China and US should lead fossil fuel subsidies reform at G20

This year's summit is an opportunity for the superpowers to jointly push the world towards a climate safe future, write Peter Ogden and Ben Bovarnick
<p>Children play by the beach near a coal power plant in Jepara, Central Java, Indonesia, oblivious to the possible threats to their health. The country is currently rolling back its commitment to reduce fossil fuel subsidies. (Image by&nbsp;Kemal Jufri / Greenpeace)</p>

Children play by the beach near a coal power plant in Jepara, Central Java, Indonesia, oblivious to the possible threats to their health. The country is currently rolling back its commitment to reduce fossil fuel subsidies. (Image by Kemal Jufri / Greenpeace)

In September of this year, Barack Obama will travel to China for the last time as president to participate in the G20 meeting in Hangzhou. Climate change cooperation has been a signature feature of US-China relations during the Obama administration, and there is every reason to expect that both countries will want to mark this visit with a final demonstration of their ability to lead together on the issue. Fortunately, this year’s G20 presents a unique opportunity to do just that by taking on a critical piece of the climate challenge that still needs to be addressed: the elimination of fossil fuel subsidies.

This is not new territory for the G20. At their meeting in 2009 in Pittsburgh, the leaders of the world’s largest developed and developing economies all pledged to “rationalise and phase out over the medium term inefficient fossil fuel subsidies that encourage wasteful consumption”.

It was and remains a smart objective for G20 countries, which account for almost 50% of global fossil fuel subsidies.  Such subsidies are a drain on national budgets, undermine domestic and global efforts to combat climate change by incentivising the production and consumption of polluting fuels at the expense of taxpayers, and make it harder for clean energy alternatives to compete in the marketplace.

The International Energy Agency (IEA) projects that phasing out subsidies would reduce our global greenhouse gas emissions by a full 10% by 2050.  And although fossil subsidies are often justified as a means of helping the poor, they are typically quite regressive. The richest 20% of the population in developing countries receives on average six times the value of fuel subsidies as the poorest 20%.

In the wake of the historic Paris Climate Agreement that was achieved last December, the economic, environmental, and diplomatic logic for ridding the world of these costly, damaging, and all too regressive subsidies has never been stronger.

Barriers to progress

But in spite of this commitment, subsidies have proceeded to grow, not fall, in the months that immediately followed. Little reform was carried out and oil prices steadily climbed. Looking further back to the year that the G20 made its pledge countries around the world spent US$312 billion on fossil fuel consumption subsidies; by 2012 three years later, that figure had risen to US$548 billion.

Although high oil prices have required larger public expenditures to maintain subsidies – which only intensified the economic rationale for scrapping them – efforts to take the necessary measures encountered serious resistance. In 2012, for instance, attempts to reform fossil fuel subsidies in Jordan and Nigeria sparked public protests, forcing both governments to back down.

But a profound shift occurred in the summer of 2014: oil prices started to plummet., and many countries around the world, including G20 countries Indonesia and India, seized on this moment to undertake reforms. Indonesia reduced subsidies for gasoline by 31% in November 2014, and eliminated them completely three months later in January 2015. Due to the low price of oil that month, elimination of the subsidy program actually resulted in a 12% price decline at the pump – from IDR 8,500 (US$0.68) per litre to IDR 7,600 (US$0.61) per litre.

While it was oil importing countries who acted first, in 2015, oil exporters began to take action. Oil exporting countries have historically been willing to keep fuel prices artificially low at home, sacrificing the greater revenue they could fetch for their product on the international market and encouraging wasteful consumption by citizens and local industries. In 2015, oil consumption in the Middle East was almost four times greater per capita than the global average.

Price reforms

But, ultimately, the toll of low oil prices on national budgets in the region spurred oil exporters in the Persian Gulf to take action. Even Saudi  Arabia, the world’s second largest fossil subsidiser, has taken action. Although Saudi Arabia, a G20 country, prefers not to describe its policies as fossil subsidy reduction per se, one can see clearly that the gap between domestic gas prices and international gasoline benchmarks has shrunk considerably since the downturn in the oil market. (The US Energy Information Administration attributes about two-thirds of changes in the price of gasoline to fluctuations in the price of crude oil, and in unsubsidised markets around the world the recent fall in oil prices has produced corresponding declines in gasoline costs.)

In 2014, Saudi Arabia subsidised gasoline at 17% of the Singapore spot price – the price of wholesale gasoline at the primary trading hub in Asia. By 2015, the constant price of Saudi gasoline stood at 27% of the price of similar gasoline in global markets. Now, the recent subsidy reforms that increased gasoline prices by 0.3 riyals per litre (US$0.30 per gallon), coupled with further declining global gasoline prices, have reduced the cost disparity such that gasoline in Saudi Arabia is only half the price of the Singapore spot market.

Data source: OPEC

And Saudi Arabia is not alone among oil exporters in the region: Qatar and the United Arab Emirates have also taken unprecedented steps to bring domestic prices in line with international ones.

The G20

At the G20 in Hangzhou, countries should aim to lock in this progress and bolster their original commitment to eliminate subsidies, through a two-pronged approach:

First, countries should quantify and report on their domestic progress toward subsidy reform since the original commitment in 2009. This should include current and expected savings they have achieved through reform and, when possible, identification of how these savings have and will benefit the country through reinvestment or debt reduction.

Second, countries should commit to maintain the policies that they have put in place if and when oil prices rise, and to advance additional policies for further reductions. While an absolute cap on subsidies at 2016 levels may be challenging or problematic for countries to agree to, because the impact of unpredictable fluctuating oil prices on absolute subsidy levels is outside of any one country’s control, countries do have the ability to control domestic policies and to pledge that they will not allow progress to be rolled back.

This commitment to maintain domestic reforms is a necessary step to ensuring politicians are not tempted to reinstate fossil fuel subsidies if and when prices rise. For instance, less than a year after officially abolishing gasoline subsidies, Indonesian Prime Minister Joko Widodo asked the state owned fuel company Pertamina to continue selling gasoline at below market rates, resulting in losses of over US$1 billion in the first three quarters of 2015. Indonesia has been a leader in fossil subsidy reform, and it is important that it not reverse course.

The US, meanwhile, has an all too rare opportunity to showcase domestic leadership that could help to build support for these new commitments by the G20. Although the United States is still saddled with 11 oil and gas production tax subsidies that cost about US$4.7 billion annually (which in spite of President Obama’s urging, Congress has refused to scrap), the US took an important step forward this year, by announcing that the Department of Interior would begin the process of reforming the federal coal-leasing programme.

Two substantial subsidies that can and should be removed through this process are: the undervaluation and sale of coal at below market prices by the Bureau of Land Management, or BLM; and a loophole that allows companies to deduct unlimited transportation and washing costs from the total value of coal that they must pay federal royalties on. Undervaluation of coal leases has provided a subsidy estimated at over US$28.9 billion since 1982, and unlimited royalty rate deductions offer an additional subsidy of US$37 million annually.

With the US well positioned to push for progress, and China, as this year’s host of the G20, well situated to put the fossil fuel subsidy issue squarely on the meeting agenda, there is the potential for us to once again see a US-China partnership emerge to push the world toward a cleaner and climate safe future.