Southeast Asia’s energy subsidies are a tax on development

Policy reforms to resolve inefficiencies are a major yet underappreciated source of economic growth. One obvious example is the presence of large energy subsidies in the developing world, which are common among oil-rich countries such as Nigeria and Venezuela. Yet energy subsidies remain both large and seemingly firmly entrenched even in some Southeast Asian countries, where net energy exports are rapidly diminishing.

Energy subsidies are measured as the difference between a benchmark border price (for example—gasoline or LPG) and price in the domestic market—or in the case of electricity, between the price charged to consumers and the “true” (i.e., border) price of the necessary input mix. When world energy prices rise, the rate of the subsidy rises along with them, expanding the fiscal burden so long as domestic prices remain fixed. This has been the case for much of the 2000s.

The cost of energy subsidies

Energy subsidies are especially large in Indonesia, where fossil fuel subsidies alone account for 14% of government spending. The most recent published data are shown in Table 1 (rates have changed little since then). Other Southeast Asian countries are grappling with similar budgetary burdens. In Viet Nam, the state electricity utility buys coal from the state mining company at prices far below market rates, thereby helping cover some of its operating losses as it sells electricity to consumers for $0.07/kWh—the lowest price in the region other than in energy-rich Myanmar.¹ Thailand’s fossil fuel subsidies, while less politically prominent than the rice purchasing scheme² whose fiscal burden helped to topple the government of Yingluck Shinawatra earlier in 2014, are equally costly to the public purse: the chairman of Pacific Petroleum & Trading, the state oil company, claims they have cost $15.6 billion over the past three years.³ Across the region, over $50 billion per year is spent directly on energy subsidies—and this figure becomes much larger, of course, when hidden environmental and health costs associated with emissions from power plants and vehicles are included.

Table 1: Fossil fuel subsidies in Southeast Asia, 2011

Source: World energy subsidy database www.iea.org/subsidy/index.html, and www.iisd.org/gsi/sites/default/files/ffs_gsibali_meetingreport.pdf, accessed 12 August 2014. Subsidy rates are defined as a proportion of the full cost of supply, and are calculated for 2009–2011, when world petroleum prices were about 50% of levels prior to the 2008 global economic crisis. Government expenditure data used in calculating column 4 are from www.adb.org.

In net energy‐exporting countries, energy subsidies are a mechanism to redistribute wealth from natural resources. However, they represent a direct fiscal cost for net energy importers. Supporters argue that subsidies help the poor and promote economic growth. Proposals to eliminate or relax them typically encounter considerable political resistance. But since their costs represent very high burdens on fiscal expenditures, where do energy subsidies fit into the larger economic development picture?

Low and stable energy prices may hold down living costs, hence promoting faster growth. But subsidies, especially in the case of fossil fuels, also foster energy‐intensive growth, discouraging the expansion of labor-intensive/employment-generating industries. Equally importantly, public spending on energy subsidies has high opportunity costs, such as forgone investments in infrastructure, health, and schooling. They also create a crowding-out effect in domestic capital markets. As ever, one person’s subsidy is another’s tax: energy subsidies are a hidden tax on economic development.

In fact, each dollar of public spending on a subsidy requires raising more than one dollar in taxes after the cost of public fund raising and spending is taken into account. Moreover, the burden of the tax, like the benefits of the subsidy, is unequally distributed among households and firms. Everyone pays some part of the tax, but there are net losers as well as gainers. Among households, the net losers are those who spend relatively little on energy—that is, the poor. Among firms, those whose production methods are less energy‐intensive are more likely to lose than those for whom energy costs are large. Among owners of labor and capital, the biggest net losers are workers employed in industries that are themselves net losers.

This calculus makes it clear that for most of Southeast Asia, reducing or removing energy subsidies would have gains in terms of growth, poverty alleviation, equity and environment that will far outweigh the costs.

Bringing costs into line with market prices

Realistically, however, to bring opportunity costs into line with market prices requires either strong government or careful coalition-building. In India, the electoral landslide that brought Narendra Modi and the Bharatiya Janata Party to power has created a window of opportunity to reduce that country’s fiscally crippling energy subsidies, most likely through continuation or acceleration of an existing scheme of pre-announced rate reductions.⁴ The chairman of Thailand’s PTT has called on the military regime to use its absolute power to push reforms through.

In Indonesia, past attempts to reduce subsidies were met with a range of negative popular responses, frequently culminating into violent protests. The most significant effort so far, introduced in 2004, accompanied cuts in a range of fossil fuel subsidies with the world’s largest unconditional cash transfer program. But the program was costly and had mixed results—with fixed pump prices for gasoline, kerosene, LPG and diesel as the basic structure of the subsidy remaining in place.

More recently, however, signs have emerged that political leaders in Indonesia may be ready to reduce or remove remaining energy subsidies, as announced by both candidates in the presidential campaign early this year and signaled last July by the elective President Joko Widodo.⁵ Such renewed confidence may be influenced by the recent experience of Egypt, were energy subsidies were reduced without provoking a popular uprising⁶—a news to be welcomed in several Southeast Asian countries.

One important piece of the political puzzle is the dissonance between perceptions and reality on the incidence of fuel subsidies. The focus of policymakers, most researchers, and those directly affected by the subsidies is on consumer spending on fuel, with the widespread belief that subsidies favor the poor. In fact, the opposite is probably true, as recent studies on Indonesia⁷ and Viet Nam⁸ reveal. Meanwhile, the hidden costs of crowding-out in capital markets and under-investment in infrastructure, education and other services, together with the related indirect effects of the net subsidy on employment and real household incomes, seldom enter into the public debate.

Reducing or removing energy subsidies in Southeast Asian economies is not a panacea, and there are many steps between ensuring a balance between diminishing scarce fiscal resources and enhancing economic development. But subsidy reductions are definitely a low-hanging fruit for economic policy reform, and could be an important step toward more sustained growth and a more sustainable and equitable future in the region.
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¹ “Vietnam’s dirty energy habits hard to kick, getting worse,” Thanh Nien News. 10 February 2014.

² Warr, P.G.: “Thailand’s rice subsidy scheme rotting away,”

³ “PTT Chief Urges Thai Junta to End Fuel Subsidies: Southeast Asia,”

⁴ “Modi’s Record Win to Help India Curb $24 Billion Oil Subsidy,”

⁵ “Indonesia’s likely next government plans to cut fuel subsidies in first 100 days, says Jusuf Kalla,” Australia Network News,

⁶ “Egypt Cuts Tax Breaks for Fuel; Few Protest.” New York Times. 17 July 2014.

⁷ Yusuf, Arief Anshory and Budy P. Resosudarmo, Mitigating Distributional Impact of Energy Pricing Reform: Indonesian Experience, ASEAN Economic Bulletin. 2008. Vol. 25. No. 1. pp. 32–47.

⁸ Coxhead, I and C. Grainger. 2014. The incidence of energy policy reform: energy subsidies in Southeast Asia. Manuscript available at bit.ly/1n8FTHH.