A:

In order to make the price of oil more affordable to its citizens, governments sometimes provide subsidies, which can allow the price of oil to remain fixed below free floating market rates. For example, in May 2008, Venezuela was heavily subsidizing oil, allowing its citizens to only pay $0.05 per liter, whereas most Western countries pay costs in excess of $1 per liter (or $3.80 per gallon). However, if oil prices increase, countries that heavily subsidize oil prices may suffer, because the cost of the subsidies will start consuming ever-larger amounts their budgets. This could lead to money being taken away from other areas of public funding, such as social programs and infrastructure.

Similarly, this effect will be magnified by the fact that the demand for oil in these countries will tend to remain stable, or even grow, because the lack of change in fuel costs fails to provide any incentive for citizens to reduce their consumption. Eventually, the government will have no choice but to slowly remove the subsidy in order slowly lessen the public's demand for fuel, although doing so is likely to result in some civil unrest.

On a global scale, many of the countries that use subsidies are emerging countries, which need the cheap fuel to power their fledgling industries. However, if these subsidies are still in place over the long term, the price of fuel will grow even higher as the hunger for subsidized fuel grows in emerging countries, regardless on how much demand for fuel drops in Western countries.

For related reading, check out Why You Can't Influence Gas Prices and Getting A Grip On The Cost Of Gas.

RELATED FAQS
  1. How are subsidies justifiable in a free market system?

    Learn some of the arguments in favor of or against providing subsidies in a market economy, including economic and political ... Read Answer >>
  2. How does a government decide what industries to subsidize?

    Learn about the political, economic and developmental arguments in favor of providing public subsidies to industries. Read Answer >>
  3. How does the price of oil affect Venezuela's economy?

    Learn how the price of oil has a direct relationship with Venezuela's economy. High oil prices result in good times for the ... Read Answer >>
  4. How do government subsidies affect the profitability of the airline industry?

    Read about the history of government subsidies to American airline companies since 1918, and why it benefits large companies ... Read Answer >>
  5. What are the ethical arguments against government subsidies to companies like Tesla?

    Learn about the ethical argument behind government subsidies. Read Answer >>
Related Articles
  1. Insights

    Who Wins With Low Energy Prices? 

    Low oil prices are here to stay for some time. Which economies will benefit or lose from the low oil price regime?
  2. Small Business

    Government Subsidies For Business

    Many industries rely on government assistance in both good times and bad. What are the benefits of these programs, and how do they impact the consumer?
  3. Investing

    Who is Most Affected by Lower Oil Prices?

    With low oil prices affecting just about everyone, from citizens to corporations to entire nations, we look at who wins and who loses with the price drop.
  4. Investing

    How Does Crude Oil Affect Gas Prices?

    Find out how this commodity's fluctuating price affects more than just how much you pay at the pump.
  5. Investing

    What We Learned From The Last Oil Shock

    The last oil shock in the 1970s carries some valuable lessons for consumers facing a repeat today.
  6. Investing

    Venezuela Economics: 4 Reasons Why This Country May Go Under

    Find out the reasons behind Venezuela's economic woes and why many economists believe it is headed for collapse in the coming year.
  7. Investing

    How Oil Prices Impact the U.S. Economy

    Now that the United States has increased oil production through shale oil and fracking, low oil prices can harm the U.S. oil industry and its workers.
  8. Investing

    Not All Oil Economies Are Created Equal

    One would think that any nation with oil would have a populace rolling in money, but that's not the case. So how does oil influence a country's economy?
  9. Investing

    Impact of Low Oil Prices on Oil Sellers and Buyers

    The impact of the fall in oil prices globally is nuanced due to the complex economies of some countries --some of which are both oil producers and buyers.
  10. Investing

    Can a Venezuela Revolt Impact Oil Prices?

    How a social crisis in Venezuela could affect West Texas Intermediate crude oil and Brent crude oil prices.
RELATED TERMS
  1. Subsidy

    A benefit given by the government to groups or individuals usually ...
  2. Crude Oil

    Crude oil is a naturally occurring, unrefined petroleum product ...
  3. Alien

    Any person who is not a citizen of the country in which he or ...
  4. Macroeconomic Stabilization Fund - FEM

    A reserve fund established by the country of Venezuela. Also ...
  5. Green Chip Stocks

    Shares of companies whose primary business is beneficial to the ...
  6. Oil ETF

    A category of exchange-traded funds that invest in companies ...
Hot Definitions
  1. Sharpe Ratio

    The Sharpe Ratio is a measure for calculating risk-adjusted return, and this ratio has become the industry standard for such ...
  2. Death Taxes

    Taxes imposed by the federal and/or state government on someone's estate upon their death. These taxes are levied on the ...
  3. Retained Earnings

    Retained earnings is the percentage of net earnings not paid out as dividends, but retained by the company to be reinvested ...
  4. Demand Elasticity

    In economics, the demand elasticity refers to how sensitive the demand for a good is to changes in other economic variables. ...
  5. Dark Pool

    A dark pool is a private financial forum or exchange for trading securities.
  6. Quadruple Witching

    The expiration date of various stock index futures, stock index options, stock options and single stock futures. All stock ...
Trading Center