The Effects of Oil Subsidies

I see the The New York Times has finally caught on to the point that I’ve been making for some time, namely, that the most effective thing that can happen to reduce oil prices in the short term is for the countries that are providing them, especially China, Indonesia, and India to trim their subsidies a little:

JAKARTA, Indonesia — To understand why fuel prices in the United States have soared over the last year, it helps to talk to the captain of a battered wooden freighter here.

He pays just $2.30 a gallon for diesel, the same price Indonesian motorists pay for regular gasoline. His vessel burns diesel by the barrel, so when the government prepared for a limited price increase this spring, he took to the streets to protest.

How much do these subsidies really amount to?

From Mexico to India to China, governments fearful of inflation and street protests are heavily subsidizing energy prices, particularly for diesel fuel. But the subsidies — estimated at $40 billion this year in China alone — are also removing much of the incentive to conserve fuel.

The oil company BP, known for thorough statistical analysis of energy markets, estimates that countries with subsidies accounted for 96 percent of the world’s increase in oil use last year — growth that has helped drive prices to record levels.

I was mocked for pointing this out the other day. Perhaps the NYT getting on the bandwagon might reduce the disdain.

Don’t get me wrong. I think that the U. S. should continue to use less oil as we have each year for the last several years but, as James Hamilton noted recently, at the current rates of increase in consumption in China, if we tried to satisfy China’s increased thirst solely by cuts in U. S. consumption, we would need to consume zero barrels of oil in just 17 years. We can’t conserve our way to lower gas prices.

I completely recognize what problems eliminating these subsidies would cause for many of the countries that have them and that’s why I don’t think they should just eliminate them. I think they should trim them a little and, more importantly, announce in advance a schedule under which they’ll gradually reduce them. Americans are responding rapidly to the price signal of the increasing price of oil. Insulating the fastest-growing economies in the world from the price signals is a bad policy and over time will do the people who live in those countries no favors.

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