Subsidy race reduces welfare

The US, the EU and China are currently outbidding each other in subsidies for "green technologies". In the coming years, the US, as part of the "Inflation Reduction Act” (IRA) plans to support the development with $369 billion. The agreement stipulates that a large proportion of production and raw materials must come from the US or from countries with which the US has free trade agreements. This has been justified by the US government by concerns surrounding their dependence on China for these resources, which the US is trying to reduce.

The emphasis is therefore less on tackling climate change and more on the protection of the domestic industry. This has also triggered a subsidy race with the EU. For example, the Swedish company Northvolt is considering locating a battery factory originally planned in the German state of Schleswig-Holstein in the US. In response, on February 10, EU leaders decided to relax state aid rules to allow member states to provide "targeted, temporary and proportionate" state subsidies to companies. In addition, approval procedures will be accelerated, and EU funding used more flexibly. This type of subsidy race is ultimately detrimental to welfare.

Instead, it would be ideal if companies choose their locations according to comparative cost advantages – whereby wage, transport or environmental costs should be considered. However, this is distorted by this race that has been set in motion. If companies' location decisions are mainly based on maximising government support, this leads to a loss of welfare. The relaxation of the EU state aid rules must also be viewed critically because it allows financially strong countries to improve site conditions at the expense of financially weaker countries. Instead of financially promoting the domestic production of green technologies, it is essential that approval procedures are simplified.