NCPA - National Center for Policy Analysis


April 2, 2009

Early in February, President Obama signed a law to triple the federal excise tax on cigarettes -- which will jump from 39 cents per pack to $1.01 beginning April 1.  His administration projects this tax hike will bring in at least $38 billion over the next five years.  If you don't smoke, maybe you don't care.  Maybe you even think a higher "sin tax" is a good thing.  But health issues aren't the only concern here.  There are also questions of fairness, federalism and macroeconomic impact, says Brad Schiller, a professor of economic at the University of Nevada, Reno.

The fairness issue is particularly troubling, says Schiller:

  • According to the Centers for Disease Control and Prevention, only one in five Americans smokes, so the excise targets a minority -- and over half of all smokers are low income, and one of four are officially classified as poor.
  • Obama prefers to tout his tax cuts for low-income households, but his "stimulative" Make Work Pay tax cut gets dribbled out at $8-$10 a week.
  • A pack-a-day smoker will pay half of that back in higher cigarette taxes.
  • Smokers getting welfare, unemployment or disability checks instead of paychecks won't get as much in tax cuts, but they will still pay the whole cigarette tax increase.

Anyone concerned about widening income inequality should have second thoughts about this distribution of the tax burden, says Schiller.  We should also note how this tax increase affects state finances:

  • State governments rely on their own cigarette excise taxes for hefty revenue streams.
  • In 2008, according to the National Tax Foundation, state governments took in $15.4 billion in cigarette taxes.
  • Hard-hit Michigan, Pennsylvania and California each took in over $1 billion; New York and Texas took in $1.5 billion each.

Higher taxes discourage cigarette sales, says Schiller:

  • Nobel economist Gary Becker pegs the long-run price elasticity of demand for cigarettes at .8 -- i.e., a 10 percent increase in price causes an 8 percent decline in unit sales.
  • The Obama tax hike translates into a 13.3 percent increase in the average pack price.
  • That implies a 10.6 percent decline in unit sales -- which the National Tax Foundation has calculated adds up to a $1 billion overall revenue loss for hard-pressed states.

Source: Brad Schiller, "Obama's Poor Tax; Why raising the tobacco levy will hurt the states," Wall Street Journal, April 1, 2009.

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