Dismantling fossil fuels brings states billions

04.07.2025

Source: E & M powernews

In a study, the economic research institute ZEW shows how the reduction of fossil fuel subsidies could promote climate protection worldwide and increase prosperity and government revenues.

The Centre for European Economic Research (ZEW) in Mannheim sees considerable potential for climate protection, national budgets and economic development in the global reduction of fossil fuel subsidies. According to a recent ZEW study, around a third of all countries could achieve their climate protection targets without introducing additional measures such as CO2 prices.

"Many countries continue to contribute to keeping fossil fuels cheap for consumers," explains Sebastian Rausch, head of the ZEW Research Department Environmental and Climate Economics. According to the co-author of the study, these favorable prices are either the result of direct payments by the state - so-called explicit subsidies - or because the external health and environmental damage associated with the use of fossil fuels is not included in energy prices. These indirect subsidies are referred to as implicit.

Pricing in external costs

Tim Kalmey, ZEW researcher and co-author of the study, emphasizes: "Abolishing explicit subsidies, such as tax exemptions on kerosene or gas price caps, would only have a limited effect on CO2 emissions. It is crucial that the external costs of fossil fuels, i.e. the harmful effects on health caused by local air pollution, are also priced in." According to ZEW estimates, this could reduce global CO2 emissions by around 32 percent.

The scale of the subsidies is enormous. According to the International Monetary Fund (IMF), global direct subsidies for fossil fuels currently amount to around 1.3 percent of gross world product. If indirect subsidies are added because external costs are not taken into account, this figure rises to 5.8 percent. In total, these subsidies amount to almost 6 trillion US dollars worldwide.

More money in the national budget

"The unilateral abolition of explicit and implicit subsidies on fossil fuels would increase welfare for practically all countries, generate considerable additional fiscal revenue and significantly reduce the economic costs of achieving climate targets," says Rausch. The ZEW assumes that large emerging economies such as China, India and Indonesia as well as industrialized countries and energy-importing countries such as Germany, the United States, Japan and the United Kingdom could already achieve around a third of their climate protection targets without further climate protection measures if they removed all subsidies.

In addition, countries would gain considerable fiscal leeway through savings on direct subsidies and new revenues from the pricing of external costs. On average, countries could generate additional revenue equivalent to 4.9 percent of total consumption. Depending on the region worldwide, ZEW estimates range from 1.8 percent to 16.2 percent.

Less expenditure on health damage

According to the study, the money saved could be used to cushion social hardship caused by rising energy prices or to finance investments in the energy transition. In addition, countries would have to pay less for damage to health and the environment and could reduce future economic burdens caused by climate change.

"Even if the abolition of all explicit and implicit subsidies for the use of fossil fuels worldwide seems hypothetical, this perspective is an indicator of the economic costs in our economic systems, which are geared towards the use of excessively cheap fossil fuels," says Rausch.

For the study, ZEW used a macroeconomic simulation model that depicts the global economy. It was based on detailed data on direct subsidies, the external costs of fossil fuels and comprehensive national income and product statistics from the national accounts. The model makes it possible to quantify the effects of a reduction in subsidies on CO2 emissions, national budgets and macroeconomic indicators.

The 48-page study "The Welfare Effects of Explicit and Implicit Subsidies on Fossil Fuels" is available for download on the ZEW website.

Author: Susanne Harmsen