public support for reform and protects livelihoods of vulnerable households. In this context, ex-ante simulations of FFS reforms have been particularly important in understanding the potential socio-economic consequences of reforms. This in turn has been critical for designing effective social protection and compensation measures alongside FFS reforms. Broadly speaking, such studies on FFS removal have used either econometric approaches or general equilibrium models.

# _2.2. Fossil fuel subsidy reform simulations_

Econometric reform simulations typically focus on changes in household consumption, and are useful for understanding the welfare and distribution effects of FFS reform (Verme and El-Massnaoui, 2015; Rentschler, 2016). Various empirical ex-ante impact assessments of FFS reforms have provided detailed assessments of the welfare impacts of FFS reforms, and highlight the need to provide adequate social protection (e.g., in the form of cash compensation) along with FFS reform (Coady et al., 2010; Zhang, 2011; Anand et al., 2013; Araar et al., 2015; Bah and Saari, 2020)<sup>1</sup> .

Both the IMF and World Bank provide analytical toolkits for the empirical simulation of FFS reforms using household expenditure surveys and input-output models (Verme and El-Massnaoui, 2015; IMF, 2016). The approach taken by these models enables swift and consistent analyses with relatively few data requirements (Rentschler, 2016).

However, as Plante (2014) points out, these models also strongly simplify complex interactions, as they overlook the fiscal policy and general equilibrium perspective on subsidies: These models focus exclusively on the fact that the removal of FFS leads to energy price shocks, which in turn reduce purchasing power and aggregate consumption of households. Thus, FFS removal necessarily and exclusively has negative consequences, while benefits such as reduced deadweight losses or increased economic efficiency are not taken into account. Similarly, general equilibrium effects on key macro-economic parameters cannot be captured in models based on household surveys, including changes in government expenditure, output, and tax revenues.

To address the above mentioned shortcomings, Plante (2014) developed a general equilibrium model aimed at capturing the fiscal policy aspect of FFS reform. It is a standard small open economy model with two sectors, and a single representative household. FFS reductions are balanced in the government’s budget constraint through tax adjustments or lump-sum cash transfer provision. Using this model, it is shown that FFS cause distortions of relative prices, which are identified as the main reason for substantial aggregate welfare losses. Moreover, FFS are shown to aggravate fiscal imbalances, crowd out non-energy consumption, and cause inefficient allocation of labour across sectors, regardless of whether the country is an oil importer or exporter (Plante, 2014).

Several general equilibrium models have followed: Durand-Lasserve et al. (2015) offer an analysis for Indonesia based on the OECD’s ENV-Linkages model, a

> 1For additional empirical impact assessments of FFS reforms, see Jiang et al. (2015) and Ouyang and Lin (2014) for China, and Solaymani and Kari (2014) for Malaysia.

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