In this paper I look at consumer responsiveness to the cigarette tax. Cigarette taxes are motivated by wanting to raise money for the state and wanting to deter smoking in the state’s population. Obviously reducing smoking in the population would reduce the externalities caused by smoking. We know the health effects are completely detrimental to the consumer, and detrimental to those around them. In addition to this we know that tobacco is an addictive substance, meaning than is inherently extremely inelastic.
To find on how consumers respond to tax increases I conducted a difference in difference analysis of tax revenue before and after a state tax increase and compared them to a state that had a similar level before the tax increase. This showed me how effective the taxes were at raising revenue, but it also allowed me to calculated consumption in the state. I hypothesized that there would be very large increases in the revenue gained after the tax increases and that consumption would remain stable through the tax increases. What I found was that there were rather large increases in revenue, but even more significant decreases in the packs sold in the state. The decrease in packs sold however cannot be considered a decrease in consumption since we know there is an extremely high level of tax avoidance that occurs with cigarettes. According to studies, the decrease in packs sold just points to avoidance by cross border shopping and smuggling, meaning that consumption on the whole remains relatively constant. Tax increases are effective at increasing revenue, but it cannot be said that they are effective at reducing consumption because of the high level of tax avoidance that occurs
