The price of cigarettes can be interlinked with another determinant of demand, which is the price of substitutes and supplements. As the price of cigarettes increases (this means the price of all brands of cigarettes generally increase) the demand for substitute goods will increase, however there are not many substitute goods for cigarettes other than cigars, but cigars are generally more expensive than cigarettes. Thus as price of cigarettes increases the change in demand will fall but less than the change in price due to it being price inelastic as mentioned before. Another determinant of demand is income. “As peoples incomes rises, their demand for most goods will rise” (Sloman fifth edition page 32). In this case as the income of consumer rises so does the demand for cigarettes as an extra proportion of their income can be spent on buying more cigarettes. However if consumer’s income decreases the quantity demanded decreases by a smaller percentage than price.
Lastly another determinant of demand that is relevant for cigarettes is taste. Taste as a determinant is extremely important in relation to demand. If cigarettes are heavily advertised which it has been in recent years demand for cigarettes will increase, for example, advertising was so successful for cigarette companies that the tobacco industries “in the mid 1990s it was estimated that around £50 million was spent on advertising cigarettes in the press and £15-20 million on posters” (ASH (undated) basic facts no.3: smoking and economics). However cigarette advertising is now banned and “in 1992, a report for the Department of Health demonstrated that bans on advertising had produced significant drops in consumption in four countries.”
In conclusion it is fair to say that certain determinants of demand have a greater impact on the demand for cigarettes and some determinants have a lesser impact for example demand will vary significantly with taste but not with other determinants such as price or price of substitutes and supplements.
Sales (‘excise’) taxes on cigarettes, which are set by customs and excise, are known as indirect taxes. “It is a tax on the expenditure on goods. Indirect taxes include value added tax (VAT) and duties on tobacco, alcoholic drinks and petrol” (Sloman 5th edition page 67). The way the government tax cigarettes is by a fix amount per unit sold, which is known as a specific tax.
When this specific tax is imposed on cigarettes it has a result of a parallel shifting of the supply curve by the amount of tax imposed on the cigarette. For example if tax on cigarettes increases by 30p then the supply curve will shift up by 30p. The reason why supply shifts by the amount of tax on cigarettes is due to the fact that firms will want to receive the price which will enable tem to recoup the tax they had to pay (see figure 1).
The reason why the demand curve is steep is because demand for cigarettes tends to be price inelastic. So from figure one you can see that the effect of tax is to raise the price of cigarettes and reduce quantity, however also from the graph you can see that price will not rise by the full amount of tax. The incidence of taxes is distributed between the consumers and the producers in the way that the producers “ pay to the extent that price rises and producers pay to the extent that this rise in price is not sufficient to cover the tax” (Sloman 5th edition page 68).