Cheap Oil Gets Rid of Subsidized Oil in Developing Nations

“To my knowledge, not a single person predicted that lower energy prices would result in the elimination of fossil fuel subsidies in the developing world. Yet it happened.”

William Goldman is best known as the screenwriter behind the films the Princess Bride and Marathon Man. He is also the author of a profound quote about business: Nobody knows anything.

Goldman was talking about the movie business. A studio might spend $100 million dollars on a picture, bring on the biggest starts, promote it relentlessly, and it could still flop. Or it might be a hit! How can you tell whether a movie will succeed or fail? Nobody knows.

Goldman’s insight isn’t just true about movies. When it comes to energy, it is often also the case that ‘nobody knows anything’. Or, what’s even worse, that what everybody knows turns out not to be true.

For the past few years, oil has hovered around $100 a barrel. Pundits and experts wrote article after article explaining why the price of oil would remain high for the foreseeable future. And then, without warning, the price of oil tumbled falling to less than half the price before rebounding slightly.

Once this happened, people wrote all sorts of articles about why the fall had to happen. Few could claim to have seen this supposed inevitability coming, however.

Not everyone has been pleased with the new lower oil prices. Among the various complaints, lower oil prices are supposed to lead to increased use of fossil fuels, exacerbating the problems of climate change.

But then something unexpected happened in many developing countries directly subsidizing fossil fuel use by their citizens. In response to the declining cost of energy, they have reduced or eliminated these subsidies. As the New York Times reported last month:

On Jan. 1, the Indonesian government abandoned a four-decade-old policy of subsidizing gasoline, permitting prices at the pump to rise and fall with global oil prices. As long as oil is cheap, Indonesians will not see much of a difference. Since October, India has stopped subsidizing diesel and raised fuel taxes. Malaysia cut subsidies on gasoline and diesel late last year….

Such subsidies amount to more than $540 billion a year worldwide, and for decades they have been used as a crutch by governments to buy political support and lend a crude, but flawed, safety net to the poor, energy experts say. But they are also a drag on economic development and cause environmental damage by encouraging the burning of fossil fuels and discouraging efficiency, the experts say.

To my knowledge, not a single person predicted that lower energy prices would result in the elimination of fossil fuel subsidies in the developing world. Yet it happened.

Nobody knows anything.

Or consider a related example. In 2008, voters in the United States were presented with a seemingly stark choice on energy. One candidate promised to reduce carbon emissions by imposing a government-run cap-and-trade scheme on the economy. The other’s slogan was “drill, baby, drill!” It seemed like a classic example of a policy tradeoff between economic growth and environmental quality.

And yet, over the subsequent six years almost nothing happened according to this script. The American people elected the anti-drilling candidate, yet despite his best efforts President Obama was unable to enact his cap-and-trade policies. Instead, oil and gas production exploded, not due to government, but to the fracking revolution centered on private land and using privately developed methods.

Ironically, this boom in drilling had precisely the environmental effect that the Obama Administration claimed only government could provide. Carbon emissions in the United States fell to their lowest level in 20 years. American emissions fell faster without cap-and-trade than European emissions fell with cap-and-trade.

If you had told someone in 2008 that the United States would cut its carbon emissions by increasing drilling, they would’ve looked at you like you were crazy.

Nobody knows anything.

I don’t know what the future holds for energy, and probably neither does anyone else. Probably it will be something just as unexpected as previous developments. Or maybe not. But the fact that the future is so unpredictable hardly means that we should just throw up our hands. There are lessons we can learn from our own ignorance, and ways to prepare for the unplanability of the future.

First and foremost, government should stop trying to micromanage energy development. Government mandates as to fuel mix presume that we know the best ways to reduce emissions. Recent history shows that this is not true. Attempts by the government to block individual projects (as with the Keystone pipeline) or pick individual energy winners (as with the Production Tax Credit) are of dubious value.

Instead, we should harness the same force that led to recent emissions reductions: human ingenuity. The free market system has shown repeatedly that when given the proper incentives, the ability of humanity to innovate and solve problems is unparalleled.

Finally, we shouldn’t be afraid of cheap energy. That may sound obvious, but far too many still accept the position of Paul Ehrlich that “giving society cheap, abundant energy would be the equivalent of giving an idiot child a machine gun.”

This sentiment is not only offensive, it has got matters backwards. The reason carbon emissions have fallen in the United States is that energy got cheaper. Developing countries are cutting fossil fuel subsidies because energy is cheaper.

Roger Pielke, Jr. has written about what he calls the Iron Law of Climate Change Policy: “When policies on emissions reductions collide with policies focused on economic growth, economic growth will win out every time.” But as recent events have shown, these aren’t mutually exclusive options.