Utah House Passes $1 Cigarette Tax Hike

“He hasn’t told me specifically he is,” Ray said in the AP report. “But you’ve been up here long enough you can just kind of see how things go.”

Herbert spokeswoman, Angie Welling, told the AP the governor will consider the tax increase in the context of the overall budget, and noted he hasn’t decided what action he’ll take on the legislation.

Regarding the passage of the bill, Bill Phelps, spokesman for , parent to Philip Morris USA, told the AP raising taxes is the wrong solution.

“Typically cigarette tax increases do not raise all of the revenue they are projected to raise, creating another budget gap,” Phelps said in e-mail. “Retailers will be hurt by this massive tax increase as some adults cross state lines or turn to the internet to buy cigarettes and avoid paying the tax.”

Commentary:

A negative externality is an action of a product that imposes negative side effects on a 3rd party, which was not involved in the trade. These negative externalities are one of the causes of market failure, because the market itself will only consider the PMC (Private Marginal Cost) and the PMB (Private Marginal Benefits) and ignore the SMC (Social Marginal Cost) and SMB (Social Marginal Benefit). The private marginal costs is the price an individual has to pay to get one more unit of the product and the private marginal benefit is the profit the individual gets from one more unit. These costs and benefits often are very different from the social marginal cost, which is the cost the society pays for one ore unit of the good, and the social marginal benefit, which is the society’s benefit from one more unit. This difference is the cause of market failure, because the market fails to account for the costs society has to bear and the benefits it can get from the goods.

This is where the government has to step in. The government imposes taxes to reduce the bought amount of goods, which have negative externalities and subsidies, which are money paid to businesses to encourage production and consumption of goods with positive effects on society. The externality mentioned in this article is the negative externality of passive smoking.

In a perfect market QS cigarettes would be sold at a price of PS. This is where the society’s costs and benefits meet, the social equilibrium. But because the individual does not consider societies numerous costs, a total amount of QP cigarettes will be sold at price PP. This is what we call a market failure.

The individual’s cost for smoking is insufficient to account for the huge price society has to pay due to passive smoking. There is the inconvenience of breathing the smoke from the cigarettes; the decreased level of health and the money the taxpayer has to pay for health care. The government hast to react to this market failure by imposing a tax on this demerit good, which is a good that has a negative effect on society, to increase its price and therefore shift the Marginal Private Cost Curve right to – ideally – match the Marginal Social Cost Curve. This action should decrease the demand of the good to an acceptable level. The demand for cigarettes is very inelastic. The Price Elasticity of Demand (PED) is the responsiveness of the demand to changes in price. A low elasticity and therefore low responsiveness to changes in price is called inelastic. Cigarettes are an addictive good and therefore it is hard for people to stop smoking and not many people will stop when the price increases.

When a tax is imposed, this will effectively contract supply, because it will increase the price producers are willing to sell their goods at. The red rectangle represents the governments tax revenue. Due to the low PED of cigarettes, the price increases by a lot (from P to P2), while quantity sold barely changes (Q to Q2). This difference leads to a large consumer share of the tax, meaning that most the tax will be payed by the consumers rather than by the producers.

The government uses this fact to increase their tax revenue, which is the total money the government earns from taxes. When they impose a tax on a good with inelastic demand, the revenue will increase. In the article it looks like the government assumes the cigarettes to be perfectly inelastic in demand, because it mentions that the revenue increase has never been as much as anticipated, because even though only few people stop smoking, there are still people who will stop smoking. This means that the government revenue is not increased by as much as expected, but also that there are less smokers, which counters the negative externality.