NCPA - National Center for Policy Analysis

Blowing Smoke with the Cigarette Tax

March 17, 2003

With many states now running their largest budget deficits ever, legislators are looking anew at raising cigarette taxes. Even though these taxes have been raised sharply in almost every state in recent years -- on top of price increases mandated by the tobacco settlement -- politicians still seem to think that this cow can be milked even more. Now, several new studies suggest that there are diminishing returns to higher cigarette taxes.

New York City is probably the best example of where cigarette taxes, which now total $3.00 per pack, are so high that a tax cut would probably raise revenue. A new report from the Small Business Survival Committee notes:

  • The city is getting less than half the revenue increase expected from last year's tax hike from 8 cents to $1.50 per pack.
  • As a result of higher cigarette taxes within the city, the State of New York claims 46 percent of the higher revenues collected.
  • Thus, out of the $250 million, New York City was only going to get $107 million of additional revenue even if everything went as planned.

The report also found:

  • Cigarette sales from legal sources fell much more than expected -- by 189 million packs.
  • The loss of cigarette sales, ancillary product sales and income to businesses and workers and the loss of about 10,000 jobs reduced New York City's tax revenue by $64 million.
  • Thus the city's net revenue from its $250 million tax increase turns out to be just $43 million.

Some of the lost sales undoubtedly resulted from reduced demand -- people quitting smoking or cutting back. However, it appears that smuggling, out of state purchases and sales on Indian reservations (where no taxes are collected) are the main reason.

Source: Bruce Bartlett, "Blowing Smoke With the Cigarette Tax," NCPA, March 17, 2003.


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