The Joy of Economics:  Making Sense out of Life
 Robert J. Stonebraker, Winthrop University
 

Where There's Smoke, There's Controversy

            Tobacco is a filthy weed, that from the devil does proceed,

                        It drains your purse, it burns your clothes and makes a chimney of your nose.

                                                                                                .....Benjamin Waterhouse

            As a child I lived on the edge of town with a gas station at the end of my street.  Nestled between the station and the fields beyond was a small wooded area strewn with large boulders.  It was a perfect hide-away.  Hunkered down between the rocks and trees, we were invisible from the road, invisible from the gas station, and invisible from our mothers.  It was just the place for young boys to curse and belch and play poker.  And it was just the place for young boys to smoke. 

            I would hang around the soft drink cooler playing pinball in the gas station with my older brother and his friends¹.  When the employee left to attend an arriving vehicle² we quickly would drop our coins in the cigarette machine, pull the lever for a pack of filtered Winston’s, and head for the woods.  What a life. 

            Eventually, just before my first child was born, I did kick the habit.  But in those early days, cigarettes were a symbol of maturity.  With a cigarette dangling from my lip, with smoke rings wafting through the air, I was a real man.  Just like Bogart.  Just like Brando.  I was grown up.  And I was worthy of any girl on the block.  Tobacco was king.

            No more.  Tobacco has come under increasing fire from all sides.  Heavily taxed and barred from television advertising for years, the industry now faces strident opposition to print ads as well.  Child advocacy groups have raked Joe Camel over the coals and minority activists have lobbied to oust cigarette billboards from inner city neighborhoods.

            Smokers encounter overt hostility when they reach for a cigarette.  Shut out of airlines and quarantined to restaurant ghettos, they find NO SMOKING signs everywhere they look.  State governments are banning tobacco from all public buildings and huddled clusters of smokers can be found shivering by back doors on any cold winter day.  Even McDonald's has turned a cold shoulder to its erstwhile smoking customers.  Happy Meals for smokers are take-out only. 

            Righteous indignation is the order of the day.  According to a New York Times book reviewer, "only slavery exceeds tobacco as a curse on American history."  And an especially virulent tobacco plaintiff has painted cigarette producers as "the most disgusting, sadistic, degenerate group of people on the face of the earth."³ The Marlboro Man is on the run.

Legal challenges       

            Recent court cases may be the coup de grace.  After years of legal victories, tobacco companies hit the judicial ropes.  Noting that taxpayers often end up footing the bill for tobacco-related health costs, several states filed suits demanding reimbursement for all such expenses.  Other states quickly jumped on the gravy train and the legal free-for-all eventually extracted some $200 billion in settlement payments from tobacco firms.⁴ 

            In addition to the settlement payments, several legislators have pushed for a massive increase in the federal excise tax on tobacco products.  This tax has climbed rapidly in recent years -- from $.08 per pack in 1982 to $.39 per pack in 2002.  As of January 2007, state excise taxes tack on another $.80 per pack on average and range from $2.57 in New Jersey to $.07 in South Carolina.  New initiatives could drive the total tax burden far higher.

            Why this bandwagon for increased sin taxes?  Changing political winds offer part of the answer.  Tobacco taxes always have been popular among non-smokers (is anyone surprised?).  When large percentages of American adults smoked, and when cigarettes were hawked by Hollywood's finest, smokers held the upper hand.  But as health concerns move more and more voters into the non-smoking section, tobacco becomes an increasingly vulnerable target. 

            Does it make sense?  Anti-tobacco activists explain that smoking is dangerous, that high taxes are needed to drive the price up and discourage consumption.  Will it work?  Possibly.  While veteran smokers may be unaffected, there is some evidence that potential new smokers will be deterred.⁵

            Why do we care?  People make choices; and, when they perceive their benefits will exceed their costs, they often choose dangerous activities.  They choose to skydive, they choose drive motorcycles, they choose to explore unmapped caves, and they choose to smoke.  We do not interfere in decisions to skydive and we do not try to discourage spelunking.  What is different about smoking?

External costs

            An economist's first response is external costs.  Unsuccessful skydivers or motorcyclists or spelunkers harm only themselves.⁶  If the benefits of skydiving to participants exceed the costs, and no one else is affected, skydiving is an efficient activity.  There is no reason to interfere.

However, smokers impose costs on others -- what economists term external costs.  Cigarette smoke can irritate others and many studies list second-hand smoke as a threat to the health of innocent bystanders.  More important, the medical costs of tobacco-related illnesses often are heavily subsidized by government programs.  Smokers are a drain on the public coffers. 

If smokers fail to consider the costs they impose on others, they will perceive smoking to be less costly than it truly is.  The result is too much smoking, an inefficiently high level of smoking.⁷  To the extent that high taxes can reduce such inefficient smoking, society will be better off.  And the extra tax revenue can be justified as fair compensation for the extra costs smokers impose on our medical care sector.   The graph below illustrates the problem..

            The market equilibrium equates the quantities supplied and demanded at price P₀ and quantity Q₀.  However, the allocatively efficient output that equates MB and MC to society is Q₁.  Imposing taxes on cigarettes will raise the cost of production, shift the industry supply curve to the left, and push the equilibrium output back towards the efficient Q₁. 

Are we sure?

            The argument rests on the assumption of external costs.  Are they real?  Not everyone is convinced.  No one doubts that second-hand smoke can be an aromatic irritant to others, and most scientific studies now find it responsible for a variety of health problems, especially in children and those with respiratory illnesses.⁸  However, these damages are a function of where people smoke rather than whether they smoke.  Such impacts do not call for multibillion taxes. They can be handled more effectively by segregating smokers in well-ventilated areas.

            What about health costs to the smokers themselves?  Surely, tobacco is implicated in a variety of serious health problems, and these are treated partly with taxpayer dollars.  But tobacco is not alone.  Poor dietary habits may be more hazardous, yet we hear no political hue and cry for chocolate cheesecake or Twinkie taxes.  More important, the costs may be illusory.  Calculations used by state attorneys general to bolster their tobacco lawsuits omit a critical factor.  Smokers die sooner than non-smokers. Smokers do use more medical resources per year, but they live fewer years.  Smokers are less likely to run up costly nursing home bills, and are less likely to collect on their government Social Security pensions.  Economist Kip Viscusi estimates that nursing home care and pension savings more than offset the extra medical bills.  Smokers do not drain the public coffers; they actually add to them.  According to Viscusi taxpayers save more than 30 cents per pack.⁹

            If second-hand smoke is not a serious health hazard and if smokers are less expensive than non-smokers to taxpayers, where are the external costs?  If there are no external costs, why do we slap such heavy taxes on tobacco products?  Why are we imposing multibillion penalties on cigarette producers and consumers? 

            Got me.

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Notes:

1.         Older brothers have ruined many an innocent child.

2.         Self-service gas stations had not yet been invented.

3.         Quoted in The Economist, December 20, 1997, page 59.

4.         The funds are being funneled to states on through a series of annual payments.  The states initially argued that the a large percent of the funds would be used to combat youth smoking but, not surprisingly, that has not occurred.  Most of the dollars have disappeared into the states' general operating budgets with little or no effect on anti-tobacco program funding. See Rhodes, Karl, "Up in Smoke," Region Focus, Federal Reserve Bank of Richmond, Spring 2003, pp. 21-25.

5.         Economist Kip Viscusi estimates that a 10 percent increase in price might cause a 12-14 percent drop in teenage consumption of cigarettes. See Viscusi, W. Kip, "Smoke and Mirrors: Understanding the New Scheme for Cigarette Regulation," The Brookings Review, Winter 1998, page 16.

6.         Strictly speaking, this is untrue.  The untimely death of a young skydiver will adversely impact her friends and family.  A more accurate statement would be that such activities have relatively little impact on others.

7.         As a hypothetical example, suppose a rational young man correctly estimates that he will receive $20,000 of lifetime benefits from smoking at a personal cost of $18,000.  In addition, suppose that his decision to smoke will impose $3,000 of external costs on others.  To the young man, smoking is efficient.  It will generate $2,000 of benefits over and above costs.  However, in this example at least, smoking is not efficient to society as a whole.  His net gain of $2,000 will be more than offset by the $3,000 cost he is imposing on others. 

8.         O'Neil, John, "A Warning on Hazards of Secondhand Smoke," The New York Times, June 28, 2006.

9.         See W. Kip Viscusi,  "The New Cigarette Paternalism,"  Regulation, Winter 2002-2003, pp. 62-63.

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Testing Yourself

To test your understanding of the major concepts in this reading, try answering the following:

1.         Explain the rationale for taxing cigarettes and illustrate the effect with an appropriate graph.

2.         Explain why cigarette taxes are more politically popular than in the past.

3.         Explain the economic argument against raising cigarette taxes further.

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