Analysis | We Already Have a Solution for Oil’s Price Shock



With the Organization of Petroleum Exporting Countries promising only a modest increase in crude supplies next month and an unknown but possibly large slice of Russia’s 11 million daily barrels a day coming off the market as economic sanctions start to bite, the prospect of demand destruction starts rising. That’s a fancy term for what, to most of us, will look like a recession.

Oil itself usually suffers last from energy price shocks, because households and businesses have no choice but to spend money filling up their cars, or buying cooking gas, or running generators. Instead, consumers will cut back on discretionary spending and businesses will limit investments. That situation worsen if inflation gets bad enough that central banks start to raise rates.

Governments aren’t quite as powerless in the face of this as they may seem, however. Indeed, if they move rapidly, there’s an opportunity to close budget gaps, reduce petroleum demand, and cut emissions, all at once. The answer lies in public transit.

Retail fuel prices are rarely all that close to the price of gasoline and diesel coming out of a refinery. Across Europe and the wealthier Asian nations, taxes mean transport fuel typically costs close to double what it does in the U.S. That mutes the effect of price rises.

Elsewhere, the fiscal thumb is on the other side of the scale. Most oil exporters and many emerging economies subsidize their dirtiest sources of energy. Direct subsidies for fossil fuels amounted to $760 billion in 2018, according to a study last year by the International Monetary Fund. That will probably be considerably higher this year, since the subsidy bill rises along with oil and gas prices.(1)

Already last year, elevated crude prices have pushed some emerging-market governments to reconsider reforms carried out when prices were lower after the 2014 commodities crash. In India, the government of Prime Minister Narendra Modi took the opportunity of the collapse in crude prices that same year to add excise duties, which now make up nearly a quarter of the government budget — but last November it cut those levies and urged state governments to cut sales taxes too to ease pressure on road users.

There’s a similar situation in Brazil. Since 2016, government-controlled Petroleo Brasileiro SA, with a near-monopoly on local production, has set prices based on the cost of crude in the global market. That’s often been a source of tension with the government, given the effect of a weakening local currency on locally priced oil. Former President Luiz Inacio Lula da Silva, who’s challenging incumbent Jair Bolsonaro in the election due later this year, has called for the government to act to lower costs. Congress is considering legislation that would have the same effect.

At these crude prices, that policy could be costly. In Indonesia, one of the few large emerging oil importers to heavily subsidize retail prices, the government last week took the opposite tack, saying it’s likely to let costs rise because of concerns that the current situation would lead to either too great a drain on the budget or cause state-owned Pertamina Persero PT to collapse.

There’s a better solution out there. In most of the world, public transport networks are still well down on typical ridership levels, two years into the Covid-19 pandemic. That risks creating a vicious circle, where low patronage cuts revenues, driving service cuts which in turn reduce patronage.

Central governments are typically reluctant to get too involved in this, especially as urban transport is often run by politically opposed local officials. Weeks after announcing a 9.1 billion pound ($12.2 billion) annual package to reduce household energy bills, the U.K. government last month offered 200 million pounds to keep London’s transport network from bankruptcy for four months.

That’s a mistake. With oil prices at these levels, governments are already looking at using their budgets to ease cost-of-living pressures on households. Encouraging citizens back onto under-utilized public transit would be a far better use of subsidy funds than stoking demand for oil in the middle of a supply crisis.

More From Other Writers at Bloomberg Opinion:

In the Energy Transition, You Cannot Have Your Cake and Eat It, Too: Javier Blas

The World Has Been Using A Lot More Oil Than We Thought: Julian Lee

$3-a-Gallon Gasoline Isn’t as Painful as It Used to Be: Liam Denning

(1) Those costs are dwarfed by the indirect subsidy from the way oil, gas and coal don’t pay for the costs they cause in terms of climate pollution, health impacts, congestion, road damage and accidents, according to the IMF. Explicit monetary subsidies reducing the retail price of energywere only 8% of the total support governments provided to fossil fuels in 2020, according to the IMF.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

David Fickling is a Bloomberg Opinion columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.



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