Monday, July 28, 2008

Oil subsidies in emerging countries

A standard economic proposition is that poorer people generally have more price elastic demands for many goods.  When a good's price rises it is those with constrained purchasing power who cut back their consumption most. Why then have oil demands not fallen in oil importing emerging and middle income countries when we know demands have fallen off markedly in developed countries?

This is partly because in countries accounting for 96% of the increase in demands last year oil prices are subsidised - often massively. Until recently Malaysia devoted 7.5% of its national economic output toward fduel subsidies.

Often provision of these subsidies is an intractable political issue. Sometimes too the subsidies are a second-best way of addressing the environmental problems of deforestation that would worsen were poor people to be charged the fiull price of kerosene.

These subsidies mean that the aggregate quantities of fuel demanded will not adjust in response to higher prices so as to stabilise these prices - they keep prices high in developed countries where oil products are generally taxed rather than subsidised.

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