Reducing Coal Subsidies and Trade Barriers: Their Contribution to Greenhouse Gas Emissions

Abstract:     
International negotiations for an agreement to reduce the emission of greenhouse gases are unlikely to produce concrete and comprehensive policies for effective emission reductions in the near term, not least because the policy measures being considered are economically very costly to major industries in rich countries and are unlikely to prevent 'leakage' through a re-location of carbon-intensive activities to poorer countries. An alternative or supplementary approach that is more likely to achieve carbon and methane emission reductions, and at the same time generate national and global economic benefits rather than costs, involves lowering coal subsidies and trade barriers. Coal policies have encouraged excessive production of coal in a number of industrial countries and excessive coal consumption in numerous developing and transition economies - when the opposite policies are what are needed to overcome the environmental policies associated with coal mining and burning. These distortionary are currently under review by numerous governments, and in some cases reforms have already begun. This paper documents those distortions and outlines the circumstances under which their reform could not only improve the economy but also lower greenhouse gas emissions globally. It also provides modelling results which quantify the orders of magnitudes that could be involved in reducing those distortions. The effects on economic activity as well as global carbon emissions are examined using the G-Cubed multi-country general equilibrium model of the world economy. Both the gains in economic efficiency and the reductions in carbon dioxide emissions that could result from such reforms are found to be substantial. Even if just Western Europe and Japan were to gradually remove their coal production subsidies and import restrictions by 2005 (let alone raise their currently relatively low tax on coal use and impose a tax on the environmental damage from coal mining), that would lower OECD emissions of carbon dioxide by 13 per cent and global CO2 emissions by 5 per cent. If in addition the currently low domestic price of coal in major non-OECD countries were gradually to be raised to the level in international markets, that would lower their CO2 emissions by 4 per cent and global emissions from these combined reforms by 8 per cent below what would otherwise be the case. More specifically, with the combined reforms global CO2 emissions would rise from 22 billion tonnes in 1990 to a projected 27 instead of almost 30 billion tonnes in 2005. The impact of these reforms on national output and income levels are complicated because, in addition to efficiency gains, removing price distortions stimulates terms of trade changes and international capital movements. Western European countries, as net importers of coal, turn their terms of trade against themselves when they reform, which benefits Australia and the coal-exporting transition economies of Eastern Europe, the former Soviet Union and China while harming as a group the net coal-importing other developing countries. Both transition and developing economies are projected to be better off when their coal markets also are reformed. The environmental gain from coal market reform is achieved with gains in economic efficiency rather than economic costs - a 'no regrets' outcome or win-win Pareto improvement for the economy and the environment that contrasts markedly with many of the costly proposals currently being advocated to reduce greenhouse gases. Both gains would be even greater if Western European countries raised also their low coal consumer tax rates as they phase out their coal producer subsidies, since those consumer taxes are currently relatively low (presumably to lower the cost to electricity utilities or requiring them to use lower-quality locally mined coal). And both gains would also be enhanced if countries taxed domestic coal production optimally so as to ensure coal mining enterprises compensate society for the pollution they cause. Thankfully the process of lowering coal subsidies and trade barriers has already begun, with some EU economies (most notably Belgium and the UK) already advanced in dismantling their coal production subsidies and others (France and Germany) beginning to do so. And in some transition economies the low prices of coal (and also oil and gas) are gradually being raised. For example, in China many state-owned coal mines are being transferred out of the hands of the state and gradually subjected to domestic market forces. The results in this paper suggest these reforms should be applauded as a positive contribution to the reduction of greenhouse gas emissions, and countries should be encouraged to complete the process.

JEL Classification: D58,F13,F17,H2,Q4

working papers series