Why target fuel subsidies is better than reducing fuel taxes

AndThe USSA’s aggression on Ukraine is now in its seventh week, and it is against this backdrop of conflict and uncertainty that global oil prices have risen sharply. Prices, however, rose much earlier than the Russian aggression.

Since the price of Dubai Fateh Crude dropped to $ 33.75 per barrel in March 2020, oil prices have risen dramatically. Just one year later, in March 2021, crude oil prices almost doubled to $ 63.95 and are still rising (মার্চ 113.11 per barrel until March 2022). Significantly, this is not a historic high; Crude oil prices previously peaked at $ 131.22 per barrel in June 2008.

Why has the war in Ukraine had a big impact on oil prices? Russia is not a major oil supplier, especially to the Philippines, accounting for only 1-3% of the country’s crude imports (before the epidemic). However, Russia accounts for 10 to 11% of world imports, mainly supplied to the European market. This is not a negligible amount, and pushing supplies to the Russian side means greater global dependence on the Organization of the Petroleum Exporting Countries (OPEC).

OPEC faces its own incentives. With oil prices plummeting during the height of the epidemic lockdown, OPEC is keen to recover the profits it probably lost, now that the economy is recovering and demand is rising.

The sharp rise in prices comes at a politically complex time – in the midst of a heated presidential campaign. As expected, the candidates have mostly echoed what they perceived as the most popular (or populist) policy.

Isco Moreno Domagoso has announced that his policy will be to reduce the price of fuel and electricity by 50%. Both Senators Manny Pacquiao and Ping Laxman have called for a review of the fuel tax, if not a direct moratorium. Bambang Marcos and Leni Robredo were both initially in favor of a tax suspension, but both have shifted to insisting on subsidies instead. However, Marcos prefers fuel subsidies to “anyone using oil-related products that is essentially for everyone.” Vice-President Robredo unveiled a more subtle four-point plan that includes subsidies, including more targets in the public transport sector, service agreements to replace border systems, and moving toward more sustainable and efficient transportation options.

While the fuel tax cut may seem attractive for its simplicity, we must consider its impact and evaluate its costs and benefits. Proponents of lowering fuel prices at the pump can argue for its benefits. But because it’s a blanket principle, it doesn’t really benefit everyone. According to 2015 FIES, the richest 10% of Filipino households account for 51% of the country’s total fuel consumption. The richest one percent alone accounts for 13% of total fuel consumption. Fuel costs are strongly skewed towards the most affluent Filipino families, and so a blanket tax cut will benefit them disproportionately. This means losing revenue from rich or upper class oil consumption, which in turn will reduce government spending for the poor and working class.

Reducing the fuel tax for everyone is thus highly inequitable, not to mention the opportunity cost.

Earlier, the Finance Department (DoF) estimated that the suspension of fuel tax would result in cancellation of revenue equivalent to P105.9 billion. If prices continue to rise, this canceled revenue could go up to P147.1 billion.

As the economy shifts to a full recovery amid uncertainty and high government deficits, fiscal policy must protect revenue to finance essential public goods, including panic-related issues. Therefore, instead of suspending universal subsidies or fuel taxes, which are primarily for the benefit of the upper classes, targeted methods of providing relief to more risky sectors such as low-income families, commuters and farmers are much more efficient and equitable.

The DoF estimates that VAT on fuel alone could transfer P2,400 cash annually, down 50% of total Filipino households totaling P33.1 billion. The revenue raised could also be used for the transport reforms proposed by Vice-President Robredo.

Subsidy leaks or unequal distribution is really a problem. During the epidemic, many local government units did not have proper targeting and the result was that wealthy families living in gated communities also received Help.

In terms of financial constraints, we need to be more tactful in setting our goals. The problem is solvable. The roll-out of the Philippine identification system, already nearing completion, could significantly reduce leaks. The positive and negative lessons from the cash transfer that accompanies TRAIN (tax reform for acceleration and inclusion) will include the increase in excise fuel taxes and the implementation of targeted subsidies by social development programs in response to the epidemic.

In light of this, the DoF approach is a way to subsidize low-income groups while securing intersecting financial space with VP Lenny’s subtle platform.

AJ Montesa is the head of the policy research team at the Action for Economic Reforms.