices has given many developing countries a window of opportunity to scrap fuel subsidies, a major development that years of climate shaming failed to achieve.

To be sure, the trend will likely reverse in corresponding fashion with the price of oil. If oil prices jump back up to $100 per barrel, fuel taxes will likely be removed and subsidies put back in place. But for the moment, lower oil prices are granting many countries a reprieve from wasteful public outlays intended to suppress the price of fossil fuels.