- Ian Parry, Dirk Heine, Eliza Lis, and Shanjun Li
- Published Date:
- July 2014
© 2014 International Monetary Fund
Cataloging-in-Publication Data Joint Bank-Fund Library
Getting energy prices right : from principle to practice / Ian Parry, Dirk Heine, Eliza Lis, and Shanjun Li. – Washington, D.C. : International Monetary Fund, c2014.
pages ; cm
Includes bibliographical references.
1. Power resources—Prices. I. Parry, Ian. II. Heine, Dirk. III. Lis, Elisa. IV. Li, Shanjun. V. International Monetary Fund.
HD9502.A2 G48 2014
Disclaimer: The views expressed in this book are those of the authors and should not be reported as or attributed to the International Monetary Fund, its Executive Board, or the governments of any of its member countries.
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This book is dedicated to Gary Becker, in appreciation of his inspiring teaching and long-time support of my work on environmental taxes; as my thesis chairman in the early 1990s, he encouraged me to model carbon taxes. Gary had agreed to write an endorsement for this book before his untimely death, his main reservation being the risk that environmental tax revenues might be overused for low-value spending.
The enormous improvement in global living standards over the past 100 years could not have happened without the energy derived from the world’s vast deposits of fossil fuels. Yet, the intense use of energy derived from such sources has brought side effects that pose major social, political, and economic challenges. The imperative is now to find ways to diversify and reduce the use of energy while continuing to eliminate poverty and promote inclusive growth. Within its mandate, the Fund is playing a part in this discussion.
Indeed, energy policies are not new territory for the Fund. We have been emphasizing the large fiscal benefits from removing harmful fuel subsidies for many years, primarily with an eye to saving money for the taxpayer. However, as the external effects of energy use have reached a macrocritical level—whether from environmental degradation, higher food prices, or the threat of climate change—the Fund’s advice has also evolved.
Policymakers face a wide array of options for meeting energy challenges. Given the powerful incentive effect that prices have on economic behavior, the application of basic tax principles is critical. “Getting prices right” means that taxes on fossil fuels should be set at a level such that energy prices reflect their associated environmental side effects.
This economic principle is widely accepted; however, putting it into practice is by itself an intellectual challenge. Here lies the unique contribution of this book. After attempting to quantify the environmental impact of energy use, the authors calibrate, on a country-by-country basis, a system of fuel taxes that balances environmental benefits against economic costs. Where data allow, and with proper caveats, the book estimates appropriate fuel taxes for over 150 countries, and provides a framework for refining these estimates further.
The results confirm that many countries—advanced, emerging, and developing—are only at base camp with regard to getting energy prices right. Importantly, the results also show local air pollution damages, congestion costs, and revenue potential (e.g., in lieu of other taxes) are mostly large enough to warrant higher fuel taxes, even leaving climate concerns aside.
The tools and insights provided here should help us rise to the challenge that the pursuit of more effective energy pricing poses—and to recognize too the opportunities for more sustained, robust, and responsible growth that it presents.
Managing Director International Monetary Fund
We are indebted to many people for their help in the preparation of this report.
Paul Johnson and Michael Toman provided many thoughtful comments on the case for, and design of, environmental fiscal instruments in Chapter 3.
Maureen Cropper was especially helpful in suggesting and developing the intake fraction approach in Chapter 4. Nicholas Muller provided valuable feedback, ran the simulations using the TM5-FASST tool, and calibrated various relationships between pollution exposure and mortality risks. Fabian Wagner put great effort into compiling emissions factors for different fuels and different countries using the IIASA model. Ronnie Burnett provided valuable information about findings from the Global Burden of Disease Project on baseline rates of pollution-related mortality by region and evidence on how these rates respond to pollution exposure. Alan Krupnick and Neal Fann also provided many useful comments on the methodology and data sources.
Robin Lindsay and Erik Verhoef also offered many useful suggestions for improving the assessment and discussion of side effects from motor vehicles in Chapter 5. Jianwei Xing provided first-rate research assistance for the estimation of traffic congestion costs.
Saad Alshahrani helped with the estimation of the impacts of fuel tax reform. Martin Petri and Nidhi Kalra provided thoughtful perspectives on the presentation of the results and how they might be made useful for policymakers.
Kelsey Moser helped to produce many of the figures in the report, Louis Sears helped with baseline energy data, and Sherrie Barnes, Maria Delariarte, Maura Ehmer, Mary Fisk, and Madina Thiam assisted in the final preparation of the manuscript.
Participants at an IMF workshop at which an interim version of the report was presented also provided very helpful comments. The workshop participants (aside from those acknowledged above) included Dallas Burtraw, Martina Bosi, Ben Clements, David Coady, David Evans, Marianne Fay, Elizabeth Kopits, Richard Morgenstern, Adele Morris, John Norregaard, Wallace Oates, Jon Strand, Suphachol Suphachalasai, and Ann Wolverton. Maura Ehmer and Pierre Albert helped to organize the workshop.
Glenn Gottselig, Michael Keen, Ruud de Mooij, and Vicki Perry provided especially valuable guidance and suggestions on numerous occasions during the preparation of the report.
emissions trading system
Fast Scenario Screening Tool
Intergovernmental Panel on Climate Change
pay as you drive
particulate matter with diameter up to 2.5 micrometers
parts per million
research and development
social cost of carbon
value of travel time