Dependence on the world market for oil
These are external costs, which need to be paid for
A country needs to pay for oil on the international market,
irrespective of how these costs are allocated nationally
Governments may choose how to allocate these costs:
government (by subsidies)
any remaining costs must be absorbed by the utilities
Who pays for oil ???
Objectives of energy policy
Energy policy reflects the manner a given (often governmental)
entity has decided to address issues of energy production,
distribution and consumption.
The attributes of energy policy may include legislation, international
treaties, incentives to investment, guidelines for energy conservation,
taxation and other public policy techniques.
Frequently, the dominant issue of energy policy is the risk of supply-
demand mismatch. Current energy policies also address environmental
Some governments state explicit energy policy, but, declared or not,
each government practices some type of energy policy.
Objectives of social policy
Social policy relates to guidelines for the changing, maintenance or
creation of living conditions that are conducive to human welfare.
Social policy is that part of public policy that has to do with social issues
such as public access to social programs and to essential services.
Social policy aims to improve human welfare and to meet human needs
for education, health, housing, energy and social security.
In an academic environment, social policy refers to the study of the welfare
state and the range of responses to social need.
Energy consumption is influenced by:
Long term Short term
Structure of the
The interplay between social policy and
Energy consumption is directly influenced by the price
Subsidies to consumers affect the energy price experienced by
consumers, which affects energy consumption.
Subsidies have associated costs
Someone has to pay for the amount subsidized
Disturbed price-signals lead to ‘efficiency costs’
economic scarcity is not reflected in the price leading to
suboptimal allocation of resources
costs are difficult to quantify, but do exist!
The equilibrium situation at P*
After a subsidy, the consumer feels Pconsumption
Q* Qsubsidy QUANTITY
The money transfer effected by the subsidy
For these units, the
value for consumers
P* is less than the cost
Q* Qsubsidy QUANTITY
However, at the cost of a decrease of welfare
By paying the subsidy, the
‘buys’ economic surplus for consumers
and producers at a too high price!
Q* Qsubsidy QUANTITY
The consumers pay for energy which has less value than the
total amount paid for it (directly and indirectly).
In the end, the cost of the too expensive units produced are paid
by the consumers themselves, as subsidies are generally paid
for from the treasury.
This is especially true when subsidies are allocated indifferently to
If the beneficiaries of the subsidies are a limited group, the
evaluation is more complex: the cost of the efficiency loss are
socialised, however counterbalanced by the benefits of having more
universal access to the energy supply.
Subsidies are an efficient
mechanism to reduce welfare!
Inventory of negative effects of subsidies
Too low prices result in:
... reduction of economic efficiency by consuming energy of which
the marginal benefit is lower than the reference price.
... reduction of incentives for producers to become more efficient
and lower their price.
... reduction of the remunerativeness of alternative (e.g. renewable)
Too high consumption results in:
... a higher demand for crude oil which, in turn, leads to increased
payments to foreign parties.
... a reduced incentive for energy conservation.
... higher (environmentally detrimental) emissions.
In principle, all costs for the energy supply should
be charged to the consumers, presuming the costs
Consumer = ‘any
In practice, tarification of energy
for households is a sensitive
However, the government may contribute to the
costs of energy (by providing subsidies)
Subsidies financed from taxes
are indirectly paid by consumers.
Financing from foreign
assistance is associated with
Any difference (COSTS minus TARIFFS minus
SUBSIDIES) must be absorbed by the utilities
If costs are not recovered, utility’s
revenues will decrease
Lower rate of return may affect reven-
ues for the government (as share-
Subsidies holder) and interest on future loans
Present experience with subsidies
In many countries (esp. those with energy markets),
governments conclude that some form of social policy for energy
support is desirable.
It is assumed that society as a whole benefits from universal access
to the energy supply.
However, success of these programmes is not obvious.
However, due to the environmental effects (resulting from the
high energy consumption) and the high economic costs, many
programmes are presently reviewed.
A ‘good subsidy’ is one that enhances access to modern
energy or has a positive impact on the environment,
while sustaining incentives for efficient delivery and
A subsidy should actually lead to an increased accessibility of
the energy supply
A subsidy should guarantee efficient distribution (i.e. reduction of
illegal consumption) and consumption (i.e. efficient use of
1. Subsidies should be focused*
Energy subsidies should be received only by those
targeted to receive them.
Often, subsidies are being received by people who don’t need them,
which provides wrong economic incentives and increase the cost of the
*UNEP and OECD/IEA, Reforming Energy Subsidies, United Nations Publication, 200,
ISBN 92-807-2208-5, p.21–23.
2. Subsidies should be efficient
Energy subsidies should not counter the incentives to
producers and consumers to produce/consume energy
Subsidies should be high enough to guarantee access to the energy
supply, but nevertheless such that the consumers still feel the cost of
E.g. subsiding a relative part of the energy bill is preferred above
capping of tariffs (which makes consumers insensitive to high oil prices
on the world market).
3. Subsidies should be economically sound
Programmes for energy subsidies should be justified by
a sound analysis of its associated costs and benefits.
It is advisable that governments make an inventory of all economic,
social and environmental costs related to a subsidy before embarking
on such a route. Periodically, such an analysis needs to be revisited, as
time may change certain assumptions.
4. Subsidies should be practical
The total cost of the subsidies should be affordable to
the government and the administration should not be
Sometimes, practical limits should be taken into account, e.g. the total
amount of money available for subsidies. Also, the administrative cost
of the subsidy programme (including monitoring the effect of the
subsidy and prevention of abuse) should be limited.
5. Subsidies should be transparent
Information on the total amount involved in a subsidy
programme and the parties benefiting from it needs to
In order to prevent abuse and for justification of resources, all financial
transactions within the subsidy programme should be transparent and
6. Subsidies should be limited in time
Any subsidy programme should include provisions for
ending the programme, in order to prevent perpetual
dependence on subsidies and too high costs of the
Due to changing circumstances, the (economic) effects of any subsidy
programme may change during time. As changes in the subsidy regime
often incur a lot of social debate, it is best to include conditions on
finalizing the programme automatically right from the start. This will
also be an ‘insurance’ against skyrocketing of the costs of the
Before a subsidy programme is initiated, it is preferable to have a
common understanding of the goals and principles
in order to manage the cost of the programme
in order to maximize the success of the programme
in order to minimize the negative effects of the programme
Apply a relative price criterion instead of an absolute
Do not cap the tariff to be paid by consumers, but design a subsidy
programme that contributes a relative share of the energy cost. This
will result in some residual demand elasticity.
Furthermore, the magnitude of the subsidy could be related to some
benchmark, e.g. the energy costs in comparable countries.
‘Consumers in your country should not be worse of than consumers in
countries X, Y, Z...’
Such an approach allows fuel price changes to be passed on to the energy
Guarantee that the tariffs cover the cost of service,
including a reasonable profit.
On the long term, it is important that the utility cost are recovered from
This is not only needed for having financial healthy companies, but also for
being able to perform all necessary investment.
Insufficient guarantees that investments will be remunerated, will deter
foreign investors, which is bad on the long term for a country.
Pass on all costs related to fuel purchases to the end
users (in the tariffs).
Fuel costs are non-controllable (opex) costs (at least on a short term).
Consumers should ‘feel’ the price signal, and adjust consumption
Support (only) those consumers who really need
government support for paying their energy bill.
If it is decided from a social policy perspective that some consumers
need assistance in paying their energy bill, limit the subsidy
programme to those people.
The group of recipients should be carefully defined (and proper use of the
subsidy should be easy to assess), and
Guarantee that the programme will not result in increased consumption.
Socialize the costs of the energy subsidies among all
consumers in a transparent way.
Since all costs for subsidy programmes are being paid in the end by
the consumers themselves, it is preferable to allocate these costs
Actually, subsidies are a re-allocation of income.
Several approaches may be followed, e.g. direct inclusion in the energy bill
(as a separate item).
It is important that the costs of the subsidy programme are clear to all, both
the beneficiaries and the people who pay for it.
Thank you very much for your attention!
Delft University of Technology &