The Comparison Between Ad Valorem and Specific Taxation under Imperfect Competition: Evidence from the European Cigarette Industry

Abstract

Recent theoretical work has shown that the incidence of ad valorem and specific taxes may differ and each may be over or under-shifted onto consumers in the presence of imperfect competition. Empirical comparison of the price effects of the two taxes is limited. There are no previous estimates of these effects derived from data displaying reasonable variation in both types of taxes. We fill this gap by estimating the impact on prices of specific and ad valorem taxes levied on cigarettes in Europe. The results are consistent with the theory. There is evidence of under and over-shifting and the specific tax has a significantly greater effect on price than the ad valorem