Oil Price Subsidies

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Subsidies in China, India, Mexico and Indonesia keep Domestic Oil Prices Low

Developing nations have recently been protesting oil price subsidies, saying that these are contributing to the growing global demand for oil and preventing prices from easing.

The largest oil price subsidies in the world are provided by the developing economies of China, India, Mexico and Indonesia. Analysts argue that these oil subsidies are responsible for the growing demand for fuel in the emerging economies. They say that countries that do not provide any subsidies, such as the US and the UK, have seen a downturn in demand over the past few years, while today China and India contribute significantly to the global demand for oil.

Protests by the US and other developed economies against oil price subsidies in Asia and the emerging economies are based on the fact that these developed nations are paying more for their oil due to the absence of subsidies. Unfortunately, the problem with oil price subsidies is that once they are put in place, it is political suicide for any government to repeal them. While developing nations argue that subsidies are the only way the poorer sections of the population, such as the farming community, can be helped, oil price subsidies play a crucial role in keeping oil prices high across the world.

Moreover, oil subsidies nullify all attempts at energy conservation that most developed countries are working towards. China reported an increase in oil usage by 400,000 barrels in the first quarter of 2008, as compared to the first quarter of 2007. Needless to say, the increase in consumption also negates attempts at environmental protection and the reduction of greenhouse gases.

Subsidies also have a hand in keeping prices of food and other commodities low. This leads to an artificially low rate of inflation for countries that provide oil subsidies. On the other hand, headline inflation in developed nations or countries with no such subsidies remains artificially high.

When oil prices rise, such as the record highs seen in July 2008, subsidies help to smoothen out the effect of price hikes across a nation’s budget. If, however, oil prices continue to be high, governments will sooner or later be forced into cutting the subsidies in order to curb its losses. In fact, the year 2008 has seen some movement in this direction. In May 2008, Malaysia, Indonesia and Taiwan announced fuel price hikes and a slow easing of energy subsidies. India has also announced marginal fuel price hikes in 2008.

The way forward for governments across the world is to move subsidies currently allocated for fossil fuels to renewable energy sources. The US already has subsidies and incentives in place to foster the development and use of renewable energy. The question now is how and when the developing nations will bite the bullet and alter their oil price subsidies.

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