Subsidies: the oil and gas cancer

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By Charles Nsobya

At the 2009 Pittsburgh G-20 summit, the leaders of the 20 largest developed and developing economies agreed to phase out fossil fuel subsidies.

According to the International Energy Agency (IEA) in its 2011 Joint Report with Organisation of Petroleum Exporting Countries (OPEC), Organisation of Economic Co-operation and Development (OECD) and World Bank, oil products attracted the largest subsidies, totaling USD 193 billion or 47% of the total subsidies all over the world.

Provision of petroleum at subsidised prices may be more agitated for but it has many shortcomings that might end up derailing the economy. Oil subsidies can be defined as the difference between reduced prices of petroleum with government support and the price of petroleum in the absence of such support.

Subsidies are supposed to reduce expenditures. This objective is not being met. In Venezuela for example, drivers leave more tips to pump attendants than they pay for fuel. This confirms the words of the International Energy Agency (IEA) Executive Director Maria van der Hoeven; “In a period of persistently high energy prices, subsidies represent a significant economic liability.” The World Bank Report of 2009 estimated that the magnitude of subsidies to consumers and producers worldwide is US$ 700 billion a year. This is roughly equivalent to 1% of World GDP.

Oil subsidies reduce the tax revenue of the State. As a result government spending on crucial sectors like Manufacturing, Infrastructure, Health and Education is reduced. The IEA calculated Venezuela’s energy subsidy to be worth $ 27 billion in 2011. This was the cash that wasn’t realized by Venezuela as a result of not selling fuel at market price.  According to IEA this subsidy was equivalent to 8.6% of Gross Domestic Product (GDP). Government spending on Health was 3.25% of GDP that year and on Education, 5.1% of GDP. This gives a clear indication of what a country can lose with subsidies.

A look at National Budgets of countries subsidizing its petroleum prices, subsidization should be foregone in Uganda. This is because their budgets are usually in deficit. As a result these countries get debt so as to recover the revenue gap that the subsidy leaves.

Oil subsidies encourage smuggling of fuel. Generally fuel prices are low in countries with domestic oil subsidies and are high in those countries that have their fuel prices determined at market prices. Through smuggling government will end up losing revenue. In Nigeria for example petroleum prices are a third of the levels prevailing in neighboring Niger and Cameroon, leading to widespread smuggling and chronic fuel shortages in many parts of the country.

One of the major reasons for subsidizing Oil prices is to make petroleum products available to the less privileged in society. However it is the rich who use large quantities of petroleum in oil producing countries and therefore benefit more from subsidies compared to the poor. In Iran energy consumption of poor households is 44% of that of a rich household. The IEA, in its 2011 Joint report with the World Bank, observed that, out of the USD 409 billion spent on fossil-fuel consumption subsidies in 2010, only USD 35 billion, or 8% of the total, reached the poorest income quintile.

Oil is a finite resource and though Uganda has it today, it will be gone tomorrow. Uganda’s oil is estimated by experts to last approximately 30 years. Uganda should therefore not behave like a Saudi Arabia or Nigeria whose proven oil reserves multiply hers by far which can afford giving fuel subsidies to their citizens, Uganda cannot!

After all, Nigeria for instance is trying to do away with her oil subsidies. For now let us start with joining the Friends of Fossil Fuel Subsidy Reform, a group of non-G20 countries that support the reform of inefficient fossil fuel subsidies  Current members include Costa Rica, Denmark, Ethiopia, Finland, New Zealand, Norway, Sweden and Switzerland

The writer is a tax and oil and gas consultant