Revisiting Energy Subsidy Calculations: A Focus on Saudi Arabia.

AuthorGasim, Anwar A.

    Saudi Arabia is the world's leading exporter of oil, a member of the Group of 20 (G20), and one of the largest energy consumers in the Middle East. BP (2020) estimated the Kingdom's primary energy consumption in 2019 to exceed 260 million tonnes of oil equivalent (Mtoe), consisting almost exclusively of crude oil and natural gas. As a result, it is also one of the largest emitters of carbon dioxide (C[O.sub.2]) in the region, releasing 580 million tonnes in 2019 (BP, 2020). Shown in Figure 1, Saudi Arabia's primary energy consumption has been partially driven by economic development and population growth.

    Domestic energy pricing policy has also influenced the Kingdom's energy use. For decades, Saudi Arabia has generally set domestic fuel prices below international market levels. This policy has helped support households' needs for basic energy services while also supporting the growth of nascent industries. Nevertheless, low energy prices have discouraged investment in energy efficiency and, as Matar et al (2015) show, stymied the efficient allocation of energy in the Kingdom. Starting in 2016, the Saudi government began to reform its domestic energy pricing policy in response to the undesired effects of low energy prices. These changes came under the wider banner of Saudi Vision 2030 (SV2030, 2016), a blueprint for social and economic reform.

    The International Monetary Fund (IMF, 2013) rightly noted the difficultly of capturing the fiscal cost of low energy prices in oil exporters such as Saudi Arabia, in which the "subsidies provided by low energy prices are often implicit." This is because in countries like Saudi Arabia, there is often no expenditure by the government to support low energy prices. Instead, the low energy prices lead to forgone revenues for the government. In this vein, this paper examines subsidy definitions, focusing on implicit subsidies in oil-exporting countries. The IMF (2013) also listed "lack of information regarding the magnitude and shortcomings of subsidies" at the top of their list of barriers to energy price reform. This paper addresses this barrier to Saudi energy price reform by comprehensively estimating energy subsidies in Saudi Arabia, by fuel and over time.

    We initially use the price-gap method to calculate energy subsidies by measuring the gap between the domestic price and a reference price for each energy product (Koplow, 2009). The reference price depends on how a 'subsidy' is defined. This method has been applied for Saudi Arabia by Alyousef and Stevens (2011), Coady et al (2019), and the International Energy Agency (IEA, 2020). Its appeal stems from its simplicity.

    The price-gap method, however, does have some drawbacks. It misses out on key effects like the impact of potential price reform on domestic demand and international market prices. Also, Koplow (2009) discussed how there are subsidies that do not influence market prices and are therefore neglected by the price-gap method. For instance, governments may subsidize the production process of an energy product that is then sold domestically at the international market price. Although the price gap would be zero in this case, those subsidy costs are still incurred. Since the price gap method misses such subsidies, Koplow (2009) argues that it understates global fossil fuel subsides.

    Focusing on the measurement of implicit subsidies, we propose a generalization to the price-gap method that incorporates the responses of domestic demand and international markets to the removal of a subsidy. Our approach addresses these two drawbacks to the price-gap method, but it is not designed to capture subsidies that do not influence market prices. It also retains elements of the price-gap method's simplicity. We showcase the proposed method for Saudi Arabia, comparing results across both methods. Our results reveal that the crude oil subsidy in Saudi Arabia in 2018 can fall from 8.6 billion United States (U.S.) dollars ($) to as low as $3.3 billion, depending on elasticity assumptions. The diesel subsidy can drop from $10.7 billion to as low as $4.4 billion, while the gasoline subsidy can fall from $4.3 billion to as low as $2.0 billion. These relatively smaller estimates stem from the domestic and international market responses to the removal of the subsidy.

    The remainder of this paper is structured as follows. Section 2 of this paper provides a background on Saudi energy policy to support our estimations of Saudi energy subsidies. Section 3 reviews the literature, covering different subsidy definitions and previous estimates of energy subsidies for the Kingdom. Section 4 presents the methods and data. Section 5 discusses the results, and Section 6 concludes.


    Energy prices have been regulated by the Saudi government for decades. As noted in Saudi Arabia's accession to the World Trade Organization (WTO) (2005), energy price regulation is used to "secure the needs and welfare of consumers and preserve important social interests of the Kingdom."

    Low feedstock prices, for example, helped the Saudi Basic Industries Company (SABIC) establish itself as a major player in the global petrochemicals industry. In the absence of a local market, prices for domestic supplies of natural gas and ethane had to be increased to make investments in production and processing worthwhile. The current natural gas price of $1.25 per million British thermal units (MMBtu) still falls short of the domestic marginal value of its demand (given the prevailing domestic supply) when fuel prices are deregulated (Matar and Anwer, 2017). (1)

    Low fuel prices have also supported households' needs for essential services such as air conditioning and mobility. For example, Saudi Arabia set the price of Arab Light crude at a nominal $4.24 per barrel ($/barrel) for decades, which, along with the low natural gas price, allowed the local electricity regulator to charge low electricity prices to households, schools, mosques, and commercial centers. Also, the Kingdom introduced a more inexpensive grade of gasoline in 2007, priced at a fixed 0.45 Saudi Arabian Riyals per liter, or roughly $0.45 per gallon.

    However, low domestic energy prices have discouraged investment in energy efficiency for conversion and end-use sectors. For instance, the Saudi Electricity Company (SEC, 2020a) reported that the average national thermal efficiency for power generation in 2015 was 36.2%, compared to 42.1% globally (Enerdata, 2020). Low energy efficiency at the conversion stage has been compounded by low energy efficiency at the end-use stage. Domestic levels of energy efficiency for appliances such as air conditioners also appear to have lagged global averages (Alyousef and Varnham, 2010). The same applies to the fuel economy of passenger cars. To improve end-use energy efficiency, the Saudi Energy Efficiency Center (SEEC) has implemented mandatory thermal insulation for new buildings, minimum energy performance standards for air conditioners, energy efficiency labeling for automobiles and appliances, and fuel economy standards.

    Since late 2015, the Saudi government has worked to reform energy prices to more closely reflect costs of production or international market prices for three primary reasons. First, higher energy prices would improve its fiscal position by raising government revenues, which have faltered due to a prolonged fall in the international oil price since late 2014. Second, energy price reform can increase the economic efficiency of using domestic resources, allowing supply and demand to balance with minimal external intervention. Third, energy price reform contributes to reducing domestic fossil fuel consumption.

    Table 1 summarizes the evolution of domestic energy prices in Saudi Arabia between 1990 and 2018. While the 1990s and 2000s saw a few price changes, the key reforms occurred in 2016 and 2018. In January 2016, the Saudi government raised all fuel prices, and in January 2018, it implemented additional increases focused on the end-use of energy, particularly household consumption. Household electricity tariffs for the first 2 megawatt-hours (MWh) per month rose from 1.33 to 4.80 U.S. cents per kilowatt-hour (kWh) (Alghamdi, 2019). The government also raised gasoline prices substantially in 2016 and again in 2018, after which it linked them to international market prices and started adjusting them each month.

    In 2018, the government also introduced the Citizen's Account, a cash transfer scheme that supports lower-income households in an environment of higher prices (FBP, 2018). It has been recognized that low administered energy prices are inefficient at supporting lower-income households, since higher-income households capture a larger share of this support given their higher energy consumption habits (FBP, 2018). Combining energy price reform with the Citizen's Account makes for a much more efficient use of government funds to support lower-income households. Only Saudi citizens qualify for cash transfers from the Citizen's Account, unlike past subsidy schemes, and payments vary according to the beneficiary's household size and income, up to a cut-off point.


    3.1 Subsidy Definitions and Their Implications on Measurement

    Despite their prevalence, subsidies are difficult to define (WTO, 2006). (2) The Oxford English Dictionary and Merriam-Webster offer linguistic definitions of subsidies, both of which emphasize the transfer or grant of money by the state. The System of National Accounts (SNA, 2008) presents an accounting definition that only captures producer subsidies. As stated in the SNA (2008), "subsidies are not payable to final consumers; current transfers that governments make directly to households as consumers are treated as social benefits."

    The WTO, with 164 members (WTO, 2020a), offers a legal definition of subsidies that is arguably the most widely accepted. WTO...

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