Lowering Saudi Arabia's fuel consumption and energy system costs without increasing end consumer prices

a r t i c l e i n f o Using a multi-sector equilibrium model of the Saudi energy system that handles administered prices in a mixed-complementarity formulation, we present results from a set of policy scenarios that lower oil consumption in the country. Some of these scenarios are the solutions to Mathematical Programs subject to Equilibrium Constraints (MPECs) that maximize the net economic gain for the Saudi economy. The policies examined have the potential to generate economic gains exceeding 23 billion USD in 2011, or about 4% of Saudi Arabia's GDP. This economic gain comes mainly from inter-sectoral fuel pricing policies that incent shifting the mix in technologies that generate electricity and produce water from energy intensive technologies to more efficient ones. We show that when complemented by credits for investments in solar and nuclear power generation capacities, a modest increase in the transfer prices of fuels among sectors is sufficient to produce economic gains close to those achieved by deregulating transfer prices. The approach we develop here is an alternative to the classic recommendation of deregulating inter-sectoral fuel prices in situations where the conditions for successful liberalized markets do not exist. It is a template for introducing the notions of incentivizing behavior using prices into countries that rely more on administrative procedures than markets, leading to a deeper understanding of how markets can lead to economic gain. This paper outlines an approach that can substantially reduce current fuel consumption and inefficiencies in the Saudi energy system without altering end consumer prices. It contributes to the literature by: (i) Estimating the potential economic gains that alternative transfer prices of fuels among industrial sectors would generate; (ii) Illustrating how to design and measure the effects of alternative policies that produce, in countries where conditions for successful liberalized markets do not exist, economic benefits close to those achieved by the classic recommendation of deregulating inter-sectoral fuel prices; (iii) Providing the first equilibrium model of the Saudi energy system and using a Mathematical Program subject to Equilibrium Constraints (MPEC) to optimize policy parameters given a policy framework. Our analysis is a counterfactual exercise where we compare current policy versus alternative scenarios for the year 2011. The standard economic prescription to reduce the inefficiencies associated with low domestic energy prices is to move to prices based on world markets, forcing higher prices on consumers. For this reason, the vast majority of the …