To learn more, join the 8th GLF Investment Case Symposium on 18 November.

We all know by now that regenerative practices are critical to preserving life as we know it. So, why are we making so little progress towards our global climate and biodiversity goals?

Ask the experts, and they’ll usually mention environmentally harmful subsidies. But what exactly are these subsidies, and how might we reform them to support the large-scale economic changes that we need?

What is a subsidy?

A subsidy is when a government funds, under-taxes or otherwise supports certain economic activities, often for strategic reasons.

For instance, a government might guarantee farmers a minimum price on their products to encourage them to continue farming even when market prices are low – thus bolstering food and job security in the area.

This kind of subsidy is often called a ‘direct’ or ‘explicit’ subsidy.

But sometimes, when governments don’t take action, it can also be considered an ‘implicit’ or ‘indirect’ subsidy if that inaction benefits certain groups while costing others, or even the country or planet as a whole.

For example, a government might allow a highly-polluting industry to operate within its jurisdiction without taking measures to clean up its mess.

Indirect subsidies can be difficult to quantify, especially in a globalized context where impacts can be felt far away from the places where the subsidies are applied.

While subsidies are usually designed with positive intentions, they can also have negative impacts like these, which can make it more economically viable for people and companies to do things that harm the environment.

Take another example: it usually costs farmers to extract water from rivers and underground aquifers to irrigate crops. The scarcer the water becomes, the more costly it is to use. But when a government provides that water for free, even if it’s done to help farmers grow more food, people are more likely to overexploit it.

Right now, environmentally harmful subsidies amount to some USD 2.6 trillion annually – far higher than rich countries have promised the Global South to support biodiversity (USD 30 billion by 2030) and the climate (USD 300 billion per year by 2035).

“Every year, we spend trillions actively harming the environment, including our precious forests,” wrote Robert Nasi, director of science at CIFOR-ICRAF, in a recent op-ed on the topic.

“The real challenge, and indeed the greatest opportunity, isn’t just finding more money for nature – it’s stopping the financial nonsense that fuels its destruction.”

Why it’s time to phase out agrochemical and fossil fuel subsidies

Two of the most common subsidies are also two of the most environmentally harmful: those on agrochemicals and fossil fuels.

While agrochemical subsidies are designed to boost food production in the short term, those on fossil fuels are aimed at keeping often volatile energy prices under control.

Agrochemicals, including nitrogen-based fertilizers, pesticides and herbicides, currently make up a large proportion of the more than USD 635 billion given out globally in direct subsidies for agriculture every year.

These inputs are mostly made from fossil fuels and produced using extremely energy-intensive processes.

They’re currently responsible for around 5 percent of global greenhouse gas emissions, and they “keep our food systems locked in to incredibly volatile international fossil fuel markets,” says Claire McConnell, a policy advisor for food and agriculture at the International Institute for Sustainable Development (IISD).

“As long as our food systems are tied to fossil fuel markets, we are extremely vulnerable to food price shocks when the price of fossil energies increases or supply is limited, which we saw in 2022 after Russia invaded Ukraine.”

“The impacts on our climate, environment and on human health are also stark,” continues McConnell, who co-authored a recent IISD report on reforming harmful subsidies.

“Both producing and using chemical fertilizers contribute to climate change by releasing greenhouse gases, and fertilizer runoff and air pollution also negatively impact both water and air quality, increasing the risk of certain illnesses.”

Similarly, the fossil fuel industry received USD 577 billion in direct subsidies in 2021. If indirect subsidies are also accounted for, that figure grows to around USD 7 trillion, or 7.1 percent of global GDP, in 2022, according to the International Monetary Fund (IMF).

Making these fuels artificially cheap “stimulate[s] increased demand and supply of oil, gas and coal,” says the IISD report.

“This results not only in local pollution but also greenhouse gas emissions, which drive climate change and thus affect everyone, everywhere.”

How should we repurpose harmful subsidies?

Considering these figures, it’s no wonder climate action has been so painstakingly slow.

To put the cash in context: countries currently spend an average of six times more on fossil fuel subsidies than their Paris Agreement pledges for renewable energy and decarbonization.

“If we could repurpose the trillions of dollars being spent on wasteful subsidies and put these to better, greener uses, we could together address many of the planet’s most pressing challenges,” said Axel van Trotsenburg, senior managing director of the World Bank, in a press release on a 2023 report on the topic.

Without subsidies, fuel prices would rise to fully efficient levels – that is, they would account for not only the cost of production but also the environmental costs of emissions and any general consumption tax.

According to the IMF, this would reduce CO2 emissions from fossil fuels by 43 percent from baseline levels by 2030 – putting it on track with what’s required to limit global heating to the Paris Agreement goal of 1.5 to 2 degrees Celsius.

But shifting subsidies is no easy task.

“Much is already known about best practices for subsidy reform, but implementing these practices is no easy feat due to entrenched interests, challenging political dynamics, and other barriers,” said Richard Damania, chief economist at the World Bank’s Sustainable Development Practice Group, in the same 2023 press release.

Moreover, axing subsidies quickly and completely could lead to a deeply unjust transition.

“In many parts of the world, particularly in low-income countries, we actually need more government spending on food and agriculture,” says McConnell.

“And in many countries, the removal of agricultural subsidies would be deeply unpopular and face widespread opposition. The sudden removal of agricultural subsidies risks undermining rural livelihoods and farmer incomes, as well as risk triggering food shortages and price hikes.”

Instead, she says, it makes sense to ask critical questions of the subsidies currently in place.

“How can we identify which subsidies are currently resulting in environmental harm, what regenerative practices can deliver better outcomes in a given context, and how can we begin to reorient subsidies to deliver benefits without the negative side effects?”

Some governments, McConnell explains, are “moving away from subsidies tied to the amount of land farmed or the number of crops grown and are instead making payments to farmers for improving the services nature provides.”

Costa Rica’s payments for ecosystem services program, for example, rewards farmers for forest conservation and has contributed towards a dramatic increase in the country’s forest cover – from less than 30 percent in the 1980s to 54 percent today.

In other geographies, she notes, it might make sense to focus more on things like training or extension services.

A just transition for subsidies

It’ll be crucial to phase out subsidies in a just way – that is, in a manner that takes into account the very real impact of changing policies on livelihoods and cultures.

That will in turn require careful collaboration and orchestration across countries and commodities.

For instance, the IISD report states, “governments may be reluctant to eliminate [agrochemical] subsidies unilaterally for fear that their farmers will be unable to compete with subsidized producers in other countries and that rural livelihoods will, therefore, be threatened.”

But if agrochemical subsidies are phased out simultaneously worldwide, national and local actors can feel more confident about the change.

Subsidy reform also requires careful monitoring to make sure that the changes are not incentivizing other kinds of environmental or social damage.

Between 2009 and 2020, the European Union adopted a renewable energy policy that incentivized its member states to promote the use of biofuels, including through subsidies.

Researchers found that this policy increased demand for palm oil and soybeans across several tropical forest countries, resulting in the deforestation of an area the size of the Netherlands during this period.

Globally, all of the crops used for biofuel production in 2022 could have instead been used to feed 1.6 billion people, according to a separate report by Oxfam.

Today, biofuels produce an estimated 16 percent more carbon emissions than the fossil fuels they replace due to the indirect impacts of farming and deforestation.

Most critically, says McConnell, a just transition away from harmful subsidies must involve all stakeholders – including smallholder farmers and marginalized groups such as women, youth and Indigenous Peoples – throughout the reform process.

It must also be paired with targeted support, such as finance, training or other resources, to help farmers and other impacted groups to weather the transition well.

“By doing so, reforms are more likely to be sensitive to the needs and realities of all stakeholders,” she says, “which both reduces the risk of opposition to change and makes it more likely that reforms will be long-lasting.”