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Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
Tobacco taxes paper
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Tobacco taxes paper

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  • 1. TOPIC: TOBACCO TAXATION IN INDIA CALCUTTA UNVIVERSITY Bsc PART III EXAMINATION 2013 ECONOMICS HONOURS PAPER VIIIB (TERM PAPER) ROLL NO.: 3031-51-0044 REGISTRATION NO.: 031-1224-0204-10
  • 2. TOPIC: TOBACCO TAXATION IN INDIA CALCUTTA UNVIVERSITY Bsc PART III EXAMINATION 2013 ECONOMICS HONOURS PAPER VIIIB (TERM PAPER) ROLL NO. : 3031-51-0044 REGISTRATION NO.: 031-1224-0204-10
  • 3. CONTENTS TOPIC 1. 2. 3. 4. 5. 6. 7. 8. PAGE NO. Abstract………………………………………………….1 Introduction……………………………………………...2 Problem …………………………………………………3 Literature Survey………………………………………...4 Data source and methodology…………………………...6 Analysis………………………………………………….7 Conclusion……………………………………………….13 References………………………………………………..14
  • 4. ABSTRACT Consumption of tobacco products leads to alarming health and economic costs. The most easy and effective way to reduce the high rate of tobacco consumption in India would be to increase the amount of tax levied on tobacco products. It will be shown that an increase in the tax rate will not only lead to a reduction in tobacco consumption but also lead to an increase in the government revenue.
  • 5. Page no 1 INTRODUCTION Consumption of cigarettes and other tobacco products leads to about a million deaths in India, which has the second largest population of tobacco users in the world. Tobacco is consumed in a variety of forms, from smoking tobacco products like bidis * and cigarettes to different types of chewing tobacco products. This relatively high rate of tobacco consumption is partly a result of a very low rate of tax on bidis and an inefficient and complex system of taxing cigarettes1. Tobacco taxes have been thought to satisfy Ramsey rule which states that consumption taxes should be applied to goods with relatively inelastic demands so that welfare losses associated with taxation will be minimized. More recently, many countries have increased tobacco taxes to reduce tobacco use. Assuming that there are social costs associated with tobacco use, tax increases on tobacco are partly based on efficiency grounds, they are based on the idea that tobacco users should bear the full costs of their consumption; thus, in other words the tax is a "users' fee." An increase in the tax rate on tobacco products will reduce tobacco consumption and thereby reduce the number of deaths caused due to consumption of tobacco products. Increase in tobacco taxes will also lead to increase in the government revenue while incurring no or minimal economic harm. Section 1 contains the Problem followed by Section 2 which contains the literature survey. Section 3 covers the data sources and methodology followed by Section 4 which covers the analysis of the problem. Section 5 contains the conclusion and Section 6 contains the references. * Bidis are made by rolling a dried, rectangular piece of temburni or tendu leaf (diospyros melanoxylon) with an average of 0.33 g ofsun-dried, flaked tobacco into a cone secured with thread.1.Prabhat Jha, Emmanuel Guindon, Renu A Joseph, Arindam Nandi, Rijo M John, Kavita Rao, Frank J Chaloupka, Jagdish Kaur, Prakash C Gupta, M Govinda Rao . A rational system of taxation of bidis and cigarettes to reduce smoking deaths in India.
  • 6. Page no.2 PROBLEM This paper focuses on how an increase in the tax rate on tobacco products in India would affect its consumption and whether an increase will lead to a reduction in tobacco consumption as well as an increase in government revenue.
  • 7. Page no.3 LITERATURE SURVEY “Sugar, rum, and tobacco, are commodities which are no where necessaries of life, which are become objects of almost universal consumption, and which are therefore extremely proper subjects of taxation” —Adam Smith, The Wealth of Nations, 1776. A fundamental principle of economics is that of the downward sloping demand curve or the law of demand : Other things equal,when the price of a good rises, the quantity demanded of the good falls and vice versa. Many have argued that tobacco use is an exception to this law and that addictive consumption was not conducive to standard economic analysis (e.g. Elster, 1979; Winston, 1980). However, economic research clearly demonstrates that the demands for cigarettes and other tobacco products respond to changes in prices and other factors. In the recent times, few studies have focused on the pattern of tobacco consumption in developing countries (e.g. Xu, Hu and Keeler, 1998; van der Merwe, 1998). Warner (1990) argued that given the low incomes and relatively low cigarette consumption in developing countries, demand in these countries is likely to be more responsive to price than demand in affluent countries. Frank. J Chaloupka surveyed individual level data and found empirical evidence which indicated that higher taxes significantly reduce cigarette smoking and use of other tobacco products. He also found that for increased taxes to have maximum effect on consumption, the real value of the increase must be sustained. While ad valorem taxes will increase with nominal prices, specific taxes will be eroded by inflation unless they are increased frequently and by sufficient amounts to maintain their real value. Due to the presence of substitution among tobacco products, comparable increases in the taxes of all tobacco products are needed to maximize the health benefits of a tobacco hike. He also found that the impact of a tobacco tax increase on consumption depends on the magnitude of the increase in price that results. To the extent that increase in tobacco tax results in organized and casual smuggling of tobacco, the effects on tobacco consumption may be reduced. He suggested that earmarking tobacco taxes for tobacco control programmes including education and prevention, media campaigns, cessation programs and other health efforts as well as crop diversification and other efforts to reduce the impact on tobacco growers can reduce some of the welfare losses associated tobacco tax increase and lead to increased reduction in tobacco use.
  • 8. Page no 4 According to a paper by Jonathan Gruber and Botond Koszegi, in order to raise revenues efficiently, optimal tax theory suggests that governments target goods with inelastic demand. Yet the counterargument to such an approach is that these inelastic goods are typically consumed more by the poor, so that such taxes are inequitable. For tobacco taxation, there is a clear resolution to this dilemma: while the overall elasticity of demand is much less than one, the elasticity of demand for the lowest-income consumers is much higher than for high-income consumers. Hence, governments can raise significant revenue through higher cigarette taxes without placing a large net burden on the poor. Prabhat Jha found increasing tobacco prices to be the single most effective method to reduce smoking (IARC 2011; Jha and Chaloupka 1999).Research to date suggests that estimates of own-price elasticity for bidis (the percentage change in quantity demanded for bidis in response to a 1% change in price of bidis) are in the range -0.4 to -0.9. Thus, a 100% increase in price of bidis would lower bidi consumption by about 40-90%. Preliminary results using the most recent 10 rounds of the National Sample Survey Office (NSSO) suggest total own-price elasticity for bidis in the range of -0.6 to -1.0 and total own-price elasticity for cigarettes in the range of -0.8 to -1.3 (Guindon et al 2011). The Indian estimates of price elasticity are consistent with global estimates for price elasticity for cigarettes (which range from 0.4 to -0.5 in middle- and high-income countries; Jha and Chaloupka 2000; IARC 2011). Prabhat jha made two specific recommendations for tobacco control which would reduce premature mortality and raise in the medium run, substantial revenue—(1) implement a comprehensive tobacco control strategy that uses price and information regulation measures to curb consumption. (2) adopt higher levels of taxation, focused on higher excise rates on bidis and cigarettes with annual adjustment for inflation. Rijo M John, R. Kavita Rao, M. Govinda Rao, James Moore, R. S. Deshpande, Jhumur Sengupta, Sakthivel Selvaraj, Frank J. Chaloupka, Prabhat Jha found that taxes on cigarettes are low, while taxes on bidis have historically been close to zero in rupee terms and the result is that over the past decade, tobacco products have become increasingly affordable. Significant and sustained increases in taxes across all tobacco products would dramatically reduce tobacco consumption, mortality, and morbidity while also raising government revenues. Research shows that a 10% increase in cigarette prices would reduce cigarette consumption by 3.4% in rural India and 1.9% in urban India, while a 10% rise in bidi prices would reduce bidi consumption by 7.5% and 8.2% in rural and urban India, respectively. These price increases together correspond to a 1.7% and 11.7% decrease in youth cigarette and bidi smoking prevalence. The health impact of a bidi price increase of 52.8% achieved through increased taxes would avert 4.6 million premature deaths in current smokers, while a cigarette price increase of 176% through increased taxes would avert an additional 1.8 million
  • 9. premature deaths in current smokers. Neither of these percentage increases is a large change in rupee equivalents, given the low average prices of both bidis and cigarettes. Page no 5 DATA SOURCE AND METHODOLOGY The data sources are as follows:  www.aftcindia.org  www.whoindia.org Methodology Data on consumption pattern of tobacco products have been drawn from the Global Adult Tobacco survey (GATS) 2009-2010. GATS India was the first nationwide survey in which electronic handheld machines were used for data management and collection. The estimates are based on 69,296 interviews of males and females. The GATS survey shows the percentage of adults who consume tobacco in different forms viz. cigarettes, bidis and leaf tobacco. The GATS data has been analysed to show the prevalence of tobacco consumption in both urban and rural areas as well as the overall scenario. The total consumption of cigarettes and bidis for the year 2009-10 have been obtained from published studies. Retail prices of cigarettes and bidis for the year 2009-2010 have been obtained from the Labour Bureau, Ministry of labour, GOI. Excise duty rates and the tax revenue figures for the year 2009-10b have been drawn from the department of revenue, Ministry of finance,GOI. Price elasticity of demand of different tobacco products have been obtained from published studies. John (2008) estimated the price elasticity of demand for three different tobacco products (bidis, cigarettes, and leaf tobacco) separately for rural and urban India as well as the overall elasticity using the 55th round National Sample Survey data for the year 1999-2000.3 Using the own price elasticity estimates, the effect of a 10% change in tobacco price on tobacco consumption has been calculated. The elasticity estimates have been used to calculate the percentage change in the quantity demanded of various tobacco products and using this, we have estimated the change in cigarette and bidi consumption due to a 10% hike. The change in excise duty has also been calculated and using this and the hanged consumption levels we generate the change in government revenue. The results have then been analysed.
  • 10. Page no. 6 ANALYSIS The GATS (2009-10) data on the pattern of tobacco consumption shows the percentage of individuals (the estimates are based on 69,296 completed interviews) engaged in tobacco consumption in rural and urban areas in various forms viz. cigarettes, bidis and tobacco leaves (smokeless tobacco). The GATS India survey highlighted the following:  Current tobacco use in any form:34.6% of adults; 47.9% males and 2.9% females.  Current tobacco smokers:14.0% of adults; 24.3% males and 2.9% females.  Current cigarette smokers : 5.7% of adults; 10.3% males and 0.8% females.  Current bidi smokers: 9.2% of adults; 6.0% males and 1.9% females.  Current users of smokeless tobacco (leaf tobacco) :25.9% of adults; 32.9% males and 18.4% females. The prevalence of consumption of various tobacco products in rural and urban according to GATS(2009-10)as well as at the aggregate level has been tabulated in the table below. Table 1: Tobacco consumption (in percentage) Male(%) Cigarette Bidi Smokeless tobacco 10.3 6.0 32.9 Female (%) 0.8 1.9 18.4 Urban (%) Rural (%) Overall (%) 7.0 5.5 17.7 5.2 10.7 29.3 5.7 9.2 25.9 Currently there are 274.9 million tobacco users, age 15 and above, in India. Among them, 197.0 million are males and 77.9 million are females; and 216.0 million tobacco users from rural areas and 58.8 million from urban areas. GATS India estimates the number of daily tobacco users to be 231.9 million (167.7 million males and 64.2 million females). The proportion of women smokers is lower than that compared to men. Also, prevalence of tobacco use is more pronounced in rural areas than in urban areas.
  • 11. Page no 7 Table 2: Adults who are current smokers of various tobacco products (in thousands) Cigarette Bidi Smokeless tobacco Male 43,086 66,081 1,35,247 Female 3,272 7,232 70,734 Urban 16,361 12,775 41,049 Rural 29,997 60,539 16,493 Overall 46,358 73,314 2,05,981 Table 2 shows the number of adults who are current smokers of various tobacco products according to GATS(2009-2010). We need to show the effect of an increase in tax on the pattern of consumption of tobacco. An increase in tax will inevitably lead to an increase in the price of tobacco products and as per the law demand, increase in price will necessarily lead to a fall in the quantity of tobacco products demanded. To show if increase in price necessarily leads to fall in quantity demanded and also to calculate the magnitude of such change we will use the own price elasticity estimates of tobacco products. Own price elasticity of demand of a tobacco product measures how much the quantity of tobacco demanded responds to a change in price. It measures how willing consumers are to move away from the product as its price rises. The own price elasticity is computed as the ratio between the percentage change in quantity demanded to the percentage change in the price. Demand for a good is said to be elastic if quantity demanded responds substantially to changes in the price. Demand is said to be inelastic if the quantity demanded responds only slightly to changes in the price. Demand is elastic when the elasticity is greater than 1, so that quantity demanded moves proportionately more than the price. Demand is inelastic when the elasticity is less than 1, so that quantity demanded moves proportionately less than price. If the elasticity is exactly 1, the quantity demanded moves the same amount proportionately as price and demand is said to have unit elasticity. John(2008) estimated the own price elasticity of demand for three different tobacco products viz. cigarettes, bidis and leaf tobacco separately for rural and urban India using the National Survey Sample data for the year 1999-2000. The own price elasticities of the different types of tobacco products in urban, rural areas as well as the overall elasticity have been shown in the table below.
  • 12. Page no 8 Table 3: Own price elasticity of different tobacco products- cigarette, bidi and leaf tobacco Cigarette Bidi Leaf tobacco Urban -0.196 -0.75 -0.874 Rural -0.338 -0.82 -0.871 Overall -0.348 -0.07 -0.883 Source:John (2008) In the table above, the estimate of -0.196 suggests that a 10% increase in the price of cigarette will lead to a decrease in urban cigarette consumption by 1.96%. From the table, we find that the own price elasticities of demand are negative. It can also be seen that cigarettes are relatively price inelastic in urban India than in rural India. Except in the case of cigarettes, own price elasticity estimates for rural and urban India are nearly the same. A 10% increase in bidi prices could reduce rural bidi consumption by 8.2%. Also, a 10% increase in cigarette prices could reduce rural cigarette consumption by 3.4%. Cigarette demand is relatively inelastic, that is , an increase in cigarette prices will lead to a less than proportionate decline in cigarette demand. Again it can be seen that bidi consumption is slightly more elastic than urban bidi consumption, implying that rural India is slightly more responsive to increase in bidi prices than urban India. Clearly, from the own price elasticities of demand it can be inferred that tobacco products in India do respond to price changes, though increases in price lead to slightly less than proportionate reductions in consumption in case of bidis and leaf tobacco and less pronounced reductions in consumption in the case of cigarettes. For any given amount of tax, the quantity of tobacco consumed will decline for products with larger demand elasticities. In India’s case, these products are bidis, which are the predominantly smoked and inadequately taxed form of tobacco. The elasticity estimates have been used to calculate the change in the demand of the different tobacco products when their price increases by 10%. This increase in price can easily be brought about by an increase in existing tax rates. The change in quantity demanded as a result of increase in tobacco prices by 10% has been shown in the table below. Table 4: Percentage change in tobacco consumption due to a 10% increase in the price. Cigarette Bidi Leaf tobacco Urban (%) 1.96 7.5 8.74 Rural (%) 3.38 8.2 8.71 Overall (%) 3.48 7.0 8.83
  • 13. Page no 9 From table 4, we see that a 10% tobacco hike leads to a 1.96% fall in demand in cigarettes, a fall of 7.5% in bidis and a fall of 8.74% in leaf tobacco consumption in urban India. In case of rural India, the percentage change in cigarette, bidi and leaf tobacco consumption respectively are 3.38%, 8.2% and 8.71%. John’s study shows that a 10% hike will lead to overall fall in consumption of cigarettes by 3.48%, bidis by 7.0% and leaf tobacco by 8.83% From the table we find that higher cigarette, bidi and leaf tobacco prices reduce the prevalence of cigarette, bidi and leaf tobacco consumption. Rural areas are more responsive to changes in the prices of tobacco products and hence, the reduction of the prevalence of tobacco consumption will be more in rural areas. A 10% increase in tobacco prices will not only lead to changes in consumption but also lead to change in the total revenue earned by the government from the imposition of tax. The impact of a price change on total revenue (the product of price and quantity) depends on the elasticity of demand. When the own price elasticity is less than 1, i.e. when demand is inelastic, an increase in price leads to a decrease in quantity demanded that is proportionately smaller. So, total revenue increases. However, when demand is elastic, i.e. elasticity is more than 1, an increase in the price leads to a decrease in quantity that is proportionately larger, so, total revenue decreases. When demand is unit elastic (price elasticity=1), total revenue remains constant when price changes. We focus on tobacco smoking rather than smokeless tobacco for three reasons. Firstly, because inhaled tobacco causes more diseases than does oral tobacco use. Secondly, smoking tobacco causes direct negative externalities whereas smokeless tobacco which is usually chewed does not. Thirdly, control of smoking is far more feasible than control of smokeless tobacco due to the existence of a large informal market and many subsuppliers. Annual consumption of manufactured cigarettes and bidis in India varies across data sources. We use the estimates obtained from a survey by the Government of India in 2010 which suggest an annual consumption of 73 billion cigarettes and 344 billion bidis in 2009-10. Revenue from central excise duties on cigarettes and bidis in 2009-10 were estimated to be 95 billion and 4.82 billion respectively. Central excise duty on cigarettes and bidis for 2009-10 was found to be Rs.1300 and Rs.14 (per 1000 sticks) respectively. The table below shows the consumption, excise duty rates and revenue as per the tax rates in 2009-10.
  • 14. Page no.10 Table 5: Consumption, excise duty rates and revenue as per the tax rates in 2009-10. Cigarette Bidi Excise duty (Rs per 1000 sticks) 1300 14 Excise duty per sticks (Rs.) 1.3 0.014 Unit price (Rs.) 3.0 0.196 Tax rate % of retail price 43.33 7.12 Consumption (in billion) 73 344 We will now analyse the effect of an increase in the price of various tobacco products through a 10% increase in tax. For this we use the overall own price elasticity estimates of cigarette and bidi consumption from table 3 which are 0.348 and 0.7 for cigarettes and bidis respectively. The change in government revenue is then evaluated. We first consider the case for cigarettes and then the case for bidis. Table 6 : Impact of increasing taxes on cigarettes on consumption and government revenue. Tax increase Unit price (Rs) Tax rate % of retail price 0% 10% 3.0 3.0 43.33 47.67 Excise duty (Rs. per 1000 sticks) 1300 1430 Tax per stick (Rs) Consumption (in billion) Tax revenue (billion Rs) 1.3 1.43 73 70 95 100 Table 7: Impact of increasing taxes on bidis on consumption and government revenue . Tax Unit Tax Excise Tax per Consumption Tax increase price rate % duty stick (in billion) revenue (Rs) of (Rs. per (Rs) (billion Rs) retail 1000 price sticks) 0% 0.196 7.12 14 0.014 344 4.82 10% 0.196 7.85 15.4 0.0154 320 4.93 Let us first discuss the case for cigarettes. From table we find that with an increase of tax by 10% the excise duty rates per 1000 sticks from Rs1300 to Rs1430. The increase in tax is likely to cause cigarette consumption to fall from 73 billion to 70 billion and the corresponding tax revenue rises from Rs.95 billion to Rs.100 billion. Thus, cigarette
  • 15. consumption will fall by 3 billion and there will be Rs.5 billion rise in the government revenue as a result of a 10% increase in tax on cigarettes. Page no.11 Let us now discuss the case for bidis. From table we find that with an increase of tax by 10% the excise duty rates per 1000 sticks from Rs.14 to Rs.15.4. The increase in tax is likely to cause bidi consumption to fall from 344 billion to 320 billion and the corresponding tax revenue rises from Rs.4.82 billion to Rs.4.93 billion. Thus, bidi consumption will fall by 24 billion and there will be Rs.110 million rise in the government revenue as a result of a 10% increase in tax on bidis. It is clear from the above analysis that raising prices of tobacco products through imposition of taxes or raising existing tax rates is a sure way of reducing the prevalence of consumption of various tobacco products. Increasing the tax rate of cigarettes from 43.33% to 47.67% of the retail price and that of bidis from 7.12 % to 7.85% of the retail price will both reduce prevalence of their respective consumption as well as result in increase in the revenue collected. Thus, we find that raising prices of tobacco products through the imposition taxes can reduce tobacco use both in rural an urban areas. Higher prices will not only discourage youth from initiating cigarette consumption but also encourage existing smokers to quit smoking
  • 16. Page no.12 CONCLUSION The review of the literature survey as well as the analysis makes it clear that an increase in tobacco prices through imposition of tax or raising existing tax rates will necessarily lead to reduction in tobacco consumption in its various forms as well as increase the government revenue. Imposition of taxes on cigarette, bidi and leaf tobacco will lead to significant reductions in the use of these products, resulting from reductions in the frequency of use by existing users, as well as reductions in the prevalence of use. Given this evidence, higher tobacco taxes are likely to be the single most effective policy option for reducing the public health toll from tobacco. When combined with other tobacco control activities, which can be funded by allotted tobacco taxes, even larger reductions in youth and adult tobacco use can be achieved. In India, bidi is predominantly smoked and it is also the most inadequately taxed tobacco product. Research shows that if taxes in India are increased from Rs.14 to Rs. 98 per thousand sticks (from 9% to 40% of retail price) an on cigarettes from Rs.659 to Rs.3691 per thousand sticks (from 38% to 78% of retail price), 18.9 million lives will be saved among live Indians today. Also, not only can tax imposition reduce tobacco consumption, it will also raise government revenue. It has been estimated that the increase in tax as mentioned above will provide the government with an additional Rs.183.2 billion in tax revenue. Thus increasing taxes can save a million lives through reduced consumption. The earmarked revenue can be used to support a comprehensive tobacco control programme or other social and public health programmes.
  • 17. Page no.13 REFERENCES    Economics: Principles and applications by N.Gregory Mankiw Economics of Tobacco and Tobacco Taxation in India by Rijo M John, R. Kavita Rao, M. Govinda Rao, James Moore, R. S. Deshpande, Jhumur Sengupta, Sakthivel Selvaraj, Frank J. Chaloupka, and Prabhat Jha. www.wikipedia.com Page no.14

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