subsidy reform

After a many-year hiatus, I'm happy to welcome back the Green Scissors report.  Green Scissors 2010 documents environmentally harmful subsidies to a variety of key sectors, including energy, agriculture, transport, and public lands.  The initiative is important in a number of respects. 

First, it combines the efforts of multiple NGOs (Friends the Earth, Taxpayers for Common Sense, Environment America, and Public Citizen) in a concentrated and effective way.  It is clear that subsidy reform is difficult even with this type of collaboration; without it, reform efforts don't stand a chance.  Second, the groups are all heavily focused on the legislative world.  Their approach emphasizes a format that legislative staff can clearly understand and act upon.  In the immensely complicated policy arena of government subsidies, this is no easy task.  Third, there is great power in making lists of subsidies to frame conversations on reform in an effective manner and push people to think about favored programs in new ways.

I'm hoping the 2010 report is the first of what will again become an annual assessment, and look forward to seeing the both the list and the policy details on the subsidies growing in future years. 

Ben Sills of BusinessWeek reports today that the International Energy Agency (IEA) estimates global fossil fuel subsidies in 2008 at $557 billion.  The figure is based on an interview the magazine did with Fatih Birol, Chief Economist of the International Energy Agency. 

More than half a trillion dollars per year in subsidies to fossil fuels is, indeed, a large number.  However, based on other sources and other work I am doing, I believe it is too low.  This conclusion is not based on any detailed information I've seen from IEA.  While I attended an expert meeting in February on G20 fossil fuel subsidy reform and provided detailed comments on their draft joint report and estimation methodology, I have not been involved with the G20 subsidy reform process since that time.  My rationale for concluding the numbers are too low include:  

• IMF numbers for oil alone were nearly as high.  In February, the International Monetary Fund released its own analysis (blog post on report; link to report) of global subsidies to petroleum.  They pegged oil subsidies for 2008 at  at least $519 billion, much higher than the $312 billion IEA says went to oil during that same year. 
• IEA value is similar to past "price gap" estimates that form lower-bound for subsidy value.  The figures for both IMF and IEA appear to be primarily "price gap" calculations that examine the difference between world prices and domestic prices for fuels.  Price gap values tend to set the floor for subsidy levels, but miss many other policies that generate subsidies to various energy sources. 
• Earth Track case studies have found substantial data gaps in fossil fuel subsidy information.  For the past year or so, I've been working with the Global Subsidies Initiative on a series of case studies that examine data availability on fossil fuel subsidies in four countries: the US, Germany, China, and Indonesia.  Our review has turned up systematic weaknesses in data reporting and transparency in a number of key subsidy areas.  These include tax subsidies; credit support especially for state-owned energy infrastructure and power plants; and insurance and indemnification subsidies.  It is unlikely that IEA, even with its strong global relationships, was able to solve these substantial data gaps in the few months it has had to prepare its data set.  As a result, it is likely that they have systematically undercounted certain types of subsidies in most of the countries evaluated.  (If you would like to be notified when our case studies are publicly available, you can add your e-mail to our distribution list here). 

Even ignoring the political challenges of reaching consensus, it would be unrealistic to think that IEA or any of the other parties involved with obtaining data for the G20 fossil fuel subsidy reform process (World Bank, OECD, and OPEC; along with many member countries and other organizations such as the IMF that also have input) could assemble a comprehensive data set on global subsidies in such a short time frame. 

What will be important, however, is that IEA be clear about where it has not been able to measure subsidies; and that the Agency state how filling in those gaps would have influenced its reported numbers.   If values from multiple sources exist but conflict, IEA should provide a range if the estimates are plausible.

Finally, where IEA's review on fossil fuel subsidies found that survey countries are simply not collecting needed data at all, the Agency needs to flag the areas for future attention and improvement.  G20 subsidy reform needs to be viewed as a process, not as an event.  However, it will not be a successful process unless rules for full disclosure are put in place and properly enforced.

UPDATE:

Some additional information on the IEA figures can be found in the Financial Times; and on the subsidy reform work program at the OECD web site.  The FT notes that the current numbers are higher than IEA's prior estimates.  (This would be consistent with the sharp increases in energy prices between 2007 and 2008; whether portions are also due to broader coverage of producer subsidies can't be discerned without more detailed information). 

A reader also points out that part of the reason IEA's values are lower than IMF is that IEA's pick up a full year average for 2008, so include the subsequent declines later in the year.  IMF's are based on subsidy rates at mid-year before the sharp price declines.  Price gap subsidies tend to rise when energy prices rise quickly, as policy adjustments to raise prices in countries with consumer subsidies tend to lag.

Two final points.  First, while IEA is the cited party on these estimates in both the FT and BusinessWeek articles, the work is being conducted by four international agencies (IEA, OECD, World Bank, and OPEC), not just one.  And second, while it is not possible to tell at this stage for sure whether any types of subsidies have been systematically excluded, the current plan is to make the detailed basis for the estimates available in the fall.  This would be quite helpful in building more systematic data coverage over time.

When people look for official information on US energy policy and trends, the Energy Information Administration (EIA), part of the US Department of Energy, is one of the first places they look.  I look there too: EIA staff do great work in many areas; they are willing to talk about their work and assumptions; and they have developed a model of data sharing that I wish many more government departments would adopt.

But EIA's numbers on energy subsidies have always irked me, widely cited though they may be.  The subsidy totals have been very low.  The patterns across fuels have been extremely sensitive to estimate shifts in even a single program.  The inclusion rules have often seemed arbitrary.  For example, EIA has sometimes excluded programs based on arguments that applied equally to subsidies the Administration did include.  Other times (e.g., with public power), EIA's reports have carefully developed a theoretical framework on how to evaluate the subsidies, quantified how big they are, and then failed to include the results of all this work in its subsidy tallies. 

The point here is not to cast stones.  There are resource constraints, narrow research mandates from Congressional requestors (with a bit of a political angle, I'm told), and a variety of other factors that have led to the outcomes we see.  But as the role of energy subsidy reform is increasingly recognized as a central tenet in a rational and cost-efficient response to climate change; and as fossil fuel subsidy phaseouts hit the realm of the G20, incomplete or inaccurate subsidy data becomes a big problem.

Today, I've am happy to release a detailed review of EIA's subsidy numbers.  EIA Energy Subsidy Estimates: A Review of Assumptions and Omissions explores EIA's numbers and a variety of the reasons they are so low (see table below).  I have no doubt EIA will continue to be tasked with tracking government energy subsidies; my hope is that this analysis will help them do it better in the future.

I see this Review as a companion piece to a paper I did last summer for the International Institute for Sustainable Development on the strengths and weakness of the "price gap" metric, the most common approach used to measure energy subsidies globally.

There are some important cross-cutting themes: 

First, accurate subsidy measurement is important, but it is also hard.  Political pressure makes that measurement even more difficult.  Fixing this problem will require a signficant commitment by governments, and likely by many other parties as well. 

Second, as was the case with corporate financial reporting, improvements to subsidy data need to be viewed as a process rather than an event.  We will not have comprehensive data on fossil fuel subsidies by the G20 deadline; and likely not two or even five years from now either.  But it also took a very long time to figure out a reasonable way to account for environmental or pension liabilities in corporate financial reports.

Even with the data challenges, and perhaps partly because of them, countries that are serious about reforming subsidies to environmentally harmful activities need to focus much more on building a system and process for doing so.  They need to tackle the problem in a structured way, but in phases. 

What I've seen in international efforts over the past 20 years has mostly been trying to re-task existing institutions to deal with the challenge of subsidy measurement and data collection.  This approach has not be very successful.  Often there is historical baggage, competing demands, or operating rules that impede the task at hand.  There may be an existing skill base that addresses some -- but not all -- of the needs for the new task; but limited will, budget, or expertise to build out the needed areas.  While using existing capacity makes sense in the short-term, I believe over the longer term a specialized and independent structure will need to be set up. 

I think we can gain many insights on what this independent structure should look like by studying relevant institutional structures that have worked in other areas.  Some of the ones I think would offer valuable lessons include: 

• The initiation of systematic collection of macroeconomic statistics throughout the world after the global Depression in the 1930s.
• The accounting standards boards (FASB, GASB, IASB) that iteratively, and substantially independently of government, have evolved standardized rules for corporate reporting.
• The International Standards Organisation that has developed many challenging standards, such as production quality, that have been compelling enough for private firms to go to great lengths to meet iteratively over time.

Finding a handful of failures would also be quite useful in charting the path forward and what might go wrong.

It is inevitable that member governments of the G20 will waste innumerable hours fighting over how to define a "subsidy" and work to extend the number of years they can keep an existing subsidy and still meet the "medium term" phaseout pledge.  But if this is all that happens, we will come up empty.  Less political entities should begin thinking about institutional structure now.  Just as accurate and verifiable information on corporations was a pre-requisite for the development of mature capital markets, the benefits of accurate and verifiable information on subsidies will also be enormous -- not only from fiscal savings, but also through less expensive and large scale gains in environmental quality and poverty reduction.

Related documents on EIA subsidy values and subsidy reform:

Complete Review
Executive Summary only
Extracted table comparing EIA subsidy estimates to other subsidy research
Review of "price gap" approach commonly used internationally to measure energy subsidies
Earlier reviews of EIA subsidy estimates:  2001.  1993.

Expected Bias Resulting from EIA Subsidy Definition and Valuation Conventions

After my last post on the new subsidies to nuclear power, inquiries have started to come in on Obama's plan to end subsidies to fossil fuels.  A common question is whether his plan would really end subsidies to fossil fuels entirely. 

The simple answer is "no". 

Although implementing their proposed changes would save close to $4 billion per year, my past tallies (even ignoring the steady stream of new fossil fuel subsidies over the past five years or so) have been in the tens of billions of dollars per year.  Unfortunately, there are many subsidies that his reform plan ignores.  But before delving in to these important exclusions, it is useful to begin with the positives.

First, the Administration seems serious about ending a number of tax breaks that have been supporting fossil fuel extraction for nearly a century in some cases (percentage depletion was extended to oil and gas operations in the 1920s, for example).  They are trying to roll back a number of newer subsidies to the sector as well, including the rapid amortization of geological and geophysical expenses, and the eligibility for fossil fuels for the domestic manufacturing tax deduction.  They are also calling to a close the entitlement game that has followed the Abandoned Mine Lands fund, enabling states to spend the fees slated to clean up old coal sites on non-coal uses just because the fees were collected on coal operations in their state.  Tempers flare here, with Congress members in the affected states staking claim to AML funds as fiercely as a Bostonian claims his just-shoveled street parking spot.  Montana, for example, already uses the funds to clean up hard rock mine sites as well as coal mining, and wants to continue so.  I'd much prefer levying similar fees directly on sales of the hard-rock minerals such as silver, gold, and uranium that left a massive mess throughout the Western US to allowing unfettered use of coal cleanup fees.

Second, the Administration took a leadership position in moving the issue of fossil fuel subsidy reform to the G20 agenda.  The pledge (see paragraph 29) to strip these subsidies, issued in September 2009, is far too general to be operational yet.  However, it is among the most significant steps aimed at systematic fossil fuel subsidy reform that I've seen over my 20 years following the issue.  The institutions slated to examine the scale and scope of energy subsidies in paragraph 30 of the leader's statement really are doing so.  The IEA, OECD, World Bank, and OPEC are talking and trying to figure out the path forward.  In November 2009, APEC member countries endorsed the same subsidy phase-out goal.  True, these pledges remain mere words on paper, and will be fought fiercely by the beneficiaries of the current policies.  But the direction and intent is more clear than I have seen before.  A consensus that it makes little sense to both constrain greenhouse gases via climate change mitigation policies while concurrently subsidizing them is beginning to emerge.

So what's the problem?  A big one is that the Administration continues to have a paternalistic view of energy markets where their experts know which energy sources are naughty and which are nice, and they dole out the goodies accordingly.  Percentage depletion allowances for coal certaintly make no sense.  But neither do multi-billion dollar loan guarantees to "clean" coal plants; or tax credits or liability caps for carbon capture and sequestration technologies.  If carbon intensity is important, let energy prices reflect this, and direct investment and consumption patterns based on these more accurate price signals.

The Administration's end-goals sometimes get all mucked up.  If their budget is stripping fossil subsidies to save money, don't  undo all the savings by earmarking more than $50 billion in loan guarantees and direct loans to build privately-owned nuclear reactors, and billions more to coal plants. 

What about trying to remove subsidies to fossil fuels in order to improve the pricing of carbon emissions?  If that were true, why don't we see any subsidy reform dealing with land use change and growing subsidies to strip and burn all sorts of biomass?  Even in the coal sector, if coal -- despite being "clean" and with CCS -- has a higher carbon intensity per unit energy delivered than many other technologies; or takes longer; or has a higher risk of failing to deliver, why rig the contest?  And why is it the job of the US taxpayer to fund the transition from conventional coal to something better?  I don't pay for new microchip development, new pharmaceuticals, or improved sneakers unless the innovation works and I buy the resultant product.  The companies take the upfront risk and pay for it themselves -- though the stakes are often high.  Fortunes are won and lost in the process.  But (banking industry aside), they are not taxpayer fortunes.

In fact, as far as I've seen, the coal industry itself hasn't stepped up to the table with a research program commensurate with the an understanding that its carbon content may pose an existential threat.  Far from it.  A detailed compilation of coal industry financial performance versus investment in new technologies released by the Center for American Progress in mid-2009 found roughly 2 cents of every dollar of profit was reinvested in trying to develop the technical improvements that would allow coal to survive economically in a carbon-constrained world.  And even here, nearly all of the projects relied on substantial public co-funding.  Total quantified private funding on CCS projects was only $3.5 billion; total profits for the period 2003-08 were nearly $300 billion.  Surely if it isn't important enough for company executives and shareholders to put their cash on the line, how can one rightfully ask taxpayers to do it?

Well, maybe it's energy security that is the problem driving their subsidy reform selections.  If that were true, however, then why focus only on subsidies to domestic production while ignoring the large subsidies to international enegy extraction operations? 

No matter how the Administration ranks these end goals, we'd be far better off if they built a neutral policy framework within which the boosters of particular energy solutions would put their own capital at risk and be forced to compete against alternatives lower carbon, more secure, or most cost-effective solutions.

Subsidy reform is a good first step; but only if major things are not left out.  We're not quite there yet.  Here's my initial take at the  subsidies left out of the Obama budget proposal:

The Left-out List, a First Cut

The following programs provide substantial subsidies to domestic fossil fuels, yet are not addressed in the Obama budget proposal:

• Oil defense.  This includes costs to build, run, and finance oil stockpiles in the US Strategic Petroleum Reserve; and defense of key oil infrastructure, including pipelines and oil shipping lanes.
• Inadequate user fees to build and maintain inland waterway systems  (bulk coal and oil comprise more than 50% of the tonnage moved through that system); and related subsidies to coastal shipping.
• Foreign tax credits on foreign energy operations that are really disguised royalties (flagged as the largest oil subsidy in a recent ELI study).  
• Caps on oil spill liability below reasonable damage levels.
• Inadequate bonding for fossil fuel extraction on federal lands (there are related subsidies at the state level as well).
• Royalty reductions for selected offshore resources.
• Subsidies resulting from improper measurement or collection of royalties on federal leases.
• Tax credits (section 45Q) and liability caps for CCS.
• Loan guarantees for clean coal and other coal technologies.
• Credit subsidies to fossil-fired electricity generation through federal power marketing administrations, the Tennessee Valley Authority, or through programs run by the Rural Utilities Service.
• Accelerated depreciation (other than expensing, which is slated for elimination) for asset classes within the fossil fuel sector.
• Tax-exempt bonding for pollution control equipment, heavily used by coal-fired power plants.
• Subsidies to export of fossil-fuel related goods and services via Eximbank, OPIC, and US commitments to multi-lateral lending institutions such as the World Bank.
• Funding of energy-related environmental remediation or worker health (e.g., black lung) from general funds rather than from energy-specific user fees.
• Federal loan guarantees on the Alaska natural gas pipeline. 

Check out CNN's Stimulus "Big Bang", a graphical representation of federal stimulus spending over the past year or so.  You can click on the various elements to get additional details on the programs covered.

What immediately struck me is their estimate that more than 80% of total support came through what they call "stealth" measures.  Stealth support is less visible than direct transfers, though equally valuable.  Many of the programs described involve the use of subsidized credit, such as federal guarantees.  Not surprisingly, subsidized credit is a major element of the policies that large scale, centralized power generation resources have been seeking.

"Stimulus" and "subsidy" are really the same set of policy instruments; they differ only in that the stated purpose of stimulus spending is to keep the economy from going into free fall and depression.  Steering clear whether a big chunk of the stimulus spending is really disguised industry- or consituent-subsidy (the "business-as-usual" case), the dominance of stealth support shown in CNN's map is repeated in many areas of subsidization. 

This is not an accident.  The less visible and more complicated a subsidy transfer mechanism may be, the more attractive it is to both politicians and their recipients to use.  Politicians like it because they receive less political fallout; indeed, in some cases most outsiders won't even know a large subsidy has been granted.  Recipients like it for this reason as well, and because the difficulty in valuing the support often allows them to argue they are not being subsidized at all, even when the value of risk or financial transfers is extremely large.  

As the G20 and APEC nations move forward with their stated commitment to phase out fossil fuel subsidies, it will be extremely important to watch for these stealth subsidies as well as the obvious ones.  Unless the policies capture them both, much of the benefit of reform will be lost.  

When I think of former Senator Pete Domenici, the first thing that pops into my mind is his long-standing, unwavering, and open-checkbooked support for nuclear power.  A 2007 MSNBC article on him called him the "nuclear renaissance man," noting that he has "worked hard to subsidize the nuclear industry." 

Let's ignore the various financial and personal ties Domenici has with the nuclear industry mentioned in the article, and take it on face value that he is a "true believer" in the importance of nuclear energy for the country.  The whole history still makes him a strange and somewhat ironic choice to serve as co-chair of the recently launched Debt Reform Task Force of the Bipartisan Policy Center.  After all, isn't Congressional subsidization of favored industries and constituencies one of the main causes of our massive federal debt?  Isn't Domenici's massive push for unprecedented subsidies to nuclear -- a push largely based on belief rather than analysis,  and on personal relationships rather than competitive tender, exactly the things that this task force needs to fix?  In the nuclear arena, in fact, his push for more subsidies has often been through last minute amendments introduced with little visibility; changes aiming to reduce or eliminate existing oversight and constraints to federal spending or risk transfer.  The choice of Domenici for this particular role stands in rather stark contrast to his co-chair Alice Rivlin, who has spent her career evaluating government programs and ways to make them more effective and transparent.   

This critique is not in any way meant to undermine the goals of the Debt Reform Task Force or the many dedicated people they have engaged to participate.  It is certainly possible as well that the former Senator, freed from the political pressures he previously faced, will be able to focus on the structural reforms rather than constituency politics.  My hope is that he does not turn a blind eye to the way his favored issues contribute to the overall debt problem.  Rather, he needs to focus on policy-neutral solutions to boost transparency, tighten rules, and in the process render defunct the tactics he employed so often to boost subsidies to his own favored groups.