Sunday, March 7, 2010

URGGHHH!! The Demand for Cigarettes is relatively INELASTIC!

From BBC: Ash calls for 5% increase in tobacco tax
A five per cent rise in tobacco tax would lead to a substantial drop in the number of smokers and save millions in health costs, a UK charity suggests....Ash's report says that raising tobacco prices would reduce the number of smokers by 190,000 and save the NHS more than £20m a year by cutting the cost of treating smoking-related diseases.
According to Cancer Reseach UK, approximately 9.5 million Brits smoke.  Elasticity is determined by dividing the Percentage Change in Quantity Demanded by the Percentage Change in Price.  If the result is less than 1 then demand for cigarettes is inelastic (consumers NOT very responsive to changes in prices) and if it is more than 1 then demand is elastic (consumers are VERY responsive to changes in prices).  Using these numbers we have a change in quantity demanded of 2%.  If we divide 2% by 5% we get .40.  Smokers are relatively UNRESPONSIVE to the tax, assuming these numbers are correct.  I believe Mr Ash is WAY over-estimating the decrease in demand from a relatively small change in tax. A 2% change in response to a 5% increase in tax seems high for a good like cigarettes.  I have to think it would actually range from something less than 1% to maybe 1.5%.   Yes, fewer people will smoke, no question.  But the big winners will be the government in increased tax revenue AND the cigarette companies who will bear some burden of the tax, but not as much as consumers will bear.  My question: Why JUST 5%? Why not a much higher number if you really want to make a dent in the smoking population.  I dont know what that amount is, but if you want to "cross-over" to an elasticity of greater than one and REALLY reduce quantity demanded  by 50% or more, then how about 20%, 30%, 40%?...thinkin' that might do the trick...
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