Tuesday, May 29, 2012

Proposition 29: Is a Sin Tax on Cigarettes a Good Idea?

Next week on June 5th, California is going to vote on Proposition 29 (also known as the Tobacco Tax for Cancer Research Act), which is a referendum to enact a tax hike on cigarettes. The hike is supposed to be five cents per cigarette, which translates into a dollar per pack. The tax revenue collected would go towards cancer research, which is something the proponents of Prop 29 laud because the tax is supposed to cut back on the number of smokers while heading in the right direction to cure cancer. The opposition is not only worried about a higher level of tax burden, but that the bill would have unintended consequences. So who is right? Let's take a look:

1) Sin tax and tobacco. Before going into the bill itself, we need to differentiate between a Pigovian tax and a sin tax because there are some people out there who think they are synonymous. A Pigovian tax is a tax levied to abate a negative externality (see diagram below).

The classic example of a negative externality is pollution. A factory dumps waste into a river or pollutes the air. Society bears the cost because the water and air are now dirtier. Without the Pigovian tax, the factory does not bear any cost for the pollution. By enacting the Pigovian tax, the producer produces less of their product at the social optimum, which ideally is where P = MR = MSB.

I do not want to get into a discussion right now of whether such a tax is acceptable from a libertarian standpoint because it would be a debate of whether the government's non-action would violate the libertarian axiom of non-agression. Rather, I would like to contrast the Pigovian tax to the sin tax. As economist Greg Mankiw states, "A Pigovian tax is supposed to protect innocent by-standers from the actions of others," whereas sin taxes "try to protect people from themselves." To clarify, a Pigovian tax tries to lower social costs and a sin tax tries to lower individual costs. Sin taxes are not solely levied on cigarettes; they are also levied on alcohol and are being attempted on soda. The sin tax is the government making the moralistic statement of "Hate the sin, Tax the sinner" that goes well beyond nonaggression. If the individual's smoking doesn't adversely affect others, who are we to deter voluntary behavior? Such action would be a violation of "life, liberty, and pursuit of happiness."  

2) The harmful effects of tobacco. New York mayor Michael Bloomberg was in support for such a bill because "tobacco kills." I'm not unsympathetic to the lives lost because of tobacco-related illnesses, but last time I checked, tobacco is an inanimate agricultural product that people consciously decide to consume. Tobacco contains nicotine, which happens to be addictive. Addictions are not easy to kick, but there are ways to quit. There is medicine (e.g., Nicotine patch, Nicotine gum), counseling services, and support groups such as family, friends, or Nicotine Anonymous. Even if the treatment costs some money now, it will cost a lot less than paying for the habit, not to mention that you can greatly reduce your chances of getting lung cancer later down the road. Plus, if people don't want to quit smoking, who cares whether it's addictive? People choose whether to smoke or not, and if they have already started, they can choose whether they want to quit or not. Rather than treat individuals like children or as if they had no choice, let us treat individuals like adults who have free will.

Tobacco consumption is not only harmful to our health, but also to our wallets. The line of thought is that because people stop smoking (i.e., they'll be healthier), health care costs are going to drop by $5.1B. However, as the legislative analyst from the Attorney General's Office points out (p. 17), "This measure would have other fiscal effects that offset these cost savings. For example, the state and local governments would incur future costs for the provision of health care and social services that otherwise would have not occurred as a result of individuals who avoid tobacco-related diseases living longer. Thus, the net fiscal impact of this measure on state and local government costs is unknown."

3) Sticking it to the poor. I would take an educational guess that a majority of the proponents of this bill lean to the Left because a) those on the Left are more enamored with tax hikes, and b) this is California we are talking about, after all. This means that these are most probably the same people who want to help the downtrodden. However, this is just yet another policy from the Left in which we see an unintended consequence. Why? Because the poor and uneducated are more likely to smoke. This can be observed both on the national and state level. It is difficult enough in general to stop smoking. Being poor and/or uneducated makes it more difficult to reach that goal. And now proponents want to throw the burden of an additional regressive tax on top of it all that would take more out of their discretionary income? That's just great.

4) How worried should Californians be? The federal government already throws $5 billion (yes, that's billion, with a "b") at cancer research per annum; that doesn't even count the state level or any private organizations funding cancer. I know we haven't found a cure for cancer yet, but it's surely not from a lack of funding. Also, we have to keep the smoking rate in mind. 11.9% of California's adults currently smoke. Not only is that below the OECD average of 22.1%, but is also below the national average of 19.3%. It would be great if the percentage of smokers were near 0% and if we found a cure for cancer. However, such noble goals need to temporarily take a back seat to more important things, such as California's financial situation.        

5) California's fiscal burden. With recent tax data, California's state tax burden ranks amongst the highest in the nation (6th highest in 2009). Looking at the economic freedom rating created by the Mercatus Center, California ranks 46th in economic freedom. To top it all off, California is dealing with a huge debt issue, which has been compared to Greece more than once. Simply put, cancer research is not high on California's priority list. So, rather than funding cancer research, which is already well-funded by the federal government, why not focus on debt reduction instead, especially when there are talks to do things like cut public salaries by five percent?

6) Inefficiencies and Unintended Consequences. The bill sounds great on paper. "If we increase the tax on cigarettes, not only do we stop the filthy habit, but we can also fund cancer research." Much like with just about anything else the government does, it is not as great as it sounds. The first is the assumption that the tax will bring in as much revenue as proponents would like. A similar tax was enacted in Maryland a few years back, and they only collected fifty cents for every dollar. This shouldn't be a surprise because taxes create deadweight loss (although I was surprised to say that the legislative analyst took the deadweight loss into account [p. 16]). Even in New Jersey and Washington DC, there was decrease in cigarette tax revenues after enacting the tax. It would be nice to dismiss these examples as anomalies, but the problem with that is unless you are dealing with an exceptionally inelastic good, you won't collect all the revenue you would expect. Also, consider the fact that the rate of smoking is decreasing without the tax increase (See Point 4). Expected revenue is only going to diminish over time.  

Second, only sixty percent of the funds would actually go to cancer research (§30130.53(1)). I'm also not a big fan of §30130.53(2) that allows buildings to be build at the committee's discretion. There is just something about "the middleman" that makes me feel uncomfortable. It is not simply because of the excessive amount of $127.5 million would be allocated towards buildings. It is also the matter of the fact that when California passed Proposition 10 to hike the cigarette tax back in 1998, it was met with misappropriation of funds and overall scandal (see California government report here). Since history has a way of repeating itself, you can't help but think that the remaining forty percent is going to get caught up in administration, oversight costs, and possibly corruption.

Even if the money is spent efficiently, there is still the matter of creating a black market. Although black markets are more prevalent with downright prohibition, higher sin taxes still can create a black market. Either people buy smuggled goods or they the cheap roll-your-own cigarettes that are unhealthier because they lack filters. The Cato Institute did a study on New York's black market in cigarettes back in 2003, and as if it were a surprise, it's still a problem. The same goes for Spain and the United Kingdom. The underground market is just another way for smokers to get a hold of cigarettes, as well as a way to increase crime rates.

Conclusion: I don't care if the American Cancer Society or the California PTA support Prop 29, and I'm not going to be swayed by a one-liner like "The choice is simple." I would say the choice is complicated by politics, and the voting results will reflect that. If it weren't for that, I would say the choice is very simple: a sin tax on cigarettes is a bad policy, and the citizens of California should vote against Prop 29. It might sound great to pass a bill that will save lives and beat Big Tobacco. What you get in reality is different. The tax is an infringement of freedom that would disproportionately affect poor people while leaving open the real potential for a black market. The tax revenue would probably not be as much as expected, and even the money saved on health care costs cannot be determined. All of this would be enacted by a government that not only lacks fiscal discipline, but has been troubled with past scandal of the allocation of cigarette tax revenues. I hope that California can repeat its history when it voted against a similar proposition back in 2006.

7-5-2015 Addendum: A working paper was just released showing little evidence of a negative relation between cigarette taxes and youth smoking.


  1. I fully agree that 29's a bad idea, especially since I read about the government study which highlighted our state's squandering of cigarette tax revenues and settlement money on other projects. I think that if some percentages were moved around, it would appease those who genuinely want the prevention programs and treatments that 29's backers are promising. Prop 29 is simply a plea for more money to line the legislator's pockets.

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