Common Tragedies

Thoughts on Environmental Economics

Alternatives to price controls

Posted by Daniel Hall on November 2, 2007

As noted elsewhere, China has raised prices on transportation fuels in response to shortages resulting from price controls. Today’s CS Monitor reports:

China’s cut in fuel subsidies pushes up pump prices towards $3 a gallon, in the same ballpark as what US consumers are currently facing, but still far below European prices. Given the burgeoning problems of emissions and congestion in Chinese cities, higher prices could deter would-be car owners and depress fuel consumption, which in turn would ease pollution.

That seems like relatively good news. The problem? Most Asian countries have a history of subsidizing fuel for their citizens, and cutting subsidies is unpopular:

In Asia, hiking fuel prices can be a perilous political move. The recent protests in Burma that were later brutally repressed began in August, after diesel prices doubled overnight. Commuters unable to pay higher bus fares had to walk to work, and their plight became a lightning rod for dissent. In recent years, authorities in Nepal and Indonesia have also faced demonstrations over the removal of fuel subsidies.

Here’s what I found most interesting, however. The article makes a great point that you can structure a subsidy in a much smarter way than just capping prices:

When it comes to easing public concern over rising fuel prices, UNDP researchers say pump-price subsidies aren’t necessarily the answer, as they don’t always benefit the poor. Targeted government subsidies are preferable, such as the smartcard system used in Malaysia for poor consumers. The electronic smartcard prevents subsidy recipients from selling their fuel allocations on the black market.

We’ve talk before about how lump-sum transfers are preferable to artificially holding down prices, because lump-sum transfers maintain the incentives for all consumers to reduce consumption. Plus, rather than being extended to all consumers — with fuel ending up mostly in the tanks of Hummers and BMWs as in Venezuela — lump-sum transfers can be appropriately targeted.

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