(Credit: IMF Photo) 

May 20, 2026/IMFBlog

By Pierre-Olivier Gourinchas, Borja Gracia, Delphine Prady, Rodrigo Valdés

When global energy prices spike, governments face an unenviable dilemma: shield people and businesses while straining already reduced room in public budgets—or let prices rise for everyone and risk social and political backlash. So, how can policymakers do the best of both?

To be sure, there is no one-size-fits-all response because the impact of the war in the Middle East differs widely across countries, reflecting varied energy dependence, market structures, social protection policies, and fiscal space. Likewise, some countries are more affected than others by the high uncertainty about how long the shock will last and how much it will fuel inflation.

Sustained energy price surges can sharply reduce household purchasing power, which hurts poorer families most and strains businesses. If unaddressed, this can cause lasting damage by pushing more people into poverty and forcing businesses to shut down.

Many countries are already responding, but the challenge is doing so efficiently and without further hurting economies. Measures not designed thoughtfully can be fiscally costly and difficult to unwind. They can also fuel additional inflation, worsen fiscal fragilities, or increase further global energy prices.

To do so, it is important to keep in mind a common set of principles. The energy crisis is a standard negative supply shock—pushing prices up, weighing on activity and putting central banks in a tough spot. Fiscal measures have a role to play, but they need to be temporary, targeted, timely, and tailored. Specifically, they should:

• Let domestic energy prices reflect international costs.
• Shield vulnerable households with targeted, temporary support.
• Support viable small businesses with liquidity, not price controls.
• Reserve generalized subsidies and price caps for truly exceptional shocks.

These priorities were outlined in our April 2026 World Economic Outlook and Fiscal Monitor reports, in which we also emphasized the uneven impact within countries.

Persistence and prices

One of the most important questions is how long the shock lasts. If it’s within historical ranges, even if large, governments should let domestic prices adjust to international market conditions. Fiscal policy should rely mainly on automatic stabilizers, with revenue taking a hit as activity declines, while expenditures meet increased need for existing social assistance. For economies that rely on imported energy, higher import prices imply a drop in real income (by as much as 2 to 3 percent of gross domestic product over a short period under the current shock). This must be absorbed through lower domestic demand.

When price shocks are unusually large or disruptive, but likely to be temporary, governments may have a case for more active fiscal policy—only if they can afford it. Even then, most of the price increases should be passed through upfront, with any intervention aimed at smoothing the adjustment rather than preventing it.

Price signals play a major role in allocating scarce resources, encouraging efficient use, and preventing shortages. At the same time, higher energy prices can immediately have severe effects, and these are felt differently by individuals and businesses. That means the goals of fiscal support, and the tools to deliver it, should reflect this distinction.

Protecting people

Poorer families typically spend two or three times as much of their income on energy and food compared with wealthier households, while they don’t have as much in savings. Protecting them is important to preserving social cohesion and avoiding a surge in poverty.

Targeted cash transfers, ideally delivered through existing social assistance systems, are generally the best way to do so because they preserve price signals and limit fiscal costs. If coverage is insufficient, governments can temporarily top up payments or widen eligibility, including to lower‑ and middle‑income households that are at risk of falling into poverty.

For very large but temporary shocks, additional measures may include one‑time rebates or spreading price increases over time, helping households cope without freezing prices outright. As a last resort, if food security is at risk and safety nets aren’t sufficient, temporary reductions in taxes or subsidies for stable foods may be appropriate if accompanied by a clear and credible timeline for ending them.

Supporting businesses

For firms, support serves a different aim: keeping viable enterprises operating and avoiding unnecessary bankruptcies. It should address short‑term cash‑flow problems, not deeper viability issues, and be focused on otherwise sound or strategically important businesses, especially in industries where higher costs quickly raise consumer prices.

Temporary liquidity support—such as government‑guaranteed loans, credit lines, or short‑term tax and social security deferrals—should be the first line of response. That’s because these tools are fiscally less costly and easier to undo. Direct grants or equity injections are best avoided, given their high fiscal cost and political difficulty to reverse.

Exceptional use

Some policy tools are broader and more distortionary. Energy-tax cuts, price caps, or general subsidies mute the important signals from prices, usually benefit higher‑income households more, and are hard to phase out. They can also quickly escalate government budget costs and raise the risk of shortages, especially if suppliers are not adequately compensated.

Broad measures to address rising prices may be justified if a group of specific conditions hold simultaneously:

• The price shock is clearly temporary.
• Higher energy prices are quickly feeding into broader inflation.
• Inflation expectations are at risk of becoming uncontrolled.
• Economic overheating is limited.
• Public finances have room to absorb the cost.

These conditions are hard to gauge in real time and, in any case, broad price controls have major spillovers. That’s why use of broad price tools should ideally be avoided, and if used, should be exceptional, temporary, transparent, and tightly circumscribed. Governments must weigh trade‑offs carefully. For example, price caps are easier to phase out but can drive shortages. Tax cuts pose fewer supply risks but are harder to stop and may cause persistent revenue losses. As a rule, full price freezes should be avoided.

Fiscal constraints

Fiscal space varies widely across countries and is now generally tighter than in past crises because of higher debt and borrowing costs. This strengthens the case for incremental and carefully calibrated responses. In countries where fiscal space is available, governments may have some scope to smooth severe but temporary price increases with targeted, transparent, and temporary measures.

Countries with limited fiscal space and weak social safety nets are more constrained. Extreme situations in which price increases threaten food or energy access may warrant rationing to manage demand, but this has very high economic costs. This underscores why it’s important to avoid generalized subsidies that quickly exhaust scarce fiscal resources.

Sharper tradeoffs

Even with improved policy frameworks, policy trade‑offs are often sharper in emerging market and developing economies. Compared with advanced economies, they typically have weaker social safety nets, larger shares of consumer spending on food and energy, tighter liquidity constraints, more fragile inflation expectations, and narrower fiscal space amid higher borrowing costs. Political pressure can also spur governments to act quickly when facing extraordinary shocks.

By contrast, advanced economies are less constrained. As a result, they should mainly use existing targeted transfers and automatic stabilizers, resorting to discretionary and price‑based measures only in exceptional cases.

This asymmetry matters globally. When larger or richer countries suppress domestic price signals, global demand rises, international prices increase, and shortages worsen—hurting poorer importing countries the most.

Policy sequence

The key question is not whether to act, but how to act effectively: assessing shock persistence, matching tools and objectives, distinguishing household and firm support, and tailoring responses to circumstances.

A disciplined, well‑sequenced approach—starting with targeted, temporary measures and escalating if needed—can help economies adjust to energy and food price shocks without costly policy mistakes, domestically and globally.

—For more details on the policy toolkit, see the expanded annex: Mitigating the Impact of High Energy and Food Prices.