Obstacles to Subsidy Reform in the Energy Sector

1. Obstacles to Subsidy Reformin the Energy Sector OECD Technical Expert Meeting on Environmentally Harmful Subsidies 3-4 November 2003 Paris, France Doug Koplow Earth Track, Inc. 2067 Massachusetts Avenue, 4th Floor Cambridge, MA 02140 (617) 661-4700 DKoplow@earthtrack.net

2. Subsidy Reform in the Energy Sector: How are We Doing • Not very well. Current energy bill has: • At least $16 billion in new subsidies to energy sectors. • Little use of price system (fees) to differentiate supplies with different security profiles (e.g., Strategic Petroleum Reserve, nuclear site safety). • Removal on many checks and balances associated with exploitation of energy resources on public lands. • Over the past 15 years: • Recognition that subsidies are not just cash. • Improved tracking of aggregate lending, insurance subsidies in US, though linkage to beneficiaries remains poor. • Vastly improved access to reports, data via the internet. • Numerous attempts to curb new and old subsidies unsuccessful.

3. Other People's Views (1) Survey respondents shared general pessimism on lack of progress. • "I know I don't like them [subsidies], but I have yet to discover that silver political bullet that would allow us to overcome the 'concentrated benefits, diffuse costs' angle." • "…subsidies tend to gravitate to the largest, most-well-connected recipients." • "The natural resource extraction interests have entrenched decision makers in the [US] House and the Senate, as well as the administration that will back the needs of the natural resources industry, despite the environmental and fiscal impacts of the subsidy or program."

4. Other People's Views (2) • "Our work had little impact as best I can tell…" • "Subsidies for energy are usually driven by non-energy objectives and are usually highly politicized and difficult to remove." • "In terms of subsidy reform: hard to identify an actual subsidy that was removed." • "The government does not know what and where the subsidies are (and has little real incentive to find out)." • "The fundamental barriers to reform are always the perceived interests of key players."

5. What's Behind the Lack of Progress? • Rent seeking • Symbolic and instrumental politics • Supporting factors to subsidy perpetuation • Fragmentation, lack of standardization of subsidy data • Concentrated benefits/diffuse costs • Skewed checks and balances: regulation vs. fiscal policy. • Mis-defining the solution.

6. Rent Seeking: Cash* is Still King • Political entrepreneurship: the powerful get the subsidies and reinvest in the political process to keep them. • Objective is to increase expected returns; not just about immediate cash. • Special loans/tax breaks, or risk shifting to the public can be equally attractive and often less visible. • Concentrated benefits/diffuse costs: coalitions to oppose hard to assemble, maintain. • Avoid transparency; this reduces the cost of opposition. • Survey respondents: politics, not economics, main barrier to more rationale policies. *And cash equivalents.

7. Symbolic vs. Instrumental Politics (Edelman) • Symbolic - selling and defending policies. • Poverty alleviation, regional development. • Industrial development, new industries, millions of new jobs. • Achieving energy security/independence. • Instrumental - actual resource transfers policies generate. • Reducing risk/increasing returns for well-connected private investors or industries. • Delivering jobs or pork to legislative districts. "Members of Congress have spent the past three years negotiating the resolution of difficult, regional issues in the bill." -Senate Committee on Energy and Natural Resources press release, October 22, 2003.

8. Data Fragmentation & Inconsistency • Fragmented sources: • Scores of agencies/ministries per country provide subsidies to energy sector. • Budget data can't easily be sorted topically. • Inadequate processing of existing data to support subsidy analysis: • Spending on general programs rarely allocated back to beneficiary groups (e.g., muni bonds, waterways). • Estimation/valuation methods often lack transparency (e.g., tax expenditures), generating large variance. Estimates rarely checked by ex post analysis. • International data sets often aggregated "as reported" by member nations (e.g., IEA energy R&D database).

9. Comparing Regulatory and Fiscal Oversight in the US • Existing checks and balances often institute stringent controls over regulatory activities, lax controls over fiscal activities.

10. Mis-defining the Solution • Cooption. Subsidies for the "new" players (e.g., renewables) help pass legislation, but often worsen the relative economics for these less powerful sectors. • Small steps should not be seen as big steps. "Environmental fiscal reform" and "eco-taxes" don't even exist until existing fees meet three baseline recovery conditions: • Recover costs, including opportunity cost of capital. • Match baseline taxes of the wider economy. • Internalize reasonable estimates for environmental/health externalities. • "Final" steps to reform can be challenging. Transitional subsidies may be necessary for a reform package, but are ripe for political gaming.

11. Path to Reform: Doug's 5-Step Program (1) Identify subsidies qualitatively. (2) Describe subsidies qualitatively. (3) Quantify transfer associated with the subsidies. (4) Quantify the impacts of these transfers. (5) Model potential subsidy reform. • Take steps in order. Not all are needed prior to subsidy reform/removal, but each helps strengthen the case. • Expect resistance at all stages; fiercest political battles likely around increased transparency. "Publish them [subsidies] relentlessly. Make proponents defend them. The wrong folks are too often on the defensive politically…" -Leading US Energy Policy Expert

12. Conditions For Reform (1) • Policy windows: multiple factors do sometimes align to make reform possible. To capitalize on these, the baseline subsidy data/metrics must already be in place. • Coalitions must be wide. Environmental interests alone are generally insufficient; fiscal interests often needed. • Must be able to show benefits of reform more quickly and more completely than is currently the case. • Plan ahead to deal with transitory costs through more narrowly targeted programs.

13. Conditions for Reform (2) • Reciprocity/tax shift: Reinvesting fiscal savings from reform strategically into reducing other burdens (e.g., taxes on labor) can broaden support for change. • Stem the tide of new subsidies critical to long-term success of reform. • Mandatory sunset provisions. • Parity with regulatory policy: Subsidy impact assessments to assess environmental/economic harm prior to legislating. • Integrated costing of different types of subsidies. • Much clearer tracking of recipients (at least by industrial sector), to increase the political costs of subsidization to recipients.