Policymakers in Europe are currently faced with the difficult task of reducing our reliance on Russian oil and gas without worsening the situation for firms and households that are struggling with high energy prices. The two options available are either to substitute fossil fuel imports from Russia with imports from other countries and cut energy tax rates to reduce the impacts on firms and household budgets, or to reduce our reliance on fossil fuels entirely by investing heavily in low-carbon energy production. In this policy brief, we argue that policymakers need to also take the climate crisis into account, and avoid making short-term decisions that risk making the low-carbon transition more challenging. The current energy crisis and the climate crisis cannot be treated as two separate issues, as the decisions made today will impact future energy and climate policies. To exemplify how large-scale energy policy reforms may have long-term consequences, we look at historical examples from France, the UK, and Germany, and the lessons we can learn to help guide us in the current situation.
The war in Ukraine and the subsequent sanctions against Russia have led to a sharp increase in energy prices in the EU since the end of February 2022. This price increase came after a year when global energy prices had already surged. For instance, import prices for energy more than doubled in the EU during 2021 due to an unusually cold winter and hot summer, as well as the global economic recovery following the pandemic and multiple supply chain issues. Figure 1 shows that the price of natural gas traded in the European Union has increased steadily since the summer of 2021, with a strong hike in March 2022 following the beginning of the war.
Figure 1. Evolution of EU gas prices, July 2021-May 2022
Concerns about energy dependency, towards Russian gas in particular, are now high on national and EU political agendas. An embargo on imports of Russian oil and gas into the EU is currently discussed, but European governments are worried about the effects on domestic energy prices, and the economic impact and social unrest that could follow. Multiple economic analyses argue, however, that the economic effect in the EU of an embargo on Russian oil and gas would be far from catastrophic, with estimated reductions in GDP ranging from 1.2-2.2 percent. But a reduction in the supply of fossil fuels from Russia would need to be compensated with energy from other sources, and possibly supplemented with demand reductions.
In parallel, on April 4th, the Intergovernmental Panel on Climate Change (IPCC) released a new report on climate change. One chapter analyses different energy scenarios, and finds that all scenarios that are compatible with keeping the global temperature increase below 2°C involve a strong decrease in the use of all fossil fuels (Dhakal et al, 2022). This reduction in fossil fuel usage over the coming decades is illustrated in red in Figure 2.
It is thus important that, while EU countries try to decrease their dependency on Russian fossil fuels and cushion the effect of energy-related price increases, they also accelerate the transition to a low-carbon economy. And how they manage to balance these short- and long-run objectives will depend on the energy policy decisions they make. For instance, if policymakers substitute Russian oil and gas with increased coal usage and new import terminals for LNG, this can lead to a “carbon lock in” and make the low-carbon transition more challenging. In this policy brief, we analyze what lessons can be drawn from past historical events that lead to large-scale structural changes in energy policy. Events that all shaped our current energy systems and conditions for climate policy.
Figure 2. Four energy scenarios compatible with a 2°C temperature increase by 2100.
Structural Changes in Energy Policy in France, the UK, and Germany
We focus on three “energy policy turning points” triggered by three geopolitical, political or environmental crises: the French nuclear plan triggered by the 1973 oil crisis; the UK early closure of coal mines and the subsequent dash for gas in the 1990s, influenced by the election of Margaret Thatcher in 1979; and the German nuclear phase-out triggered by the 2011 Fukushima catastrophe.
In response to the global oil price shock of 1973, France adopted the “Messmer plan”. The aim was to rapidly transition the country away from dependence on imported oil by building enough nuclear capacity to meet all the country’s electricity needs. Two slogans summarised its goals: “all electric, all nuclear”, and “in France, we may not have oil, but we have ideas” (Hecht 2009). The first commissioned plants came online in 1980, and between 1979-1988 the number of reactors in operation in France increased from 16 to 55. As a consequence, the share of nuclear power in the total electricity production rose from 8 to 80 percent, while the share of fossil fuels fell from 65 to 8 percent.
Figure 3. French electricity mix
In the UK, the election of Margaret Thatcher in 1979 opened the way for large market-based reform of the energy sector. Thatcher’s plan to close dozens of coal pits triggered a year-long coal miners’ strike in 1984-85. The ruling Conservative party eventually won against the miners’ unions and the coal industry was deeply restructured, with a decrease in domestic employment – not without social costs (Aragon et al, 2018) – and an increase in coal imports. At the same time, the electricity market’s liberalization in the 1990s facilitated the development of gas infrastructure. As an indirect and unintended consequence, when climate change became a prominent issue at the global level in the 2000s, there was no strong pro-coal coalition left in the UK (Rentier et al, 2019). Aided by a portfolio of policies making coal-fired electricity more expensive – a carbon tax in particular – the coal phase-out was relatively easy and fast (Wilson and Staffel, 2018, Leroutier 2022): between 2012 and 2020, the share of coal in the electricity production dropped from 40 to 2 percent.
In 2011, the Fukushima nuclear catastrophe in Japan triggered an early and unexpected phase-out of nuclear energy in Germany. The 2011 “Energiewende” (energy transition) mandated a phase-out of nuclear power plants by 2022, while including provisions to reduce the share of fossil fuel from over 80 percent in 2011 to 20 percent in 2050. The share of nuclear energy in the electricity production in Germany was halved in a decade, from 22 percent in 2010 to 11 percent in 2020. At the same time, the share of renewable energy increased from 13 to 36 percent, and that of natural gas from 14 to 17 percent.
In these three examples, climate objectives were never the main driver of the decision. Nevertheless, in the case of France and the UK, the crisis resulted in an energy sector that is arguably more low-carbon than it would have been without the crisis. Although the German nuclear phase-out was accompanied by large subsidies to renewable energies, its effect on the energy transition is ambiguous: some argue that the reduction in nuclear electricity production was primarily offset by an increase in coal-fired production (Jarvis et al, 2022).
The three crises also had different consequences in terms of dependence on fossil fuel imports. The French nuclear plan resulted in an arguably lower energy dependency on imported fossil fuels. The closure of coal mines in the UK had ambiguous effects on energy security, with an increase in coal imports and the use of domestic gas from the North Sea. Finally, Germany’s nuclear phase-out, combined with the objective of phasing out coal, has been associated with an increase in the use of fossil fuels from Russia: gas imports remained stable between 2011 and 2020, but the share coming from Russia increased by 60 percent over the period. In 2020, Russia stood for 66 percent of German gas imports (Source: Eurostat). Which brings us back to the current war in Ukraine.
The Current Crisis is Different
The context in which the current energy crisis is unfolding is different from the three above-mentioned events in two important ways.
First, scientific evidence on the relationship between fossil fuel use, CO2 emissions and climate damages has never been clearer: we know quite precisely where the planet is heading if we do not drastically reduce fossil fuel use in the coming decade. From recent research in economics, we also know that price signals work and that increased prices on fossil fuels result in lower demand and emission reductions (Andersson 2019; Colmer et al. 2020; Leroutier 2022). High fuel prices can also have long-term impacts on consumption patterns: US commuters that came of driving age during the oil prices of the 70s, when gasoline prices were high, still drive less today (Severen and van Benthem, 2022). The other way around, low fossil fuel prices have the potential to lock in energy-intensive production: plants that open when electricity and fossil fuel prices are low have been found to consume more energy throughout their lifetime, regardless of current prices (Hawkins-Pierot and Wagner, 2022).
Second, alternatives to fossil fuels have never been cheaper. It is most obvious in the case of electricity production, where technological progress and economies of scale have led to a sharp decrease in the cost of renewable compared to fossil fuel technologies. As shown in Figure 4, between 2010 and 2020 the cost of producing electricity from solar PV has decreased by 85 percent and that of producing electricity from wind by 68 percent. From being the most expensive technologies in 2010, solar PV and wind are now the cheapest. Given the intermittency of these technologies, managing the transition to renewables requires developing electricity storage technologies. Here too, prices are expected to decrease: total installed costs for battery electricity storage systems could decrease by 50 to 60 percent by 2030 according to the International Renewable Agency.
Finding alternatives to fossil fuels has historically been more challenging in the transport sector. However, recent reductions in battery costs, and an increase in the variety of electric vehicles available to customers, have led to EVs taking market share away from gasoline and diesel-powered cars in Europe and elsewhere. The costs of the battery packs that go into electric vehicles have fallen, on average, by 89 percent in real terms from 2010 to 2021.
Figure 4. Evolution of the Mean Levelised Cost of Energy by Technology in the US
Options for Policy-Makers
Faced with a strong increase in fossil fuel prices and an incentive to reduce our reliance on oil and gas from Russia, policy-makers have two options: increase the availability and decrease the price of low-carbon substitutes – by, for example, building more renewable energy capacity and subsidizing electric vehicles – or cut taxes on fossil fuels and increase their supply, both domestically and from other countries.
Governments have pursued both options so far. On the one hand, the Netherlands, the UK, and Italy announced an expansion of wind capacities compared to what was planned, in an attempt to reduce their dependence on Russian gas, and France ended gas heaters subsidies. On the other hand, half of EU member states have cut fuel taxes for a total cost of €9 billion by the end of March 2022, the UK plans to expand oil and gas drilling in the North Sea, and Italy might re-open coal-fired plants.
To guide policymakers faced with the current energy crisis, there are valuable lessons to draw from the experiences of energy policy reform in France, the UK and Germany. France’s push for nuclear energy in the 1970s shows that large-scale structural reform of electricity and heat production is possible and may lead to large drops in CO2 emissions and an economy less dependent on domestic or foreign supplies of fossil fuels. A similar “Messmer plan” could be implemented in the EU today, with the goal of replacing power plants using coal and natural gas with large-scale solar PV parks, wind farms and batteries for storage. Similarly, the German experience shows the potential danger of implementing a policy to alleviate one concern – the risk of nuclear accidents – with the consequence of facing a different concern later on – the dependence on fossil fuel imports.
One additional challenge is that the current energy crisis calls for a short-term response, while investments in low-carbon technologies made today will only deliver in a few years. Short-term energy demand reduction policies can help, on top of long-term energy efficiency measures. For example, a 1°C decrease in the temperature of buildings heated with gas would decrease gas use by 10 billion cubic meters a year in Europe, that is, 7 percent of imports from Russia. Similarly, demand-side policies could reduce oil demand by 6 percent in four months, according to the International Energy Agency.
Ending the reliance on Russian fossil fuels and alleviating energy costs for firms and households is clearly an important objective for policymakers. However, by signing new long-term supply agreements for natural gas and cutting energy taxes, policymakers in the EU may create a carbon lock-in and increase fossil fuel usage by households, thereby making the inevitable low-carbon transition even more difficult. The solutions thus need to take the looming climate crisis into account. For example, any tax relief or increased domestic fossil fuel generation should have a clear time limit; more generally, all policies decided today should be evaluated in terms of their contribution to domestic and European climate objectives. In this way, the current energy crisis is not only a challenge but also a historic opportunity to accelerate the low-carbon transition.
- Andersson, Julius J. 2019. “Carbon Taxes and CO2 Emissions: Sweden as a Case Study.” American Economic Journal: Economic Policy, 11(4): 1-30.
- Aragón, F. M., Rud, J. P., & Toews, G. 2018. “Resource shocks, employment, and gender: Evidence from the collapse of the UK coal industry.” Labour Economics, 52, 54–67. doi: 10.1016/j.labeco.2018.03.007
- Colmer, Jonathan, et al. 2020. “Does pricing carbon mitigate climate change? Firm-level evidence from the European Union emissions trading scheme.” Centre for Economic Performance Discussion Paper, No. 1728, November 2020.
- Dhakal, S., J.C. Minx, F.L. Toth, A. Abdel-Aziz, M.J. Figueroa Meza, K. Hubacek, I.G.C. Jonckheere, Yong-Gun Kim, G.F. Nemet, S. Pachauri, X.C. Tan, T. Wiedmann, 2022: Emissions Trends and Drivers. In IPCC, 2022: Climate Change 2022: Mitigation of Climate Change. Contribution of Working Group III to the Sixth Assessment Report of the Intergovernmental Panel on Climate Change [P.R. Shukla, J. Skea, R. Slade, A. Al Khourdajie, R. van Diemen, D. McCollum, M. Pathak, S. Some, P. Vyas, R. Fradera, M. Belkacemi, A. Hasija, G. Lisboa, S. Luz, J. Malley, (eds.)]. Cambridge University Press, Cambridge, UK and New York, NY, USA. doi: 10.1017/9781009157926.004
- IPCC. 2022. Climate Change 2022: Mitigation of Climate Change. Contribution of Working Group III to the Sixth Assessment Report of the Intergovernmental Panel on Climate Change [P.R. Shukla, J. Skea, R. Slade, A. Al hourdajie, R. van Diemen, D. McCollum, M. Pathak, S. Some, P. Vyas, R. Fradera, M. Belkacemi, A. Hasija, G. Lisboa, S. Luz, J. Malley, (eds.)]. Cambridge University Press, Cambridge, UK and New York, NY, USA. doi: 10.1017/9781009157926
- Hawkins-Pierot, J & Wagner, K. 2022, “Technology Lock-In and Optimal Carbon Pricing,” Working Paper
- Hecht, Gabrielle. 2009. The Radiance of France: Nuclear Power and National Identity after World War II. MIT press.
- Jarvis, S., Deschenes, O., & Jha, A. 2022. “The Private and External Costs of Germany’s Nuclear Phase-Out.” Journal of the European Economic Association, jvac007. doi: 10.1093/jeea/jvac007
- Leroutier, M. 2022. “Carbon pricing and power sector decarbonization: Evidence from the UK.” Journal of Environmental Economics and Management, 111, 102580. doi: 10.1016/j.jeem.2021.102580
- Le Coq, C & Paltseva,E. 2022. “What does the Gas Crisis Reveal About European Energy Security?” FREE Policy Brief
- Rentier, G., Lelieveldt, H., & Kramer, G. J. 2019. “Varieties of coal-fired power phase-out across Europe.” Energy Policy, 132, 620–632. doi: 10.1016/j.enpol.2019.05.042
- Severen, C., & van Benthem, A. A. (2022). “Formative Experiences and the Price of Gasoline.” American Economic Journal: Applied Economics, 14(2), 256–84. doi: 10.1257/app.20200407 :
- Wilson, I.A.G., Staffell, I., 2018. “Rapid fuel switching from coal to natural gas through effective carbon pricing.” Nature Energy 3 (5), 365–372.
Disclaimer: Opinions expressed in policy briefs and other publications are those of the authors; they do not necessarily reflect those of the FREE Network and its research institutes.
The world is currently experiencing what can be labelled as a global energy crisis, with surging prices for oil, coal, and natural gas. For households in Sweden and abroad, this translates into higher gasoline and diesel prices at the pump as well as increased electricity and heating costs. The increase in energy-related costs began in 2021, as the world economy struggled with supply chain issues, and intensified as Russia invaded Ukraine at the end of February this year. In response, the Swedish government announced on March 14th this year that the tax rate on transport fuels would be temporarily reduced by 1.80 SEK per liter (€0.17) and that every car owner would receive a one-off lump-sum transfer of 1000 SEK in compensation (1500 SEK for car owners in rural areas). This reduction in transport fuel tax rates in Sweden is unprecedented. Since 1960, the nominal tax rate on gasoline has only been reduced three times – and then only by very small amounts, ranging from 0.04 to 0.22 SEK per liter. In this policy brief, we put the current gasoline price in Sweden into a historical context and answer two related questions: are Swedish households paying more today for gasoline than ever before? And should policymakers respond by reducing gasoline taxes?
The Price of Gasoline in Sweden
Sweden has a long history of using excise taxes on transport fuel as a means to raise revenue for the government and to correct for environmental externalities. As early as 1924, Sweden introduced an energy tax on the price of gasoline. Later in 1991, this tax was complemented by a carbon tax levied on the carbon content of transport fuels. On top of this, Sweden extended the coverage of its value-added tax (VAT) to include transport fuels in 1990. The VAT rate of 25 percent is applied to all components of the consumer price of gasoline: the production cost, producer margin, and excise taxes (energy and carbon taxes). Before the announced tax cut this year, the combined rate of the energy and carbon tax was 6.82 SEK per liter of gasoline. Adding the VAT that is applied on these taxes, amounting to 1.71 SEK, yields a total excise tax component of 8.53 SEK. This amount is fixed in the short run and does not vary with changes in the oil price.
Figure 1. Gasoline pump price: 2000-2022
Figure 1 shows the monthly average real price of gasoline in Sweden from 2000 to March of 2022. The price has increased over the last 20 years and is today historically high. Going back even further, the price is higher today than at any point since 1960. Swedish households are thus paying more for one liter of gasoline than ever before.
Figure 2. Gasoline expenditure per 100 km
However, a narrow focus on the price at the pump does not take into consideration other factors that affect the cost of personal transportation for households. First, the average fuel efficiency of the vehicle fleet has improved over time. New vehicles sold today in Sweden can drive 50 percent further on a liter of gasoline compared to new vehicles sold in 2000. Arguably, what consumers care about most is not the cost of one liter of gasoline per se but the cost of driving a certain distance – the utility we derive from a car is the distance we can travel. Accounting for the improvement over time in the fuel efficiency of new vehicles (Figure 2), we find that even though it is still comparatively expensive to drive today, the current price level no longer constitutes a historical peak. In fact, the cost of driving 100 km was as high, or higher, in the period from 2000-2008.
Second, any sensible discussion of the cost of personal transportation for households should also factor in changes in household income over time. The average real hourly wage has increased by close to 40 percent between 2000 and 2022. As such, the cost of driving 100 km, measured as a share of household income, has steadily gone down over time. Even more, this pattern is similar across the income distribution; for instance, the cost trajectory of the bottom decile group is similar to that of all employees. This is illustrated in Figure 3. In 1991, when the carbon tax was implemented, an average household had to spend around two-thirds of an hour’s wage to be able to drive a distance of 100 km. By 2020, that same household only had to spend one-third of an hour’s wage to drive the same distance. There is an increase in the cost of driving over the last two years but it is still cheaper today to drive a certain distance, in relation to income, compared to any year before 2012.
Taken all of this together, we have seen that over time, vehicles use fuel more efficiently on the expenditure side, and households earn higher wages on the income side. Based on this, we can conclude that the cost of travelling a certain distance by car is not historically high today. On the contrary, when measured as a share of income, it was 50 percent more expensive for most of the 21st century.
Figure 3. Cost of driving as a share of income
Response From Policymakers
It is, however, of little comfort for households to know that it was more expensive to drive their car – as a share of income – 10 or 20 years ago. We argue that what ultimately matters for the household is the short run change in cost – and the speed of this change. If the cost rises too fast, households cannot adjust their expenditure pattern quickly enough and thus feel that the price increase is unaffordable. And the change in the gasoline price at the pump has been unusually rapid over the last 12 months. From the beginning of 2021 until March of 2022, the pump price has risen by around 50 percent.
So, should policymakers respond by lowering gasoline taxes? The possibly surprising answer is that lowering existing gasoline tax rates would be counter-productive in the medium and long run. Since excise taxes are fixed and do not vary with the oil price, they reduce the volatility of the pump price by cushioning fluctuations in the market price of crude oil. The total excise tax component including VAT constitutes more than half of the pump price in Sweden, a level that is similar across most European countries. This stands in stark contrast with the US, where excise taxes only make up around 15 percent of the consumer price of gasoline. As a consequence, a doubling of the price of crude oil only increases the consumer price of gasoline in Sweden by around 35 percent, but in the US by around 80 percent. Furthermore, households across Sweden, Europe, and the US have adapted to the different levels of gasoline tax rates by purchasing vehicles with different levels of fuel efficiency. New light-duty vehicles sold in Europe are on average 45 percent more fuel-efficient compared to the same vehicle category sold in the US (IEA 2021). As such, US households do not necessarily benefit from lower gasoline taxation in terms of household expenditure on transport fuel and are even more vulnerable to rapid increases in the price of crude oil. Having high gasoline tax rates thus reduces – and not increases – the short run welfare impact on households. Hence, policymakers should resist the temptation to lower gasoline tax rates even during the current energy crisis. In the medium and long run, households would buy vehicles with higher fuel consumption and would be more exposed to price surges in the future, again compelling policymakers to adjust tax rates and creating a downward spiral. Instead, alternative measures should be considered to alleviate the effects of heavy price pressure on low-income households – for instance, revenue recycling of the carbon tax revenue and increased subsidies for public transport.
To reach environmental and climate goals, Sweden urgently needs to phase out the use of fossil fuels in the transport sector, which is Sweden’s largest source of carbon dioxide emissions. This is exactly what a gradual increase of the tax rate on gasoline and diesel would achieve. At the same time, it would benefit consumers by shielding them from the adverse effects of future oil price volatility.
The most common response from policymakers goes in the opposite direction. In Sweden, the Social Democrats – the governing party – have announced a tax cut on gasoline and diesel of 1.80 SEK per liter but the political parties in opposition have promised even larger tax cuts. Some proposals would even effectively abolish the entire energy and carbon tax on gasoline. Similar tax cuts have been announced for example in Belgium, France, the Netherlands, and Germany. Therefore, this time is indeed different – but in terms of the exceptional reactions from policymakers rather than in terms of the cost of gasoline that households face.
- IEA. (2021). “Fuel Consumption of Cars and Vans” Tracking Report, International Energy Agency, November 2021.
- SPBI. (2022). “Svenska Petroleum och Biodrivmedel Institutet: Data Set” SPBI. drivkraftsverige.se/statistik/priser/bensin/
- Statistics Sweden. (2022). “Average hourly wage statistics”. Available: http://www.statistikdatabasen.scb.se
- Trafikverket. (2022). “Vägtrafikens utsläpp 2021” Tech. rep., Swedish Transport Administration, February 7th 2022.
Disclaimer: Opinions expressed in policy briefs and other publications are those of the authors; they do not necessarily reflect those of the FREE Network and its research institutes.
A common presumption in economics is that a carbon tax is regressive – that the tax disproportionately burdens low-income households. However, this presumption originates from early research on carbon taxes that used US data, and little is known about the factors that determine the level of regressivity of carbon taxation across countries. In this policy brief, I explore how differences in income inequality may determine the distribution of carbon tax burden across households in Europe. The results indicate that carbon taxation will be regressive in high-income countries with relatively high levels of inequality, but closer to proportional in middle- and low-income countries and in countries with low levels of income inequality.
Climate change is one of the main challenges facing us today. To reduce emissions of greenhouse gases, and thereby mitigate climate change, economists recommend the use of a carbon tax. The environmental and economic efficiency of carbon taxation is often highlighted, but the equity story is also of importance: who bears the burden of the tax?
How the burden from a carbon tax is shared across households is important since it affects the political acceptability of the tax. For instance, the “Yellow Vests” protests against the French carbon tax started due to concerns that the tax burden is disproportionately large on middle- and working-class households. Research in economics also shows that people prefer a progressive carbon tax (Brännlund and Persson, 2012).
In this brief, I explore what we know about the distributional effects of carbon taxes and analyze the link between carbon tax regressivity and levels of income inequality in theory and in application to Sweden as well as other European countries.
Carbon Tax Burden Across Households
It is a common finding in the economics literature that carbon taxes are, or would be, regressive (Hassett et al., 2008; Grainger and Kolstad, 2010). However, most of the earlier literature is based on US data, and the US is unrepresentative of an average high-income country in terms of variables that are arguably important for carbon tax incidence. Compared to most countries in Europe, income in the US is high but unequally distributed, carbon dioxide emissions per capita are high, the gasoline tax rate is low, and the access to public transport is poor. If we want to understand the likely distributional effects of carbon taxes across Europe, we thus need to look beyond the US studies.
A recent study by Feindt et al. (2020) examines the consumer tax burden from a hypothetical EU-wide carbon tax. They find that the distributional effect at the EU-level is regressive, driven by the high carbon intensity of energy consumption in relatively low-income countries in Eastern Europe. At the national level, however, carbon taxation in Eastern European countries is slightly progressive due to car ownership and transport fuel being luxuries. Conversely, in high-income countries – where transport fuel is a necessity – carbon taxation is slightly regressive.
That the incidence of carbon and gasoline taxation varies across countries with different levels of income, has been found in numerous studies (Sterner, 2012; Sager, 2019). To understand the source of this variation, we need to identify the determinants of the incidence of carbon taxes.
The Role of Income Inequality
In a recent paper, I, together with Giles Atkinson at the London School of Economics, present a simple model where the variation in the carbon tax burden across countries and time can be determined by two parameters: the level of income inequality and the income elasticity of demand for the taxed goods (Andersson and Atkinson, 2020). The income elasticity specifies how the demand for a good, such as gasoline, responds to a change in income. If the budget share decreases as income increase, we refer to gasoline as a necessity. If the budget share increases with income, we refer to gasoline as a luxury good. Our model predicts that rising inequality increases the regressivity of a carbon tax on necessities. Similarly, we will see a more progressive incidence if inequality increases and the taxed good is a luxury.
To mitigate climate change, a carbon tax should be applied to goods responsible for the majority of greenhouse gas emissions: transport fuel, electricity, heating, and food. To estimate the distribution of carbon tax burden, we must then first establish if these goods are necessities or luxuries, respectively. Gasoline is typically found to be a luxury good in low-income countries but a necessity in high-income countries (Dahl, 2012). Food, in the aggregate, is consistently found to be a necessity. A carbon tax on food would, however, mainly increase the price of red meat – beef has a magnitude larger carbon footprint than all other food groups – and red meat is generally a luxury good, even in high-income countries (Gallet, 2010). Lastly, electricity and heating are necessities, with little variation across countries in the level of income elasticities. A broad carbon tax would thus likely be regressive in high-income countries, but more proportional, maybe even progressive, in low-income countries. The overall effect in low-income countries depends on the relative budget shares of transport fuel and meat (luxuries) versus electricity and heating (necessities). A narrow carbon tax on transport fuel has a less ambiguous incidence: it will be regressive in high-income countries where the good is a necessity and proportional to progressive in low-income countries where the good is a luxury.
The income elasticities of demand, however, only provide half of the picture. To understand the degree of regressivity from carbon taxation, we also need to take into account the level of income inequality in a country. Our model predicts that a carbon tax on necessities will be more regressive in countries with relatively high levels of inequality. And increases in inequality over time may turn a proportional tax incidence into a regressive one.
To test our model’s prediction, we analyze the distributional effects of the Swedish carbon tax on transport fuel and examine previous studies of gasoline tax incidence across high-income countries.
Empirical Evidence from Sweden
The Swedish carbon tax was implemented in 1991 at $30 per ton of carbon dioxide and the rate was subsequently increased rather rapidly between 2000-2004. Today, in 2021, the rate is above $130 per ton; the world’s highest carbon tax rate imposed on households. The full tax rate is mainly applied to transport fuel, with around 90 percent of the revenue today coming from gasoline and diesel consumption.
Figure 1. Carbon tax incidence and income inequality in Sweden
Using household-level data on transport fuel expenditures and annual income between 1999-2012, we find that the Swedish carbon tax is increasingly regressive over time, which is highly correlated with an increase in income inequality. Figure 1 shows the strong linear correlation between the incidence of the tax and the level of inequality across our sample period. The progressivity of the tax is measured using the Suits index (Suits, 1977), a summary measure of tax incidence that spans from +1 to -1. Positive (negative) numbers indicate that the tax is overall progressive (regressive) and a proportional tax is given an index of zero. The level of income inequality, in turn, is summarized by the Gini coefficient (0-100), with higher numbers indicating higher levels of inequality.
In 1991, when the Swedish carbon tax was implemented, income inequality was relatively low, with a Gini of 20.8. If we extrapolate, the results presented in Figure 1 indicate that the tax incidence in 1991 was proportional to slightly progressive. Since the early 1990s, however, Sweden has experienced a rise in inequality. Today, the Gini is around 28 and the carbon tax incidence is rather regressive. This can be a potential concern if people start to perceive the distribution of the tax burden as unfair and call for reductions in the tax rate.
Empirical Evidence Across High-Income Countries
Figure 2 presents the results of our analysis of previous studies of gasoline tax incidence across high-income countries. Again, we find a strong correlation with inequality; the higher the level of inequality, the more regressive are gasoline taxes. In the bottom-right corner, we locate the results from studies on gasoline tax incidence that have used US data. The level of inequality in the US has been persistently high, and the widespread assumption that gasoline and carbon taxation is regressive is thus based to a large part on studies of one highly unequal country. Looking across Europe we find that the tax incidence is more varied, with close to a proportional outcome in the (relatively equal) Nordic countries of Denmark and Sweden.
Figure 2. Gasoline tax incidence and income inequality in OECD countries
A carbon tax is economists’ preferred instrument to tackle climate change, but its distributional effect may undermine the political acceptability of the tax. This brief shows that to understand the likely distributional effects of carbon taxation we need to take into account the type of goods that are taxed – necessities or luxuries – and the level and direction of income inequality. Carbon taxation will be closer to proportional in European countries with low levels of inequality, whereas in countries with relatively high levels of inequality the carbon tax incidence will be regressive on necessities and progressive for luxury goods.
This insight may explain why we first saw the introduction of carbon taxes in the Nordic countries. Finland, Sweden, Denmark, and Norway all implemented carbon taxes between 1990-1992, and income inequality was relatively, and historically, low in this region at the time. Policymakers in the Nordic countries thus didn’t need to worry about possibly regressive effects. Looking across Europe today, many of the countries that have relatively low levels of inequality have either already implemented carbon taxes or, due to the size of their economies, have a low share of global emissions. In countries that are responsible for a larger share of global emissions – such as, the UK, Germany, and France – inequality is relatively high, and they may find it to be politically more difficult to implement carbon pricing as the equity argument becomes more salient and provides opportunities for opponents to attack the tax.
To increase the political acceptability and perceived fairness of carbon pricing, policymakers in Europe should consider a policy design that offsets regressive effects by returning the revenue back to households, either by lump-sum transfers or by reducing tax rates on labor income.
- Andersson, Julius and Giles Atkinson. 2020. “The Distributional Effects of a Carbon Tax: The Role of Income Inequality.” Grantham Research Institute on Climate Change and the Environment Working Paper 349. London School of Economics.
- Brännlund, Runar and Lars Persson. 2012. “To tax, or not to tax: preferences for climate policy attributes.” Climate Policy 12 (6): 704-721.
- Dahl, Carol A. 2012. “Measuring global gasoline and diesel price and income elasticities.” Energy Policy 41: 2-13.
- Feindt, Simon, et al. 2020. “Understanding Regressivity: Challenges and Opportunities of European Carbon Pricing.” SSRN 3703833.
- Gallet, Craig A. 2010. “The income elasticity of meat: a meta-analysis.” Australian Journal of Agricultural and Resource Economics 54(4): 477-490.
- Grainger, Corbett A and Charles D Kolstad. 2010. “Who pays a price on carbon?” Environmental and Resource Economics 46(3): 359-376.
- Hassett, Kevin A, Aparna Mathur, and Gilbert E Metcalf. 2009. “The consumer burden of a carbon tax on gasoline.” American Enterprise Institute, Working Paper.
- Sager, Lutz. 2019. “The global consumer incidence of carbon pricing: evidence from trade.” Grantham Research Institute on Climate Change and the Environment Working Paper 320. London School of Economics.
- Thomas, Sterner. 2012. Fuel taxes and the poor: the distributional effects of gasoline taxation and their implications for climate policy. Routledge.
- Suits, Daniel B. 1977. “Measurement of tax progressivity.” American Economic Review 67(4): 747-752.
Disclaimer: Opinions expressed in policy briefs and other publications are those of the authors; they do not necessarily reflect those of the FREE Network and its research institutes.
As the dramatic consequences of climate change are starting to unfold, addressing the intermittency of low-carbon energy sources, such as solar and wind, is crucial. The obvious solution to intermittency is energy storage. However, its constraints and implications are far from trivial. Developing and facilitating energy storage is associated with technological difficulties as well as economic and regulatory problems that need to be addressed to spur investments and foster competition. With these issues in mind, the annual Energy Talk, organized by the Stockholm Institute of Transition Economics, invited three experts to discuss the challenges and opportunities of energy storage.
The intermittency of renewable energy sources poses one of the main challenges in the race against climate change. As the balance between electricity supply and demand must be maintained at all times, a critical step in decarbonizing the global energy sector is to enhance energy storage capacity to compensate for intermittent renewables.
Storage systems create opportunities for new entrants as well as established players in the wind and solar industry. But they also present challenges, particularly in terms of investment and economic impact.
Transitioning towards renewables, adopting green technologies, and developing energy storage can be particularly difficult for emerging economies. Some countries may be forced to clean a carbon-intensive power sector at the expense of economic progress.
The 2021 edition of Energy Talk – an annual seminar organized by the Stockholm Institute of Transition Economics – invited three international experts to discuss the challenges and opportunities of energy storage from a variety of academic and regulatory perspectives. This brief summarizes the main points of the discussion.
A TSO’s Perspective
Niclas Damsgaard, the Chief strategist at Svenska kraftnät, gave a brief overview of the situation from a transmission system operator’s (TSO’s) viewpoint. He highlighted several reasons for a faster, larger-scale, and more variable development of energy storage. For starters, the green transition implies that we are moving towards a power system that requires the supply of electricity to follow the demand to a much larger extent. The fact that the availability of renewable energy is not constant over time makes it crucial to save power when the need for electricity is low and discharge it when demand is high. However, the development and facilitation of energy storage will not happen overnight, and substantial measures on the demand side are also needed to ensure a more dynamic energy system. Indeed, Damsgaard emphasized that demand flexibility constitutes a necessary element in the current decarbonization process. However, with the long-run electrification of the economy (particularly driven by the transition of the transport industry), extensive energy storage will be a necessary complement to demand flexibility.
It is worth mentioning that such electrification is likely to create not only adaptation challenges but also opportunities for the energy systems. For example, the current dramatic decrease in battery costs (around 90% between 2010 and 2020) is, to a significant extent, associated with an increased adoption of electric vehicles.
However, even such a drastic decline in prices may still fall short of fully facilitating the new realities of the fast-changing energy sector. One of the new challenges is the possibility to store energy for extended periods of time, for example, to benefit from the differences in energy demand across months or seasons. Lithium-ion batteries, the dominant battery technology today, work well to store for a few hours or days, but not for longer storage, as such batteries self-discharge over time. Hence, to ensure sufficient long-term storage, more batteries would be needed and the associated cost would be too high, despite the above-mentioned price decrease. Alternative technological solutions may be necessary to resolve this problem.
Energy Storage and Market Structure
As emphasized above, energy storage facilitates the integration of renewables into the power market, reduces the overall cost of generating electricity, and limits carbon-based backup capacities required for the security of supply, creating massive gains for society. However, because the technological costs are still high, it is unclear whether the current economic environment will induce efficient storage. In particular, does the market provide optimal incentives for investment, or is there a need for regulations to ensure this?
Natalia Fabra, Professor of Economics and Head of EnergyEcoLab at Universidad Carlos III de Madrid, shared insights from her (and co-author’s) recent paper that addresses these questions. The paper studies how firms’ incentives to operate and invest in energy storage change when firms in storage and/or production have market power.
Fabra argued that storage pricing depends on how decisions about the storage investment and generation are allocated between the regulator and the firms operating in the storage and generation markets. Comparing different market structures, she showed as market power increases, the aggregate welfare and the consumer surplus decline. Still, even at the highest level of market concentration, an integrated storage-generation monopolist firm, society and consumers are better off than without energy storage.
Fabra’s model also predicts that market power is likely to result in inefficient storage investment.
If the storage market is competitive, firms maximize profits by storing energy when the prices are low and releasing when the prices are high. The free entry condition implies that there are investments in storage capacity as long as the marginal benefit of storage investment is higher than the marginal cost of adding an additional unit of storage. But this precisely reflects the societal gains from storage; so, the competitive market will replicate the regulator solution, and there are no investment distortions.
If there is market power in either generation or storage markets, or both, the investment is no longer efficient. Under market power in generation and perfectly competitive storage, power generating firms will have the incentive to supply less electricity when demand is high and thereby increase the price. As a result, the induced price volatility will inflate arbitrage profits for competitive storage firms, potentially leading to overinvestment.
If the model features a monopolist storage firm interacting with a perfectly competitive power generation market, the effect is reversed. The firm internalizes the price it either buys or sells energy, so profit maximization makes it buy and sell less energy than it would in a competitive market, in the exact same manner as the classical monopolist/monopsonist does. This underutilization of storage leads to underinvestment.
If the model considers a vertically integrated (VI) generation-storage firm with market power in both sectors, the incentives to invest are further weakened: the above-mentioned storage monopolist distortion is exacerbated as storage undermines profits from generation.
Using data on the Spanish electricity market, the study also demonstrated that investments in renewables and storage have a complementary relationship. While storage increases renewables’ profitability by reducing the energy wasted when the availability is excess, renewables increase arbitrage profits due to increased volatility in the price.
In summary, Fabra’s presentation highlighted that the benefits of storage depend significantly on the market power and the ownership structure of storage. Typically, market power in production leads to higher volatility in prices across demand levels; in turn, storage monopolist creates productive inefficiencies, two situations that ultimately translate into higher prices for consumers and a sub-optimal level of investment.
Governments aiming to facilitate the incentives to invest in the energy storage sector should therefore carefully consider the economic and regulatory context of their respective countries, while keeping in mind that an imperfect storage market is better than none at all.
The Russian Context
The last part of the event was devoted to the green transition and the energy storage issue in Eastern Europe, with a specific focus on Russia.
Alexey Khokhlov, Head of the Electric Power Sector at the Energy Center of Moscow School of Management, SKOLKOVO, gave context to Russia’s energy storage issues and prospects. While making up for 3% of global GDP, Russia stands for 10% of the worldwide energy production, which arguably makes it one of the major actors in the global power sector (Global and Russian Energy Outlook, 2016). The country has a unified power system (UPS) interconnected by seven regional facilities constituting 880 powerplants. The system is highly centralized and covers nearly the whole country except for more remote regions in the northeast of Russia, which rely on independent energy systems. The energy production of the UPS is strongly dominated by thermal (59.27%) followed by nuclear (20.60%), hydro (19.81%), wind (0.19%), and solar energy (0.13%). The corresponding ranking in capacity is similar to that of production, except the share of hydro-storage is almost twice as high as nuclear. The percentage of solar and wind of the total energy balance is insignificant
Despite the deterring factors mentioned above, Khokhlov described how the Russian energy sector is transitioning, though at a slow pace, from the traditional centralized carbon-based system towards renewables and distributed energy resources (DER). Specifically, the production of renewables has increased 12-fold over the last five years. The government is exploring the possibilities of expanding as well as integrating already existing (originally industrial) microgrids that generate, store, and load energy, independent from the main grid. These types of small-scaled facilities typically employ a mix of energy sources, although the ones currently installed in Russia are dominated by natural gas. A primary reason for utilizing such localized systems would be for Russia to improve the energy system efficiency. Conventional power systems require extra energy to transmit power across distances. Microgrids, along with other DER’s, do not only offer better opportunities to expand the production of renewables, but their ability to operate autonomously can also help mitigate the pressure on the main grid, reducing the risk for black-outs and raising the feasibility to meet large-scale electrification in the future.
Although decarbonization does not currently seem to be on the top of Russia’s priority list, their plans to decentralize the energy sector on top of the changes in global demand for fossil fuels opens up possibilities to establish a low-carbon energy sector with storage technologies. Russia is currently exploring different technological solutions to the latter. In particular, in 2021, Russia plans to unveil a state-of-the-art solid-mass gravity storage system in Novosibirisk. Other recently commissioned solutions include photovoltaic and hybrid powerplants with integrated energy storage.
There is no doubt that decarbonization of the global energy system, and the role of energy storage, are key in mitigating climate change. However, the webinar highlighted that the challenges of implementing and investing in storage are both vast and heterogenous. Adequate regulation and, potentially, further government involvement is needed to correctly shape incentives for the market participants and get the industry going.
On behalf of the Stockholm Institute of Transition Economics, we would like to thank Niclas Damsgaard, Natalia Fabra, and Alexey Khokhlov for participating in this year’s Energy Talk. The material presented at the webinar can be found here.
The COVID-19 pandemic has drawn attention to a pre-existing threat to global health: the quality of air in cities around the world. Prolonged exposure to air pollution has been found to increase the mortality rate of COVID-19. This is a particular concern for much of Eastern Europe, where emissions regularly exceed safe levels. This policy brief analyses recent data on air quality in the region and the factors that explain a persistent East-West divide in pollution in Europe. It concludes by evaluating to what extent lockdowns in 2020 provided a temporary respite from pollution in the region.
The WHO estimates that air pollution causes seven million premature deaths every year (WHO 2018). COVID-19 has further amplified these health risks, as air pollution can increase both the chance of catching respiratory diseases and their severity. At the same time, the pandemic has resulted in lockdowns and a general slowdown in economic activity which are widely perceived as having led to a temporary improvement in air quality.
This brief provides an overview of recent trends in air quality in Eastern European cities using data from the World Air Quality Index. It addresses three questions:
- How did air pollution in Eastern Europe compare to Western Europe prior to the pandemic?
- What are the main sources of air pollution in Eastern European cities and can they be addressed by policymakers?
- Was there a significant improvement in air quality in 2020 as a result of COVID-19?
Air Pollution in Eastern Europe
Most measures of air quality in Europe show a stark East-West divide. Map 1 plots the share of days in 2019 where air pollution, as measured by PM 2.5 (fine particulate matter), exceeded levels classified as unhealthy for the general population. On average, cities to the east of the former Iron Curtain experienced over 100 such days, compared to an average of 20 days in Western Europe. These averages mask significant variation within both regions; Tallinn was among the best performing cities while Naples was among the worst.
The gap in air quality between Eastern and Western Europe has been linked to differences in health outcomes for decades. Shortly after the fall of the Soviet Union, Bobak and Feachem (1995) found that air pollution accounted for a significant share of the Czech Republic and Poland’s mortality gap with respect to Western Europe. The European Environment Agency’s 2020 report provides estimates for ‘years of life lost’ attributable to different pollutants. Figure 1, which plots these estimates for PM 2.5, highlights the fact that Eastern European countries, in particular those in the Balkans, continue to experience significantly higher mortality related to pollution, as compared to their Western European counterparts.
Sources of Air Pollution
A number of factors contribute to the pattern of pollution shown on Map 1, not all of which are under policymakers’ direct control. For example, two of the cities on the map with the unhealthiest air – Sarajevo and Skopje – are surrounded by mountains that prevent emissions from dissipating.
In addition to immutable geographic factors, policies elsewhere may also be contributing to pollution in the region. Stricter regulations in Western Europe can have adverse effects if they result in polluting industries migrating eastwards. Bagayev and Lochard (2017) show that as EU countries adopt new air pollution regulations, the share of their imports from Eastern Europe and Central Asia in pollution-intensive sectors increases. Stricter rules can also result in outdated technology being exported to other countries. A Transport & Environment report found that over 30,000 high-emission diesel cars were exported from Western Europe to Bulgaria in 2017 and argued that such flows will continue as Western European cities impose Low Emission Zones and diesel bans (Transport & Environment 2018).
Power generation, and in particular coal power, is likely to be the single most important determinant of the gap in air quality between Eastern and Western European cities. Coal power accounts for over 60% of electricity production in Poland, Serbia, Bosnia Herzegovina, and North Macedonia, and remains an important energy source in the majority of Eastern European countries (BP 2020). Many of the coal power plants in the region have been operating for decades and are not equipped with modern desulphurisation technology that would help to reduce their emissions. A report by the Health and Environment Alliance found that 16 coal power plants in the Western Balkans collectively produce more emissions than the 250 power plants in the European Union, while only being able to generate 6% of the power (Matkovic Puljic et al. 2019).
Countries in the region are taking steps to reduce their dependence on coal power. In September 2020, the Polish government struck an agreement with labour unions that would see coal phased out by 2049. Coal accounts for 75% of Poland’s current electricity and Map 1 shows that air in the Upper Silesian Coal Basin, in the south of the country, is particularly polluted. Despite such commitments, Western European countries have in recent years been faster at transitioning away from coal. If this trend continues, the gap in air quality may even increase in the short run.
Did COVID-19 Improve Air Quality?
Last spring, a number of headlines from around the world featured the phrase “A breath of fresh air” (e.g. Reuters, The Economic Times, EUIdeas). These articles described measurable improvements in air quality in cities with government-mandated lockdowns. Recent academic publications have confirmed these reports in a variety of settings including the US (Berman and Ebisu 2020), China (Chen et al. 2020), and Korea (Ju et al. 2020).
While Eastern Europe was less affected by the initial wave of COVID-19 than Western Europe, most countries imposed lockdowns and social distancing measures that can be expected to have affected air quality. Figure 2 uses daily data from the World Air Quality Index for 221 European cities to compare average air pollution in 2020 to 2019. Overall, these plots suggest that air quality did improve in Eastern European cities relative to the previous year. However, not all types of pollutants declined and the declines are slightly smaller on average than in Western European cities. Panels A, B, and C plot air quality indices for fine particulate matter (PM 2.5), nitrogen dioxide (NO2), and sulfur dioxide (SO2) respectively. Dots below the line represent cities where the average air quality index was lower (indicating less pollution) in 2020 than in 2019. The declines are largest for NO2 – a gas that is formed when fuel is burned. The reduction in traffic and transportation in all European cities is likely to have contributed to this drop. By contrast, there were no statistically significant declines in SO2. This may be due to the fact that power generation, which is the source of most SO2 emissions, was less affected by lockdowns than transportation.
Source: Author’s calculations based on the World Air Quality Index COVID-19 dataset. Each marker represents a city. Markers below the 45-degree line represent cities where emissions for the respective category of pollutant were lower in 2020 than in 2019. For reasons of presentation, outliers were excluded from panels B and C.
The variation in COVID-19 prevalence over the course of 2020 is visible when tracking pollution over time. Figure 3 shows that average daily NO2 emissions in Western European cities dropped most from March to June of 2020, during the first wave of the pandemic. NO2 levels were comparable to the previous year in July and August when case numbers fell and restrictions were lifted. In the last months of the year, as the second wave hit, NO2 emissions once more dropped below the previous year’s average. This pattern is similar for Eastern European cities but the decline in NO2 in the first half of the year is less pronounced.
The COVID-19 epidemic has highlighted the health costs of air pollution. The preliminary evidence suggests that long-term exposure to pollution increased COVID-19 mortality rates (Cole et al. 2020, Wu et al. 2020). This is a particular concern for countries across Eastern Europe which – at the time of writing – are still grappling with the second wave of the pandemic in Europe. Many people in this region have been exposed to polluted air for decades.
The pandemic has also demonstrated that air quality can improve relatively quickly when human behaviour changes. The data described in this brief suggest that Eastern Europe was no exception in this regard, although the declines were confined to some categories of pollutants. Achieving a more general, and sustained improvement in air quality will require a shift from coal power towards cleaner forms of energy.
Stimulus packages aimed at a post-pandemic economic recovery can provide an opportunity for policy to reorient the economy and accelerate such a shift. The consultancy Vivid Economics, which rated G20 member countries’ proposed stimulus packages in terms of their environmental impact, found that the ‘greenest’ stimulus proposals are those of the European Commission, France, UK, and Germany. Russia is one of the worst performers on this index (Vivid Economics 2020). Whether governments in Eastern Europe are able to take advantage of this opportunity will depend on their respective fiscal space and whether they make improving air quality a priority.
- Bagayev, Igor, and Julie Lochard, 2017. “EU air pollution regulation: A breath of fresh air for Eastern European polluting industries?.” Journal of Environmental Economics and Management 83: 145-163.
- Berman, Jesse D., and Keita Ebisu. 2020 “Changes in US air pollution during the COVID-19 pandemic.” Science of the Total Environment 739: 139864.
- BP 2020 “Statistical Review of World Energy – all data, 1965-2019“
- Bobak, Martin, and Richard GA Feachem. 1995. “Air pollution and mortality in central and eastern Europe: an estimate of the impact.” The European Journal of Public Health , no. 2: 82-86.
- Cole, Matthew, Ceren Ozgen, and Eric Strobl, 2020. “Air pollution exposure and COVID-19.”.
- Chen, Kai, Meng Wang, Conghong Huang, Patrick L. Kinney, and Paul T. Anastas, 2020. “Air pollution reduction and mortality benefit during the COVID-19 outbreak in China.” The Lancet Planetary Health 4, no. 6: e210-e212.
- European Environment Agency 2020. “Air Quality in Europe – 2020 report“, EEA Report No 9/2020
- Matkovic Puljic, V., D. Jones, C. Moore, L. Myllyvirta, R. Gierens, I. Kalaba, I. Ciuta, P. Gallop, and S. Risteska. 2019. “Chronic coal pollution–EU action on the Western Balkans will improve health and economies across Europe.” HEAL, CAN Europe, Sandbag, CEE Bankwatch Network and Europe Beyond Coal, Brussels.
- Ju, Min Jae, Jaehyun Oh, and Yoon-Hyeong Choi. 2020. “Changes in air pollution levels after COVID-19 outbreak in Korea.” Science of The Total Environment 750: 141521.
- Transport & Environment, 2018. “Briefing: Dirty diesels heading east”
- Vivid Economics, 2020. “Greenness of Stimulus Index” December 2020 update
- World Air Quality Index, 2021. “Worldwide COVID-19 dataset“
- World Health Organization, 2018. “WHO Global Ambient Air Quality Database (update May 2018)”
- Wu, Xiao, Rachel C. Nethery, Benjamin M. Sabath, Danielle Braun, and Francesca Dominici, 2020. “Exposure to air pollution and COVID-19 mortality in the United States.” medRxiv
Oil has for decades been perceived as a necessary and highly addictive energy commodity, fueling the world economy. It is a crucial input good for most of the net-oil consumer countries, and it is an important source of revenue for the net-oil supplier countries. This means that any changes in the oil price will affect the entire world economy. However, the extent to which the oil-price fluctuations matter for the economy depends on the perspective (e.g. whether it is that of the macro economy, international trade, firm strategies, or the climate economy). In this policy brief, we outline the answers to this question that were provided at the 9th SITE Energy Day, held at the Stockholm School of Economics on November 5, 2015.