Canadian Biomass Magazine

Ending fossil fuel subsidies could cut GHGs

June 9, 2010, Paris – Careful phasing out of fossil fuel subsidies can be a low-cost way to reduce global greenhouse gas emissions by 10% from the levels they would otherwise reach in 2050 under “business as usual.”

June 9, 2010

June 9, 2010, Paris – Careful phasing out of fossil fuel subsidies can be a
low-cost way to reduce global greenhouse gas (GHG) emissions by 10% from the
levels they would otherwise reach in 2050 under “business as usual.” This is
according to an analysis by the Organisation for Economic Co-operation and
Development (OECD), based on data from the International Energy Agency (IEA).
This would make economic sense as governments strive to cut budget deficits in
the wake of the financial and economic crisis. That is why G20 leaders agreed
when they met in Pittsburgh in September 2009 to “rationalize and phase out
over the medium term inefficient fossil fuel subsidies that encourage wasteful
consumption” and requested the OECD, along with the IEA, OPEC, and the World
Bank, to prepare a joint report for the G20 Summit later this month in Toronto.

“Many governments are giving subsidies to fossil fuel production and consumption that
encourage greenhouse gas emissions at the same time as they are spending on
projects to promote clean energy,” said Angel Gurría, OECD secretary-general.
“This is a wasteful use of scarce budget resources.”

The IEA has estimated that subsidies to fossil fuel consumption in emerging and
developing countries amounted to US$ 557 billion in 2008. Some estimates
suggest that fossil fuel producer subsidies could amount to as much as US$ 100
billion/year. However, estimates in developed countries are harder to obtain
because they are often transferred in indirect ways. The OECD is working to
fill these data gaps and to develop an accounting framework and agreed methods
for estimating different support elements.

Preferential tax treatment for oil and gas production, special loan guarantees, and tax
exemptions for fuel use in some sectors or to some consumer groups are some of
the ways in which governments subsidize fossil fuels (see examples below).
Reforming fossil fuel subsidies is politically challenging, but some key
lessons can be drawn from experiences in countries like Poland, France, and the
UK, which have successfully reformed their subsidies for coal production, or
Indonesia, which is reforming its subsidies for fossil fuel consumption. Key
elements in successful reform include: announcing subsidy phase-out plans
early, phasing them in gradually, ensuring transparency and awareness by
publicly circulating information on who pays and who benefits from reform, and
accompanying reforms with measures to limit negative effects on poorer

For more information on fossil fuels, see:

Examples of tax expenditures for fossil fuel production or use

For fossil fuel production:

·     Favourable tax deduction for depletion
of oil and gas fields and coal deposits.
Normally businesses
only deduct actual expenses and
depreciation from the corporate income tax base. But in the United
States, a
special rule allows fossil fuel and mineral producers to deduct a fixed
percentage of gross revenue instead of the value of the actual
depletion. This
is a highly favourable tax provision and can even continue after the
to acquire and develop a field or mine have been recovered. For fossil
producers alone, this tax expenditure is estimated at 0.002–0.004% of
GDP. The
U.S. administration’s 2011 budget proposal would end this and a number
of other
fossil fuel-related tax expenditures.

·     Accelerated tax
depreciation allowances for capital equipment.
The extraction and processing of fossil fuels is
highly capital intensive. Special rules that allow businesses to deduct
depreciation faster than the actual speed at which equipment becomes
economically obsolete can in some cases imply large indirect subsidies. The
issue is complicated by the special tax and royalty regimes targeted at
natural-resource rents. For oil sands in Canada, the annual costs of this tax
advantage amounts to 0.02% of GDP, estimated in cash-flow terms. The measure
will be phased out by 2015.

·     Tax exemption for
fossil fuel producers’ own energy use.
OECD countries have excise-tax exemptions for fossil fuels used in the
production process in coal mining, oil extraction, refineries, etc. The
magnitude of this tax expenditure will depend on the volume of energy
production in each country. Even in Germany, which is not a large energy
producer, it is estimated to be worth 0.01% of GDP.

intermediate and final consumption of fossil fuels:

·     Reduced VAT rates and
VAT exemptions for fossil fuels.
value-added tax rates are typically targeted at heating fuels. Italy, for
example, applies a 10% VAT rate to the first 480 cubic metres of natural gas
supplied annually to each household, compared with a standard VAT rate of 20%.
Korea has a VAT exemption for domestically produced anthracite coal typically
used by the poor for heating and cooking. In the UK, all fuel and power for
households’ domestic use, has a reduced VAT rate of 5%, clearly below the
standard rate of 17.5%. The tax revenue thereby foregone is equivalent to 0.25%
of GDP, the bulk of it relating to fossil fuels either directly or indirectly
via electricity generated from coal, etc.

·     Tax exemptions for
“clean” gas fuels.
Fuels such as
compressed natural gas and liquefied petroleum gas are less environmentally
damaging than other fossil fuels for transportation, but they still contribute
to CO2 emissions.
Australia currently completely exempts these gaseous fuels from the excise duty
applied to other fuels and estimates that this tax expenditure amounts to 0.06%
of GDP.

·     Low tax rates for
diesel and exemptions for agriculture and fisheries.
Many countries set excise duties on transportation
fuels at relatively high rates to reflect wider externalities such as air
pollution and road accidents and to finance road construction or raise revenue
more generally. Against that background, it is sometimes argued that diesel
used off-road by agriculture and fisheries should be taxed at a lower rate.
However, the complete exemption seen in many countries implies tax rebates that
often exceed what could be considered a road-user payment, and diesel
combustion contributes equally to CO2 emissions irrespective of where it takes
place. As one example, Japan exempts agriculture, forestry, fisheries, and
mining from excise duties on diesel. Turkey estimates that its exemption for
diesel used by fisheries and shipping represents a tax expenditure of 0.03% of
GDP. For OECD countries as a whole, these tax concessions are worth some US$ 8
billion/year to the agricultural sector and at least US$ 1.1 billion/year to
the fisheries sector, according to preliminary OECD estimates. Moreover, many
countries have lower excise-duty rates for diesel for road use than for petrol.

·     Automatic tax cuts
and subsidies when fuel prices rise.
Mexico’s unusual form of excise tax for petrol and diesel, rates change each
month. When the international oil price rises abruptly, the tax rate turns into
a subsidy. With low oil prices in 2002, this mechanism resulted in net revenues
of 1.2% of GDP, but with high oil prices in 2008 it resulted in net subsidies
of 1.8% of GDP.

·     Tax exemptions for
fuel used by the public sector.
taxes are only intended to raise revenue, it is natural to exempt publicly
financed activities. But taxes meant to price externalities may be equally
relevant for guiding input substitution in public as in private-sector
activities. Public subsidies to education, health care, and collective
transport should rather be general than channelled via underpriced tax-free
fossil fuels. France, for example, had excise duty exemptions for natural gas
used for heating by public agencies and fuel used by the military, but these
exemptions have since been ended, starting in fiscal year 2009–2010.

Source: National authorities, research literature
and OECD data on environmentally related taxes.

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