Cigarette Sin-Tax Hike Could Boost Black Markets

"Do-gooder" types are just making the situation worse.

SACRAMENTO — Anti-smoking activists have submitted to the attorney general a proposed ballot measure to boost taxes on a pack of cigarettes by $2, and use the revenues to fund research into the treatment of tobacco-related diseases. It's the latest effort to crush smoking by significantly hiking the costs of tobacco.

"Increasing the cost of cigarettes has been shown to be the most direct and effective way to reduce smoking," according to the proposed initiative's findings. This proposal will "help advance medical research and prevent more kids from taking up a costly and dangerous habit," said Marsha Ramos, chairwoman of the American Lung Association in California, in a statement.

But many economists note that, at some point, tax hikes offer diminishing benefits, thus reminding me of an entertaining old thought experiment about the effects of taxation on people's buying habits.

What if a dictator hated Poodles and decided to impose a $1 million per-pooch tax on their sale? Most likely, the government would not receive any revenue from this tax. Yet people would still buy and sell these curly haired dogs. Many people would pay, say, a $500 tax on them, but as the tax went up, eventually tax proceeds would fall.

We'd see an underground economy emerge. Some people would shift their affection to Labrador Retrievers, but many others would get a Poodle smuggled from Mexico or elsewhere. In fact, news reports suggest the black-market issue will figure prominently in the anti-tobacco-tax campaign if the measure qualifies for the November 2014 ballot.

New York City, for instance, has total taxes (state, federal and city taxes) of $6.86 for every pack of cigarettes, making the government the biggest beneficiary of tobacco sales there. "They've cranked up taxes and now recent evidence suggests that 60 percent of cigarettes sold in New York don't carry a tax stamp at all," explains William Shughart II, research director at the libertarian Independent Institute.

In a study released in September, a research group affiliated with the California Chamber of Commerce found that 20 percent of all the cigarettes consumed in our state are smuggled here from other places as of 2011. Currently, the average cigarette-pack costs $5.44 with $2.27 going to combined taxes, according to the San Francisco Chronicle.

"The $2 tax increase would double California's current smuggling rate to 39 percent of total cigarettes consumed," according to the California Foundation for Commerce and Education study. The tax "may create the unintended consequence of increasing organized crime in California," given that's who would be smuggling the cigarettes.

Higher taxes mean reduced smoking, Shughart notes, but the "elasticity" of cigarette smoking is low, meaning that many people will continue to smoke no matter what. There's no easy alternative in the way that Poodle owners can choose Labradors.

By the way, smoking has been falling for 50 years, so it's not easy to separate the role of tax hikes from other cultural factors that are driving down smoking rates, according to Shughart. That raises doubt about the effectiveness of a tax hike.

This initiative idea also highlights some hypocrisy, given that the government is as addicted to this tax money as smokers are to nicotine. "Government doesn't want smoking to decline much because if it does, they lose revenue," Shughart added. Even the initiative verbiage notes that the extra two bucks is needed because fewer people are smoking, which endangers the funding of existing tobacco-funded programs.

In 2012, a similar tobacco tax measure failed. One factor in Proposition 29's defeat: Voters balked at creating new programs during a budget crisis. But with the state's books roughly balanced, voters might have a different view.

Some supporters say there is no down side to raising tobacco taxes given that, whatever the resulting black markets, some people will smoke less. They say it's only fair given that smokers impose disproportionate health costs on the public. Tax foes argue that the tax is regressive, meaning that it falls hardest on less-affluent people who often are smokers.

I'm less worried about any additional tax on my occasional, and already expensive, cigars, and more concerned about a state government that wants to tax us for our own good — even as it becomes addicted to the proceeds from such "bad" behavior.