Central Bank: energy subsidies dented investment in renewables

Malta’s subsidies on electricity and fuel have reduced investment in renewable energies and slowed progress towards climate targets, a Central Bank study has found.

The government started pumping hundreds of millions into subsidising electricity and fuel prices in response to the European energy crisis triggered by Russia’s invasion of Ukraine in 2022.

While finding that the subsidies have been highly effective in absorbing the impact of rising energy prices in 2022 and 2023, the continuation of the subsidies is likely to bring important challenges, the study warns.

Fixed energy prices reduce incentives for energy conservation and slow the transition to renewable energy sources and progress towards Malta’s climate targets, the study says.

It suggests that without the subsidies, “green” investment would have increased by almost 30% by 2022.

A cut in overall energy demand as well as the increase in the share of green energy would have in turn resulted in a drop in greenhouse gasses emitted of around 5% by 2022.

The study says that by stimulating continued demand for imported fossil fuels and limiting price-induced adjustments in consumption, the subsidies have weakened Malta’s trade balance and increased external indebtedness.

On the financial side, the subsidies have put “considerable pressure” on public finances, the study says.

They are estimated to have increased the public-debt-to-GDP ratio, a key government debt metric, by approximately four percentage points by 2024, with further increases should the subsidies continue for a prolonged period.

“From a fiscal perspective, maintaining this policy would require a substantial allocation of public resources, potentially crowding out other priority spending areas,” the study says.

The central bank’s study also assesses potential exit strategies from the subsidies.

A sudden and unannounced termination of subsidies in 2025 would result in a sharp contraction in output and a spike in inflation, disproportionately affecting vulnerable households.

Energy prices would immediately increase by an estimated 13%, the study says.

A more gradual, tapered withdrawal of subsidies between 2025 and 2027 would allow for a smoother transition.

This, however, would depend on the price level of fossil fuels at the time of the announcement, the study cautions.

The tapered approach reduces the economic adjustment burden while still giving consumers and firms time to adapt to rising energy prices, thereby facilitating a more orderly shift toward energy efficiency and green investment, the study says.

Prime Minister Robert Abela has consistently defended the subsidies and has yet to give any indication they will be tapered off.