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High cigarette taxes lower demand and are good for government revenue and public health. Indeed, high tax rates have arguably been the most effective health policy tool when it comes to the dangers from smoking. But the problem is that high taxes and hence high prices drive illicit markets. My AEI colleagues Aparna Mathur and Cody Kallen and I published a paper today in the journal Applied Economics called “The Perverse Effect of Sin Taxes: The Rise of Illicit White Cigarettes.”
In it, we describe the widespread availability of illicit cigarettes and the risks they present, not only to public health and government revenue, but also in how they assist organized crime. We specifically look at the fastest growing market, called illicit whites. These are cigarettes that are legal in the country of production, but are illegally smuggled into other markets without the payment of applicable taxes.
Through original, self-conducted point-of-sale surveys and discarded pack collections across 18 cities, we find that cigarette taxes significantly affect the market for illicit whites. Moreover, based on a smoker survey, we find that the illicit white market is supported by consumers willing to purchase illicit products for their reduced prices. Sin taxes drive illicit activity and therefore reduce the effectiveness of higher taxes in curbing the use of cigarettes.
We find that certain trade zones in places like Dubai and Panama are massive hubs for production and trade and that entire nations, most notably Paraguay, benefit from this illicit trade. While the World Health Organization has doggedly tried to get emerging markets to raise taxes on cigarettes through its Framework Convention on Tobacco Control (FCTC), its Illicit Trade Protocol (ITP) suffers from a total distrust of the legitimate industry.
It is certainly fair to distrust an industry that has repeatedly lied over decades about the danger of its products and allowed the smuggling of them to take place in the 80s and 90s. But European authorities working with the legitimate industry have been able to lower smuggling of big brands by nearly 90% in the past 15 years – mainly through industry track and trace systems. And while smuggling of brands like Lucky Strike and Marlboro still occur, the main rise in illicit activity is through manufacturers and traders who have nothing to do with Big Tobacco.
These players have no interest in listening to WHO, won’t join track and trace systems, pay little or nothing in excise taxes, and are outside of norms of WHO-influenced society. While they employ a lot of people, pay employment taxes, and operate legally in their domestic markets, host governments, like Dubai, Pakistan and Paraguay are unlikely to undermine them. And that is especially so when WHO is still fixated on the legitimate industry.
Big Tobacco is busy pushing vaping and other non-combustible products in the West. Meanwhile, it is losing cigarette market share to illicit players in emerging markets. Some health folks see this as a win, because they seem to only care about their immediate sphere of influence, but they are ignoring the largest growing part of the cigarette market. They might succeed in weakening Big Tobacco’s profits but the result is becoming a far more lawless and less controlled cigarette market they cannot influence.
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