Issues in Domestic Petroleum Pricing in OilProducing Countries

1
Issues in Domestic Petroleum Pricing in
Oil-Producing Countries

• Sanjeev Gupta
• IMF
• January 27, 2004

2
Introduction Why study domestic petroleum prices?

• Many oil-producing countries keep domestic prices
  below free market levels
• Net oil importers in some cases do not fully
  reflect international prices.
• The resulting subsidies can be large and are
  nontransparent
• Few studies have quantified these subsidies for a
  wide range of countries and examined their
  economic effects

3
Subsidy Estimates Methodology

• Subsidies can be broadly defined as the
  difference between the reduced price of a good
  with government support and the price of the good
  in the absence of such support.
• Subsidy (M-P)C
• M free market price WDT
• W world wholesale spot price
• D marketing distribution transport costs
  (importers only)
• T general consumption taxes (VAT, etc.)
• P after-tax retail price
• C petroleum product consumption

4
Subsidy Estimates Caveats

• Marketing, distribution, and transport costs
  assumed to be the same across countries and time
  periods introduces some error, esp. if pipeline
  constraints create large marginal transport costs
  
• However, transport costs are typically only about
  2 percent of after-tax retail price
• Excludes implicit subsidies due to tolerance of
  nonpayments
• Some retail price estimates are an average for
  only a month or quarter (snapshot)

5
Subsidy Estimates Sample

• Subsidies calculated for 86 countries between
  1996-2000
• 1999 is the latest year available for most
  countries. In this year, 62 countries in sample
• 15 Major Oil Exporters (of which, 13 subsidize)
• 6 Other Net Oil Exporters
• 41 Net Oil Importers

6
(No Transcript)
7
(No Transcript)
8
Subsidy Estimates Results

• Subsidies are large averaged 3.5 percent of GDP
  in 1999 among major oil exporters
• Among net oil importers, the average revenue from
  petroleum taxation was 2.2 percent of GDP in
  1999.
• Subsidies positively correlated with world oil
  price
• Residential fuel oil and auto diesel subsidized
  more heavily than gasoline

9
Economic Effects of Subsidies

• Efficiency
• In the absence of price distortions, most
  efficient to set domestic prices equal to the
  world wholesale spot price plus marketing and
  distribution costs (WD)
• Caveats
• Need for government revenue may make net taxation
  more efficient
• Environmental externalities may argue for further
  taxation (in excess of 100 percent, Parry 2001)

10
Economic Effects of Subsidies

• On the other hand, large exporters may have some
  monopoly power in world oil markets so that the
  marginal revenue from exporting is less than the
  world wholesale price plus marketing and
  distribution costs

• R revenue, X exports, ?X,P price elasticity
  of world oil demand, and XW total world oil
  demand
• Marginal revenuelt(WD) if significant share of
  world market (X/ XW is high) and ? X,P is low

11
Economic Effects of Subsidies

• Thus, the opportunity cost of not exporting may
  be lower than the world price for OPEC as a whole
  or its dominant members.
• The marginal revenue for OPEC can be as low as 25
  percent of the non-market-power case.

12
Economic Effects of Subsidies
13
Economic Effects of Subsidies

• Efficiency
• On balance, the arguments for taxation outweigh
  the arguments for subsidization
• Need for government revenue
• Environmental externalities
• However, most major oil exporters subsidize,
  resulting in efficiency (deadweight) losses
• Assuming environmental externalities, deadweight
  losses amount to 0.5 to 12.4 percent of GDP
• Assuming no environmental externalities,
  deadweight losses amount to between 0 and 7
  percent of GDP

14
Economic Effects of Subsidies

• Equity
• Poorly targeted means of distributing purchasing
  power to the poormajority of benefits go to the
  non-poor
• In Venezuela, the richest 20 percent receive 6½
  times more in subsidies per person than the
  poorest 33 percent (World Bank 1995)
• In Ecuador, the more expensive energy products
  received the highest subsidies, while household
  kerosene, used by poor households, was not
  subsidized (World Bank 1994)
• Pro-rich bias compounded by possible smuggling
  and corruption

15
(No Transcript)
16
Economic Effects of Subsidies

• Fiscal opportunity costs
• In subsidizing countries, the average subsidy is
  larger than the average fiscal deficit or total
  health spending
• In Ecuador and Venezuela, the implicit subsidy
  exceeds public spending on health

17

18
(No Transcript)
19
Economic Effects of Subsidies

• Cyclicality
• For net oil exporters, periods of high world oil
  prices tend to be both periods of economic boom
  and periods of higher domestic subsidies
• Petroleum subsidies are thus procyclical,
  exacerbating the effects of oil price shocks on
  economic volatility

20
Successful Reform

• Preconditions
• Establish social protection mechanisms to
  compensate losers (Indonesia) design using PSIA
• Use publicity campaigns to inform public of
  trade-offs (Egypt)
• Timing
• Optimal speed of reform depends on trade-off
  between fiscal need and adverse social
  consequences
• Existence of good social protection mechanisms
  allows faster reform
• Political environment
• External environmentperiods of low world oil
  prices may facilitate movement to automatic price
  mechanisms

21
Conclusion

• Major oil-exporting countries tend to be large
  net subsidizers of petroleum
• Subsidization does not appear to be a wise use of
  resources
• Reform requires careful design to overcome
  political opposition