The right time to re­form fuel pric­ing

Financial Mirror (Cyprus) - - FRONT PAGE -

World oil prices, which have been highly volatile dur­ing the last decade, have fallen more than 50% over the past year. The eco­nomic ef­fects have been neg­a­tive over­all for oil­ex­port­ing coun­tries, and pos­i­tive for oil-im­port­ing coun­tries. But what about ef­fects that are not di­rectly eco­nomic? If we care about en­vi­ron­men­tal and other ex­ter­nal­i­ties, should we want oil prices to go up, be­cause that will dis­cour­age oil con­sump­tion, or down be­cause that will dis­cour­age oil pro­duc­tion?

The an­swer is that coun­tries should seek to do both: Lower the price paid to oil pro­duc­ers and raise the price paid by oil con­sumers, by cut­ting sub­si­dies for oil and re­fined prod­ucts or rais­ing taxes on them. Many emerg­ing-mar­ket coun­tries have taken ad­van­tage of fall­ing oil prices to im­ple­ment such re­forms. The United States, which is now sur­pris­ingly close to energy self-suf­fi­ciency, so that the macroe­co­nomic ef­fects roughly bal­ance, should fol­low suit.

Con­sider this: Amer­ica’s roads and bridges are crum­bling, and the na­tional trans­porta­tion in­fra­struc­ture re­quires in­vest­ment and main­te­nance. And yet the US Congress shame­fully con­tin­ues to evade its re­spon­si­bil­ity to fund the Fed­eral High­way Trust Fund and put it on a sound long-term ba­sis, ow­ing to dis­agree­ment over how to pay for it. The ob­vi­ous so­lu­tion, which econ­o­mists have long ad­vo­cated, is an in­crease in Amer­ica’s ga­so­line taxes. The fed­eral gas tax has been stuck at 18.4 cents a gallon since 1993, the low­est among ad­vanced coun­tries. And yet, on July 30, Congress adopted only a three-month stop­gap mea­sure, kick­ing the gas can down the road for the 35th time since 2009.

Fos­sil-fuel pric­ing is a strik­ing ex­cep­tion to the gen­eral rule that if the gov­ern­ment has only one pol­icy in­stru­ment, it can achieve only one pol­icy ob­jec­tive.

For starters, the money saved from a re­duc­tion in sub­si­dies or an in­crease in taxes in the oil sec­tor could be used ei­ther to re­duce bud­get deficits or to fund de­sir­able spend­ing (such as US high­way con­struc­tion and main­te­nance). At the same time, lower oil con­sump­tion would re­duce traf­fic con­ges­tion and ac­ci­dents, limit lo­cal air pol­lu­tion and its ad­verse health ef­fects, and lower green­house-gas emis­sions, which lead to global cli­mate change. Fuel taxes are a more ef­fi­cient way to achieve these en­vi­ron­men­tal goals than most of the al­ter­na­tives.

There is also a na­tional-se­cu­rity ra­tio­nale. If the re­tail price of fuel is low, do­mes­tic con­sump­tion will be high. High oil con­sump­tion leaves a coun­try vul­ner­a­ble to oil-mar­ket dis­rup­tions aris­ing, for ex­am­ple, from in­sta­bil­ity in the Mid­dle East. If gas taxes are high and con­sump­tion is low, as in Europe, fluc­tu­a­tions in the world price of oil have a smaller ef­fect do­mes­ti­cally. Sub­si­dies to US oil pro­duc­ers have of­ten been sold on na­tional-se­cu­rity grounds; in fact, a pol­icy to “drain Amer­ica first” re­duces self-suf­fi­ciency in the longer run.

Fi­nally, although fuel sub­si­dies are of­ten mis­lead­ingly sold as a way to im­prove in­come dis­tri­bu­tion, the re­al­ity is more nearly the op­po­site. World­wide, fos­sil-fuel sub­si­dies are re­gres­sive: far less than 20% of the pay­ments ben­e­fit the poor­est 20% of the pop­u­la­tion. Poor peo­ple are not the ones who do most of the driv­ing; rather, they tend to use public trans­porta­tion (or walk).

The con­ven­tional wis­dom is that it is po­lit­i­cally im­pos­si­ble in the US to in­crease the gas tax. But other coun­tries have po­lit­i­cal con­straints, too. In­deed, some de­vel­op­ing-coun­try gov­ern­ments have faced civil un­rest, even coups, over fuel taxes or sub­si­dies. Yet Egypt, Ghana, In­dia, In­done­sia, Malaysia, Mexico, Morocco, and the United Arab Emi­rates have all re­duced or abol­ished var­i­ous fuel sub­si­dies in the last year.

Be­sides rais­ing taxes on fuel con­sump­tion, the US should also stop some of its sub­si­dies for oil pro­duc­tion. Oil com­pa­nies can im­me­di­ately deduct a high per­cent­age of their drilling costs from their tax li­a­bil­ity, which other in­dus­tries can­not do with their in­vest­ments. Like­wise, the oil in­dus­try has of­ten been able to drill on fed­eral land and off­shore with­out pay­ing the full mar­ket rate for the leases. Most politi­cians know that sound eco­nom­ics would call for these ben­e­fits to be elim­i­nated; but those who com­plain the loud­est that the gov­ern­ment must not pick cor­po­rate win­ners and losers seem to be the least able to sum­mon the po­lit­i­cal will to act.

A re­cent study by the In­ter­na­tional Mon­e­tary Fund es­ti­mated that global energy sub­si­dies are run­ning at more than $5 trln per year, while fos­sil-fuel sub­si­dies in the US have been con­ser­va­tively val­ued at $37 bln per year (not in­clud­ing the cost of en­vi­ron­men­tal ex­ter­nal­i­ties). As lead­ers in emerg­ing-mar­ket coun­tries have recog­nised, fall­ing oil prices rep­re­sent the best op­por­tu­nity to im­ple­ment re­form. Gov­ern­ments that act now can re­duce energy sub­si­dies or in­crease taxes while spar­ing con­sumers an in­crease in the re­tail price from one year to the next.

For the US and other ad­vanced coun­tries, it is also a good time for re­form from a macroe­co­nomic stand­point. In the past, coun­tries had to worry that a ris­ing fuel tax could be­come built into un­com­fort­ably high in­fla­tion rates. Cur­rently, how­ever, cen­tral bankers are not wor­ried about in­fla­tion, ex­cept in the sense that they want it to be a lit­tle higher.

The US Congress will have to come back to high­way fund­ing in Septem­ber. If other coun­tries have found that what was po­lit­i­cally im­pos­si­ble has sud­denly turned out to be pos­si­ble, why not the US?

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