A Review of International Initiatives to Accelerate the Reduction of Sulphur in Light and Heavy Fuel Oil

Prepared under contract for:
Oil, Gas & Energy Branch, Air Pollution Prevention Directorate,
Environmental Protection Service, Environment Canada

Authors:Beatrice Olivastri, Miranda Williamson

September 2001

Executive Summary

Environment Canada proposes to develop measures to reduce the level of sulphur in both light and heavy fuel oils used in stationary facilities. It plans to commence studies in 2001 of the benefits to the health of Canadians and the environment as well as the cost of reducing sulphur in fuel oils, with a view to matching the 2008 requirements set by the European Union for sulphur in fuel oils (reduction to 1.0% wt. (10 000 ppm) sulphur in heavy fuel oil by January 1, 2003 and to 0.1% wt. (1000 ppm) sulphur in light fuel oil by January 1, 2008). Complementary measures to Regulations such as economic instruments are to be examined as a means of accelerating the introduction of low-sulphur fuel oils.

Excise taxes on light and heavy fuel oil as a form of revenue generation are common in OECD countries while taxes specifically to accelerate the reduction of sulphur levels are less so. Only one OECD country (Switzerland) has a fiscal measure designed solely to reduce sulphur in light fuel oil. Four OECD countries have introduced a tax differential to accelerate the use of low sulphur heavy fuel oil. Another five OECD countries each have introduced a fiscal instrument that applies the same rate based on sulphur in both light and heavy fuel oil.

In 1988, Italy was the first country to apply an environmental tax on sulphur in heavy fuel oil, which has resulted in nearly a 48% market share for heavy fuel oil of less than 1% sulphur by weight. Switzerland, Sweden and Denmark have also used economic instruments to accelerate the reduction of sulphur in light and/or heavy fuel oil to less than 0.1% weight (Switzerland and Sweden) or less than 0.05% in Denmark. The primary driver cited for reducing sulphur in heavy and light fuel oils was reducing the precursors to acid rain while another benefit cited was improved air quality.

Four case studies (Switzerland, Sweden, Denmark and Italy) on the use of economic instruments in accelerating the reduction of sulphur in light and/or heavy fuel oil are reviewed.

Beginning in 1997, Switzerland was motivated by a commitment to improve air quality and reduce precursors to acid rain to introduce a tax of $0.012 CDN/kg on light fuel oil with a sulphur content of more than 0.1% weight. The market shifted within two months of the fiscal measure coming into effect and this low sulphur light fuel oil was the only fuel quality available on the market within two months. The revenue from the tax is earmarked to reduce personal contributions to the medical health insurance through a per capita reimbursement scheme. This case is unique with its innovation in linking pollutants, such as sulphur in fuels and VOCs, to air quality and health even if the monetary impact is modest.

In 1991, concern for acid rain prompted Sweden to introduce a sulphur tax on liquid fuels, including light and heavy fuel oil, at the rate of $3.96 CDN/m³ for each tenth of a percent (0.1%) by weight of sulphur content. The determination of the tax rate was based on the estimated emission abatement costs (price difference for oil with low sulphur levels and costs of technical emission reduction, respectively). This disincentive approach was selected instead of tightening the standards because they expected to reach their ecological goal more quickly and with lower costs. The success of the tax emanates from the fact that the refiners could finance the required investments through the tax incentive.

Denmark phased in a fiscal disincentive starting in 1996 and coming into full effect in 2000, as a part of the Danish commitment within the European Union to restrict its sulphur dioxide emissions to 90 000 tonnes until the year 2000. The sulphur tax is levied with choice provided for application either as a product tax or an emission tax on all fuel consumption with a sulphur content of greater than 0.05%, including light and heavy fuel oil. When it is charged as a product tax, the tax is levied on the sulphur content of the fuel at a tax rate of $3.90 CDN/kg of sulphur in the fuel. When it is charged as an emission tax, the tax is based on the actual sulphur dioxide emissions at a tax rate of $1.95 CDN/kg of sulphur dioxide. Market penetration was quick for both lower sulphur fuel oils: the sulphur content of light fuel oil was reduced from 0.2% to 0.05% within a few weeks of the tax's introduction and the sulphur content of heavy fuel oil was reduced from 0.2% to 0.05% within a year of its introduction in 1996.

Italy's focus on achieving broad environmental benefits such as reducing the precursors to acid rain and the consequent impacts from acid deposition prompted the introduction of its tax incentive for heavy fuel oil with lower than 1.0% sulphur by weight as of January 1988. Tax is 45 LIT/kg ($0.034 CDN/kg of sulphur in the product) for low sulphur heavy fuel oil and twice that rate (90 LIT/kg or $0.068 CDN/kg) for heavy fuel oil with a higher sulphur content. The net result is a tax differential of 45 LIT/kg ($0.034 CDN/kg). This is the only case studied where a small part of the revenue is directed, for example, to the development of renewable energies. Low sulphur heavy fuel oil has achieved nearly a 48% share of the Italian heavy fuel oil market.

The following are concluding observations from the case studies:

Measure of Choice - At least 10 OECD member countries have implemented economic instruments to accelerate the reduction of sulphur in heavy and/or light fuel oil. The case studies document how these measures have been successful in prompting market shifts to lower sulphur products.

Integration of Measures - In general, these are not stand-alone measures. They are typically introduced as one component in a package of measures. Switzerland pools the revenues from both of the taxes for light fuel oil and volatile organic compounds to redistribute it to Swiss citizens. Sweden and Denmark tax energy products on three bases: energy, carbon dioxide and sulphur. In the case of the sulphur tax, in January 1991 Sweden introduced this tax disincentive for all fuels (including peat and coke) at the same time as part of a comprehensive package for accelerating the reduction of sulphur in all fuels.

Cost to Government - In all of the case studies examined, the measures were designed to generate revenue with minimal administrative costs.

Disposition of Revenue - In most cases it appears tax revenue goes to general funds. But in the case of Italy, a very small part of the revenue is directed, for example, to the development of renewable energies. In the innovative Swiss example, the revenue is used as an offset to mandatory medical insurance for Swiss citizens.

Emission Reductions Reported

• Switzerland has reported the combined effect of the Ordinance on Air Pollution Control and the Ordinance for "Extra Light" Heating Oil has reduced sulphur emissions from approximately 42 000 tonnes in 1990 to around 26 000 tonnes in 1999 or approximately a 38% reduction. Measurements taken in urban areas show that sulphur dioxide emissions have decreased from approximately 34 micrograms per cubic metre (µg/m³) in 1988 to approximately eight µg/m³ in 1999.
• Sweden estimates that annual sulphur emissions from 1989 to 1995 have been reduced by 19 000 tonnes due to the tax. This represents 30% of the total emissions reduction in that period for which the tax is responsible. With reference to the manufacturing industry in the same period, approximately 59% of their reduction in sulphur emissions can be attributed to the Swedish sulphur tax.
• Denmark reports that the total sulphur dioxide emissions decreased by approximately 24% in the years 1995-1997. Denmark has estimated that the total reduction of sulphur emissions will have been reduced by 34 000 tonnes in 2005 as a result of the sulphur tax.

Global Impacts - An unintended negative impact may be the "dumping" of polluting products, i.e. higher sulphur, in countries without comparable measures. For example, in Sweden a by-product from the manufacture of low-sulphur heavy fuel oils is a residual oil with a high sulphur content, which is often exported to countries with lower environmental standards.

Timing - An economic instrument can produce a rapid market shift in particular when the consultative process leading to its introduction is effective. For three of the four case studies (Switzerland, Sweden and Denmark), the measure was announced well in advance of it coming into effect. This produced a rapid market shift with lower sulphur fuel oils either available immediately on the heel of the announcement, or prior to the measure coming into effect.

Technology Driver - Flexibility in implementing economic instruments appears to be of particular importance to large- scale industries and may help drive the adoption of cleaner technology. (Technology adoption rather than technology innovation seems to be a result). According to an article published in The Energy Journal, the Swedish sulphur tax has primarily worked via three channels: 1) by inducing technological progress on the demand side, 2) by enhancing technological progress on the supply side, and 3) by substitution between heavy and light fuel oil, this being the least applicable of the three. According to the Danish Ministry of Taxation, the tax has had a positive impact on the development of desulphurisation plants and technology.

Impact on End Consumers (Citizens) - Two cases have interesting innovations for making the initiative more transparent. In the Swiss case, the revenue from the tax is earmarked to reduce personal contributions to medical health insurance through a per capita reimbursement scheme. In Denmark, consumers ultimately pay the tax and many companies voluntarily specify the sulphur tax as a separate item on the bill of sale. Thus, consumers are able to consciously choose lower sulphur fuel oils that incur a lower tax burden.

Public Awareness - While a great deal of media coverage seems to occur during the debate and introduction of the measure, ongoing public awareness seems limited.