4.2.1. Overview of Economic Adjustment
The key macroeconomic indices presented in this study were GDP, consumer price index (CPI), PCON, and GFCF.
Table 2 shows a summary of the 10-year average change for each scenario.
In SIM A, completely removing the biofuel subsidy leads to an economic recession; in this scenario, GDP, PCON, and GFCF decrease by 0.013%, 0.416%, and 0.035%, respectively, whereas CPI increases by 0.171%.
In SIM B, the complete removal of the biofuel subsidy together with 1% TFP enhancement of energy crops leads to better outcomes than SIM A. The GDP is zero which is a higher value than in SIM A (negative), whereas PCON and GFCF are better than in SIM A, with a decrease of 0.403% and 0.029%, respectively. Contrarily, CPI increases by 0.158%, a small degree as compared with SIM A. This implies that enhancing the TFP of energy crops can partially mitigate the negative impacts caused by removing the biofuel subsidy.
In SIM C, a combination of completely removing the subsidy and reallocating 10% of the biofuel subsidy to invest in energy crop plantations is similar to SIM B. The GDP, PCON, and GFCF are reduced by 0.001%, 0.403%, and 0.024%, respectively, whereas CPI increases by 0.155%. This implies that sharing the biofuel subsidy to invest in energy crop plantations can compensate for the loss of economic benefit caused by removing the biofuel subsidy.
Finally, in SIM D, enhancing TFP by 1% and reallocating 10% of the biofuel subsidy to energy crop plantations results in the best economic growth. The GDP rebounds to positive as 0.012%, whereas CPI still increases by 0.143%. PCON and GFCF decrease by 0.390% and 0.018%, respectively. Therefore, the outcomes from this simulation indicate that using TFP improvement and reallocation of the biofuel subsidy for investment in energy crop plantations are optimal policies for mitigating adverse effects.
Figure 5 shows the adjustment of economic agents and firms. In SIM A, the removal of the biofuel subsidy leads to a higher fuel tax on the first path that the government would gain more income. Then, the government has an income for consumption of goods and services. The rest of the government consumption would be transferred for saving, which could be combined with the savings of a household and a foreigner to become the total investment.
On another path, the removal of biofuel subsidy leads to an increase in biofuel prices. The higher biofuel prices then lead to higher production costs, and commodity prices increase correspondingly, and consequently, the CPI also increases.
Due to higher production costs, the aggregate outputs would decrease, decreasing the value added for all sectors. This situation leads to lower household income and saving. When the household income reduces, the consumption is also eventually decreased. Additionally, the lower household saving also affects government income. The offset between an increase in government saving and a decrease in household saving remains positive for the total investment.
In this study, these three institutes (i.e., household, government, and the world) drive the total investment that is fixed by the closure rule. Given that the government savings increase, the foreign savings would be adjusted to decrease. This implies that removing the biofuel subsidy would indirectly affect a decrease in foreign direct investment. When foreign savings are decreased, it leads to increasing the current account balance and trade balance.
Finally, the GDP change comprises private consumption, government consumption, GFCF, stock changes, and trade balance. In SIM A, the negative impacts of the subsidy removal were similar to findings of previous studies [
13,
42,
43,
44,
45,
46,
47].
In SIM B, although the economy endures the negative effects of removing the biofuel subsidy (SIM A), the TFP improvement increases the outputs of energy crop plantations. Therefore, it leads to lower prices of biofuel products and productions; however, removing the biofuel subsidy has a stronger influence than the TFP increment. Therefore, enhancing the TFP of energy crops by 1% could elevate the GDP by 0.013% as compared with SIM A.
Similarly, in SIM C, reallocating the biofuel subsidy to invest 10% in energy crop plantations enhances the GDP by approximately 0.012% as compared with in SIM A. The potential of SIM C is similar to that of SIM B. The investment is to increase capital supply for production sectors. Such an increase leads to the depression of capital costs. Unlike improvement productivity (SIM B), it would increase the quantity of outputs by a larger amount. By comparing SIMs B and C, we can show that a 10% increase in investment is close to a 1% increase in the TFP on energy crops.
In addition, SIM D is a combination between SIMs B and C. This scenario increases the capital supply and efficiency of the energy crop sector. The results indicated that a 1% increase in the TFP and a 10% investment in energy crop plantations can enhance economic growth via a GDP of 0.025% (0.012−(−0.013)) as compared with SIM A.
In summary, the effects of removing the biofuel subsidy could be avoided by enhancing the TFP and reallocating the biofuel subsidy to an investment in energy crop plantations, which are appropriate policies for developing economic and energy production without energy price distortion.
4.2.2. Trends of Macroeconomic Changes
Figure 6 shows the trends of the impacts caused by removing biofuel subsidies incorporated with TFP progress and reallocation for investment in energy crop plantations. The results show that removing biofuel subsidies (SIM A) could affect an economic recession because the average GDP decreased by 0.013%; however, the GDP adjustment slowly proceeded until 2031, when the GDP would rebound to be zero. The reason for this is that eliminating biofuel subsidies affects higher biofuel prices and leads to higher production costs. Then, the demand and supply of aggregate outputs also decrease. Therefore, the lower outputs result in a lower GDP; however, the trend of the GDP would be to gradually increase. This increase is in agreement with a previous study [
17], which indicated that removing subsidies would enhance the GDP in the long term.
To enhance the TFP of energy crops (SIM B), although the average economic growth would be zero, it remains better than SIM A. During 2022–2025, the GDP would be lower than zero, but during 2026–2031, the GDP would rebound to be positive. The two periods, therefore, are offset by each other, because increasing the TFP induces higher total outputs of energy crops and lower production costs. The lower costs of cultivating and harvesting energy crops lead to lower biofuel prices. Given the inverse variation between commodity price and investment demand, lower biofuel prices would lead to higher investment demand for biofuel and continue to trigger capital accumulation in the next year. This process results in increasing the GDP gradually and implies that enhancing the TFP of energy crops could compensate for the negative effects of terminating biofuel subsidies. The results are in line with [
37], which stated that improving bioethanol cultivation efficiency enhances economic growth because efficiency would reduce cost per unit and produce more products.
Likewise, reallocating the biofuel subsidy to invest in energy crop plantations (SIM C) affects the average GDP by a decrease of 0.001%, similar to SIM B, because the investments increase the capital of energy crop cultivation. It leads to more production and less unit cost of production in energy crops. When production outputs are increased, the GDP loss is reduced, which indicates that reallocation could also compensate for adverse effects caused by cutting off biofuel subsidies. This simulation result is in line with the finding obtained from an econometrical approach [
48].
Finally, if the TFP improvement and investment in energy crop plantations were implemented simultaneously (SIM D), the GDP would recover faster than in SIM B or SIM C. The average GDP growth was positive as 0.012%, because both implementations have double influences on the economy. The TFP would drive productivity, while reallocation would increase the supply of energy crops. Therefore, the GDP would resume to be positive quickly by 2025. Additionally, the average GDP in SIM D is nearly twice that in SIM A.
In summary, all scenarios initially impact GDP loss, but the GDP would gently increase until it becomes positive in the long term. In this case, the best choice is the combination of enhancing TFP and reallocation of biofuel subsidy. The government can completely remove the biofuel subsidy without economic contraction. In the same line of the previous literature [
49], these obtained simulation results indicate that the policy reform can lead to the diverse outcomes. The incomplete policy set (SIM A) can incur the negative effect, while the appropriate policy package (SIM D) can influence the sustainable growth path.
Figure 7 displays the effects of all scenarios on the CPI. In contrast to the GDP, removal of the biofuel subsidy (SIM A) would increase the CPI thoroughly during 2022–2031. Given the higher prices of biofuel, the production sectors would then suffer higher production costs. This result differs from a previous study [
18] that reported removal of the oil fund would lead to a decline in the CPI. In this study, at the top level of the production function, as mentioned in
Section 3.2, the substitution between primary input and intermediate commodities is assumed to be fixed, and there is no replacement by each other. In addition, mandate and optional biodiesel are subsidized. As a result, there is no choice for people or industry uses, i.e., They must assume there would be higher prices of biodiesel. Unlike gasohol, currently, only gasohol E20 and E85 are still being subsidized. If the subsidies on gasohol E20 and E85 are eliminated, both fuel prices would increase automatically. Instead of using gasohol E20 and E85, people could also switch to use gasohol E10. In reality, biodiesel is a crucial fuel for the transportation and industry sectors. Hence, increasing biodiesel prices caused by terminating subsidies significantly affects the economy.
In contrast, in SIM B, the CPI initially would move up from 2022 to 2028. Afterwards, it would diminish slightly and relatively move as constant. Similarly, the CPIs of both SIMs C and B behave similarly. From 2022 to 2027, the CPI would increase, but from 2027 to 2031, it would be constant. SIM D shows an increase in CPI for only three years (2022–2025), and then it would be stable and decelerate until 2031, because the TFP improvement and investments in energy crop plantations would increase production output and reduce the producer prices of commodities. Therefore, the consumer prices of finished goods would decrease accordingly and promoting the TFP and investment in energy crop plantations by reallocating the biofuel subsidy are appropriate regimes to reduce inflation.
In summary (see
Table 2), during such a period, the CPI in SIM A would increase by 0.171% on average, whereas the CPI in SIMs B–D would decrease by 0.158%, 0.155%, and 0.143% on average, respectively.
Figure 8 reveals the effects on private consumption, which are similar to the GDP results. The results show that increased biofuel prices resulting from abolishing biofuel subsidies (SIM A) would lead to a decline in the PCON over the period. Initially, the removal of biofuel subsidies would affect the higher production costs and lower outputs and would also lead to lower value added along with a household income reduction. Given the decrease in household income, people must reduce their consumption; therefore, the household would adjust consumption to satisfy budget constraints. The average PCON would decrease by 0.416% (see
Table 2).
To enhance the TFP of energy crops (SIM B), although the average PCON decreased by 0.403%, it was still better than in SIM A, because increasing the TFP of energy crops would enhance the total aggregate outputs. Therefore, the household planted energy crops would increasingly earn more income together with consumption. In addition, the higher productivity would affect the increase in outputs of energy crops (e.g., sugar cane, cassava, and oil palm), which are feedstocks of biofuel production. An increase in outputs would lead to a decrease in producer prices through the biofuel supply chain. Then, the commercial biofuel prices would decrease depending on the market mechanism, causing the cost of other production sectors to also decrease. Therefore, the household could consume more than in SIM A; however, enhancing the TFP of energy crops can partially entail adverse effects. The influence of biofuel subsidy removal would be to substantially affect private consumption.
In SIM C, this scenario was to increase the capital supply by reallocating budgets for investment in energy crop plantations. The results showed that the average PCON decreased by 0.403%, equivalent to in SIM B, because the reallocation, in 2022, leads to an increase in capital accumulation, which would result in higher production in the next year. Consequently, the household would gradually receive more income, while the costs of production would inversely decrease. Hence, the PCON and SIM B would increase.
Finally, enhancing the TFP along with investment in energy crop plantations (SIM D) showed that both measures considerably enhanced the PCON growth. Although the average consumption would decline, on average, by 0.390%, the trend would be in an incline direction. The result also displayed an impact almost double that in SIMs B and C. Consequently, this implies that the most appropriate option for maintaining the PCON is TFP improvement and reallocation of budget to invest in energy crop plantations.
Figure 9 demonstrates the changes in the GFCF. The trend of each scenario is different. The oil fund is an organization under government control. Given that biofuel subsidies are cut off, and the government does not need to compensate for biofuel. In SIM A, removing biofuel subsidies could save the oil fund’s liquidation, which would also lead to higher government income and savings. In this study, the total investment is fixed, as mentioned in
Section 3.4. The higher prices of commodities caused by increasing production costs would affect the higher values of stock changes. Owing to the inverse variations between the GFCF and stock changes, the GFCF would thus decrease.
In SIM B, the TFP improvement of energy crops leads to an increase in the GFCF, because the lower production costs of energy crops and biofuel products affected lower commodities prices, leading to a decrease in the values of stock changes. Then, the GFCF would increase directly.
In SIM C, the reallocation of budget to invest in energy crop plantations leads to an increase in GFCF. For the same reason as in SIM B, the investment in energy crop plantations increased biofuel feedstocks’ outputs and reduced biofuel prices. Given the decrease in production costs and commodity prices, the values of stock changes would reduce. It would finally lead to an increase in the GFCF. The trend of the GFCF in SIM C was quite different from in SIM B, which implies that reallocating subsidy for investment has more influence on the GFCF than enhancing TFP.
Finally, SIM D combined the TFP with reallocation measures. Although the average GFCF remained less than zero, i.e., 0.018% (see
Table 2), the trend increased more than the other scenarios, because of the decrease in commodity prices caused by higher productivity and capital supply of energy crop plantations.
In summary, removing biofuel subsidies vastly affects the GFCF whether using TFP improvement or reallocation of subsidy budget; however, both measures are a desirable choice in the long term because the trends are likely to increase. If policymakers combine both measures to implement energy crops, the adverse effects would be rapidly eliminated more than applying only an individual measure.