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Are Fossil Fuel Subsidies Really the Problem for Renewables?

I had a great time last Friday at Berkeley’s Annual Energy Symposium put on by the Berkeley Energy & Resources Collaborative.  Interesting people, interesting talks, and great to catch up with former students who are now working in all parts of the energy industry and government agencies.  I particularly enjoyed the session I got to chair on subsidies/support/incentives (everyone has a different word) for renewable energy.

But a number of times during the day I heard the common wisdom that the subsidies to the fossil fuel industries are a major barrier (some said THE major barrier) to the success of renewable energy.

If only it were that simple.  Unfortunately, the common wisdom isn’t correct.  Subsidies to fossil fuel companies are bad public policy and should be ended, but they have no meaningful impact on the competitive position of renewables.

I did an analysis of this argument as it applies to the electricity sector in a paper on renewable electricity generation that I published earlier this year.  Basically, I took the estimated energy subsidies from a study by the Environmental Law Institute and parsed out the ones that go to coal and natural gas used for electricity generation, which comes to about $21 billion over the 7 years they studied, 2002-2008 I then divided the subsidies by the total electricity generated from these sources during the same period.  The result is an average subsidy of $0.0011 per kilowatt-hour, just a couple percent of the average wholesale price of electricity.  The Energy Information Administration has a smaller number for coal and gas subsidies, and some studies have numbers a few times higher.  But even if you take the highest plausible numbers out there, eliminating these subsidies would do almost nothing to bridge the gap between renewables and fossil fuel electricity generation.

The other argument I hear is about subsidies for oil.  The ELI study puts these at nearly $50 billion over 7 years.  That’s a lot of money, but for renewable fuels that compete with oil the relevant question is how much of that subsidy gets passed along to consumers.  The answer is virtually none.  Oil is sold in a world market.  The impact of these subsidies on U.S. oil production (less than 8 million barrels/day during this period) was probably small to begin with, but its impact on price in the world oil market (about 85 million barrels/day) was almost certainly undetectable.  Subsidies for oil production are really dumb policy, but they aren’t lowering the price of oil (or gasoline), so they aren’t making it harder for renewable fuels to compete.

And then there’s the argument that we’ve been subsidizing fossil fuels for the last 100 years, so it’s only “fair” to subsidize alternatives now.  It’s hard to find much economic logic in this argument.  Surely we shouldn’t subsidize any alternative, no matter how expensive or ineffective, just because we have subsidized fossil fuels in the past.  The argument for subsidizing alternatives today has to be forward-looking — will such subsidies lead to better outcomes for society? — Not the idea that two bad policies cancel each other out.

Of course, the real subsidy to fossil fuels is that they emit local and global pollutants for which no one is required to pay.  From an environmental perspective, we’d be better off focusing on that major issue, not pretending that eliminating special tax breaks for fossil fuels will make alternatives economic.



Severin Borenstein View All

Severin Borenstein is Professor of the Graduate School in the Economic Analysis and Policy Group at the Haas School of Business and Faculty Director of the Energy Institute at Haas. He received his A.B. from U.C. Berkeley and Ph.D. in Economics from M.I.T. His research focuses on the economics of renewable energy, economic policies for reducing greenhouse gases, and alternative models of retail electricity pricing. Borenstein is also a research associate of the National Bureau of Economic Research in Cambridge, MA. He served on the Board of Governors of the California Power Exchange from 1997 to 2003. During 1999-2000, he was a member of the California Attorney General's Gasoline Price Task Force. In 2012-13, he served on the Emissions Market Assessment Committee, which advised the California Air Resources Board on the operation of California’s Cap and Trade market for greenhouse gases. In 2014, he was appointed to the California Energy Commission’s Petroleum Market Advisory Committee, which he chaired from 2015 until the Committee was dissolved in 2017. From 2015-2020, he served on the Advisory Council of the Bay Area Air Quality Management District. Since 2019, he has been a member of the Governing Board of the California Independent System Operator.

10 thoughts on “Are Fossil Fuel Subsidies Really the Problem for Renewables? Leave a comment

  1. To tell the truth it was an excellent indepth write-up even so as with all great authors there are a few items that might be labored on. But never the much less it absolutely was exciting.

  2. Great Insights Severin.

    However, I agree partly with Steve. A subsidy – tax breaks and giveaways, but also loans at favorable rates, price controls- is a big incentive for investor. Subsidies give a “psychological boost” to the R & D investment. Being from downstream background, I have seen many projects with marginally OK IRRs (close to hurdle rate) being approved because of potential tax benefits in the Government Policies.

    Additionally, while quoting “$0.0011 per kilowatt-hour”, one must realize that the “economies of scale” that are acting. That subsidy ($ 21 Bn that you have quoted for 7 years duration) must have contributed to only a small incremental % (not 100 %) of the electricity generated from Coal & NG. Thus 0.0011 figure could turn out to be more significant.

    I believe that one must not get too carried away with the practical advantages in Distributed Generation, one should really keep in mind the economies of scale in case of alternative energy as well.

  3. Would a subsidy on a traditional (fossil) fuel source make it look more economically advantageous to an investor? And if that is the case, however the subsidy is viewed, be it as a credit to operational expense, capital, or perhaps exploration or R&D, wouldn’t that create an advantage from the viewpoint of a business case? I would contend that from a different perspective, that of an investor or developer of a new renewable technology platform, especially if as you correctly state, no benefits get passed to the consumer, there is an advantage to the established industry. If an investor has the option of a known, mature technology with a subsidy, versus a new, unknown technology with a subsidy that is in many cases a lot less certain in the long term, this may impact the growth of a new class of energy technologies. Thanks for your insight.

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