21

|**Mechanism**|**Advantages**|**Potential problems**|
|---|---|---|
|ethanol-gasoline blends today and<br>LPG in the past)|||
|Deregulate prices for higher grade<br>fuels (Egypt, India, Indonesia,<br>Malaysia) or certain fuels (diesel in<br>Nigeria)|End subsidies to the rich, who are the<br>main consumers of higher-grade fuels,<br>or end subsidies to less politically<br>sensitive fuels|Various market distortions as a result of<br>growing price differences for similar<br>fuels, fuel switching by users from<br>higher-grade to cheaper fuel,<br>adulteration of higher-grade fuels with<br>subsidized fuels|
|Ration heavily subsidized fuels,<br>charge higher prices outside the<br>quota (kerosene and LPG in India,<br>gasoline and diesel in Iran)|Limit subsidies|Diversion of rationed fuels to black<br>markets or smuggling|
|Set different prices depending on<br>user category (Angola, Argentina,<br>India, Indonesia, Iran, Kazakhstan,<br>Malawi, Malaysia, Nepal, Nigeria,<br>Panama, Russia, Thailand, Tunisia)|Limit subsidies and protect vulnerable<br>groups|Selling the same product at different<br>prices invites corruption, starting with<br>diversion to consumers who are not<br>entitled to the subsidized fuel|
|Shift subsidy from one product to<br>another (kerosene-to-LPG<br>conversion in Indonesia)|Subsidy for one product is eliminated|Could lead to a growing subsidy on the<br>product to which the subsidy is shifted<br>(Indonesia)|
|Set different pricing rules depending<br>on world oil price ($80 and US$130<br>per barrel in China)|Limit subsidies to times of high world<br>prices|Unless price bands are adjusted from<br>time to time, if world prices remain<br>high, subsidies couldgrow|
|Establish the total subsidy envelope<br>for the fiscal year and adjust prices,<br>volume, or both, accordingly|Limit the total subsidy bill|Politically difficult to raise prices when<br>money runs out|
|Ad hoc: No clear rules; prices may<br>be frozen for months or years at a<br>time for one or more fuels (Angola,<br>Bangladesh, Bolivia, Côte d'Ivoire,<br>Egypt, Gabon, India, Indonesia,<br>Islamic Republic of Iran, Iraq,<br>Jordan, Malaysia, Morocco,<br>Mozambique, Nepal, Niger, Nigeria,<br>Syrian Arab Republic, Tunisia,<br>República Bolivariana de<br>Venezuela)|<br>Stable prices between changes|Price changes can be large when<br>adjustments are finally made, and<br>adjustments become synonymous with<br>(large) price increases; tendency to<br>delay price increases; lack of<br>predictability; likelihood of mounting<br>subsidies; politicization of price<br>adjustments; hoarding in response to<br>rumors of imminent price increases and<br>fuel shortages|

_Source_ : Table A1.1 in Kojima (2013).

The size of oil product subsidies can grow to be several percentage points of GDP, particularly in countries with ad hoc pricing. Two recent examples are subsidies of US$11.4 billion for gasoline and kerosene in Nigeria in 2011, amounting to 4.7 percent of GDP, and subsidy of US$22.6 billion for gasoline, diesel, kerosene, and LPG subsidies in Indonesia in 2012, amounting to 2.6 percent of GDP. Particularly in countries with ad hoc pricing, serious efforts to address subsidies are needed: these countries tend to face greater political challenges in reforming subsidies, fiscal outlays supporting subsidies are generally larger, and there tend to be greater market distortions, less transparency, and more commercial malpractice.

Government control of fuel prices requires several decisions before criteria for setting prices can be selected. The first is whether to set price ceilings or price levels. The second is