How does administrative pricing affect energy consumption and CO2 emissions in China?

Despite reforms, China still largely applies the cost plus pricing mechanism for the energy sector. Government administrative energy pricing leads to energy price distortions, which could result in not only the excessive and wasteful energy consumption, but also environmental deterioration, thereby undermining energy conservation and emission abatement. Using fossil-fuel subsidies as a proxy for the level of energy price distortions, this paper estimates the subsidy of 22 Chinese departments during the period 2006-2010, and adopts the price-gap approach to analyze the impacts of subsidy removal on energy consumption and CO2 emissions for the various sectors and energy types. The results demonstrate that removing energy subsidies would reduce energy consumption and emissions by 3.77% and 2.85%, respectively, but the effects vary across sectors. The transport, storage and post sector and the electricity, gas and water supply sector are much more affected by energy subsidies removal than other sectors. With respect to energy types, fuel oil and natural gas are sensitive to subsidies, indicating the magnitude of their consumption. This suggests that removing subsidies on these fuel types could significantly reduce CO2 emissions. Finally, we comprehensively discuss relevant policy issues on energy price formation reform.