Mitigation potential and Trade Effects of removing fossil fuel subsidies

Quoting a joint analysis made by the OECD and the IEA, G20 Leaders committed in September 2009 to ―rationalize and phase out over the medium term inefficient fossil fuel subsidies that encourage wasteful consumption‖. This analysis was based on the OECD ENV-Linkages General Equilibrium model and shows that removing fossil fuel subsidies in a number of non-OECD countries could reduce world Greenhouse Gas (GHG) emissions by 10% in 2050 (OECD, 2009). Indeed, these subsidies are huge. IEA estimates indicate that total subsidies to fossil fuel consumption in 37 non-OECD countries in 2008 amounted to USD 557 billions (IEA, OPEC, OECD, World Bank, 2010). This represents almost five times the yearly bilateral aid flows to developing countries as defined by the Official Development Assistance (ODA). This paper discusses the assumptions, data and both environmental and economic implications of removing these subsidies. It shows that, though removing these subsidies would amount to roughly a seventh of the effort needed to stabilize GHG concentration at a level of 450ppm or below 2°C, the full environmental benefit of this policy option can only be achieved if, in parallel, emissions are also capped in OECD countries. Finally, though removing these subsidies qualifies as being a ―win-win‖ option at the global level in terms of environmental and economic benefits, this is not true for all countries/regions. The removal of fossil-fuel subsidies in non-OECD countries would have almost no impact on the total trade volumes at the world level although it would generate compositional changes both across traded goods and services and trading areas. Trade in fossil fuels, especially coal and natural gas, would be reduced, but these fuels account for a relatively small segment of total world trade and would be compensated, at least in the medium term, by an expansion of trade in energy-intensive goods. As for effects among different trading areas, the reform of fossil-fuel subsidies would increase the contribution of OECD countries in total world trade at the expense of a reduction of oil-exporting countries‘ imports and exports. This evolution results from the loss of competitiveness incurred by producers of energy-intensive goods in oilexporting countries that remove their subsidies and, at least in the medium term, by the corresponding gain of competitiveness reported by energy-intensive industries in OECD countries due to the fall of international fossil-fuel prices.The paper also provides some discussion about the robustness of these results.