Economics of Tobacco and Tobacco Taxation: Insights from Public Health Perspectives
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Director, Bureau of Economic Research
University of Dhaka
November 13, 2018
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Different combinations of the price and the
quantity that people are willing and able to
buy, during a specific period of time, given
their incomes and tastes and preferences
and all other things.
If all other things are constant, then when
price increases, quantity demanded
decreases and vice versa. There is an
inverse or negative relationship between
price & quantity demanded when all other
things remain constant. This is called the
law of demand.
N. Begum: Economics of Tobacco
2
Basic concepts
(Demand)
N. Begum: Economics of Tobacco
3
A hypothetical example
4
N. Begum: Economics of Tobacco
Presenting this graphically
Demand curve graphically presents
the relationship between demand
and price
This is a negative relationship
Can the demand curve shift?
Distinguish between a
shift of
the
demand curve and a
movement
along
the demand curve
N. Begum: Economics of Tobacco
5
Some comments
The demand curve shifts if any of
the following changes:
Tastes and preferences
Income
Advertising
Price of substitute goods
(and other things)
N. Begum: Economics of Tobacco
6
Shifting the demand curve
N. Begum: Economics of Tobacco
7
Shifting demand curve
graphically
Consider the demand for
cigarettes. What will happen to
the demand curve if the following
things happen?
Tobacco advertising is banned
Indoor smoking is banned
The government increases the
excise tax on cigarettes
N. Begum: Economics of Tobacco
8
Some examples
Nominal price:
•
The price that you see in the shop/retail outlet
•
It changes (increases) from year to year
Real price
•
An “artificial” price that removes the impact of
inflation (i.e. the fact that prices in general are
increasing)
•
It is typically used to determine whether product X
is becoming relatively cheaper or more expensive
over time
Can the nominal price increase and the real
price decrease at the same time?
N. Begum: Economics of Tobacco
9
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Responsiveness
By how much does something
change in response to a 1% change
in something else
N. Begum: Economics of Tobacco
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Elasticity
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:
By how much does consumption of good X
change in response to a 1% increase (or
decrease) in the price of the good
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Percentage change in Q
d
/percentage change in
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between 0 and -1: relatively inelastic
E
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greater than -1 (in absolute terms): relatively
elastic
N. Begum: Economics of Tobacco
11
Price elasticity of demand
1.
What would happen to consumption of
a product if the price increases by 1%
and the price elasticity of demand
was:
-0.5?
-1.2?
0?
2.
If the price increases from 100 Taka to
110 Taka and the price elasticity of
demand is -0.6, by what percentage
would consumption decrease?
N. Begum: Economics of Tobacco
12
Interpreting the measure
N. Begum: Economics of Tobacco
13
Presenting elasticity graphically
At the outset:
1000 smokers, each smoking 100 cigarettes; total
consumption is 100 000 cigarettes
Price = 200 taka
Price elasticity of demand = -0.6
Assume that price increases by 10%
As a result consumption drops by 10 x 0.6 = 6%
New consumption = 94 000
Two questions:
What happens to the number of smokers?
Are remaining smokers going to reduce their smoking?
N. Begum: Economics of Tobacco
14
How does price elasticity work
in practice? An example
Cross price elasticity of demand
Measures the extent that the quantity demanded of
one good changes when the price of another good
changes
Elastic demand
Elasticity less than –1.0
The quantity demanded decreases proportionately
more than the price increases
Inelastic demand
Elasticity greater than –1.0
The quantity demanded decreases by less than the
percentage increase in price
Evidence shows that demand for smoking is
inelastic
N. Begum: Economics of Tobacco
15
Elasticity
International evidence:
About 50% of decrease in consumption is due to people quitting
and the other 50% due to remaining smokers smoking less on
average
Thus in this example
Number of smokers decrease by 3% from 1000 to 970
Average cigarette consumption by remaining smokers
decreases by 3% from 100 to 97 cigarettes
Some smokers are completely unaffected by the price;
others are
A possible (one of an infinite number) outcome is the
following:
•
679 smokers continue smoking at 100 cigarettes
•
291 smokers reduce their smoking to 90 cigarettes
N. Begum: Economics of Tobacco
16
Understanding the decrease in
consumption better
Many studies have estimated the price
elasticity of demand for tobacco
Initially only in high-income countries,
especially the US
Since the early 1990s increasingly in LMICs
Different data sets and techniques
The results are consistent
Price elasticity lies in inelastic range
(between 0 and -1)
Most estimates lie between -0.4 and -0.8
Demand for tobacco is often more price
inelastic in HICs than in LMICs
Lower income groups and young people are
more price sensitive (elastic) than the
general population
N. Begum: Economics of Tobacco
17
What is the magnitude of the
price elasticity of demand for
tobacco?
Overall price elasticity of cigarette
demand is −0.49, which is less than 1
Which means that a given percentage
increase in cigarette price leads to a
less than proportionate decrease in
cigarette consumption
This will result in higher tobacco
expenditure along with higher tax
revenue for the government.
In Bangladesh the impact of increasing
price through taxation would have a
considerably greater impact on
reducing health harms of tobacco use
than in other countries – N.
Nargis et al. (2013)
N. Begum: Economics of Tobacco
18
Bangladesh
Effectiveness of excise tax as a tool
to reduce tobacco use depends on
how the tax increase impacts the
retail price of the product.
People change their purchasing
behavior in response to
retail
price
changes
An excise tax increase typically
increases the price of cigarettes.
The magnitude of the price increase
depends on the degree to which the tax
increase is passed through to
consumers
Referred to as “tax pass-through”
N. Begum: Economics of Tobacco
19
Increased taxes and price
Tax pass-through:
The degree to
which the tax increase is passed
onto consumers in the form of
higher retail prices
If the tax increases by R2, and
the (net-of-VAT) price increases
by
•
Less than R2→ under shifting
•
More than R2→ over shifting
•
Exactly R2→ full pass-through
N. Begum: Economics of Tobacco
20
Tax pass-through
Increasing the excise tax on cigarettes
is a win-win situation:
Reduces consumption
Increases government revenues
The evidence that the price elasticity
of demand for cigarettes is in the
inelastic range is so strong, that one
can safely apply this knowledge to
countries that do not have the data to
allow one to estimate the price
elasticity
N. Begum: Economics of Tobacco
21
Increased taxes and price
Thank you
R. Bitran for 2nd Bangladesh
Flagship
22
Delve into the foundational concepts of demand in economics as applied to tobacco products, with a focus on the relationship between price and quantity demanded. Explore how demand curves shift and the impact of factors such as advertising, income, and government policies on the demand for cigarettes. Gain insights into nominal vs. real prices in the context of tobacco economics.
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Presentation Transcript
Training Program on Economics of Tobacco and Tobacco Taxation: Public Health Perspectives 13-15 November 2018 Economics of Tobacco (Day 1 Session 1.2) Prof. Dr. Nazma Begum Director, Bureau of Economic Research University of Dhaka November 13, 2018
Basic concepts (Demand) Different combinations of the price and the quantity that people are willing and able to buy, during a specific period of time, given their incomes and tastes and preferences and all other things. If all other things are constant, then when price increases, quantity demanded decreases and vice versa. There is an inverse or negative relationship between price & quantity demanded when all other things remain constant. This is called the law of demand. 2 N. Begum: Economics of Tobacco
A hypothetical example Price per pack of cigarettes (BDT) Quantity demanded 0 25 50 75 100 125 150 175 200 1100 1000 900 800 700 600 500 400 300 3 N. Begum: Economics of Tobacco
Presenting this graphically 4 N. Begum: Economics of Tobacco
Some comments Demand curve graphically presents the relationship between demand and price This is a negative relationship Can the demand curve shift? Distinguish between a shift of the demand curve and a movement along the demand curve 5 N. Begum: Economics of Tobacco
Shifting the demand curve The demand curve shifts if any of the following changes: Tastes and preferences Income Advertising Price of substitute goods (and other things) 6 N. Begum: Economics of Tobacco
Shifting demand curve graphically 7 N. Begum: Economics of Tobacco
Some examples Consider the demand for cigarettes. What will happen to the demand curve if the following things happen? Tobacco advertising is banned Indoor smoking is banned The government increases the excise tax on cigarettes 8 N. Begum: Economics of Tobacco
Nominal vs. real price Nominal price: The price that you see in the shop/retail outlet It changes (increases) from year to year Real price An artificial price that removes the impact of inflation (i.e. the fact that prices in general are increasing) It is typically used to determine whether product X is becoming relatively cheaper or more expensive over time Can the nominal price increase and the real price decrease at the same time? 9 N. Begum: Economics of Tobacco
Elasticity Responsiveness By how much does something change in response to a 1% change in something else 10 N. Begum: Economics of Tobacco
Price elasticity of demand Definition: By how much does consumption of good X change in response to a 1% increase (or decrease) in the price of the good Formula: Percentage change in Qd/percentage change in P Relatively elastic vs. relatively inelastic demand: Ep between 0 and -1: relatively inelastic Ep greater than -1 (in absolute terms): relatively elastic N. Begum: Economics of Tobacco 11
Interpreting the measure What would happen to consumption of a product if the price increases by 1% and the price elasticity of demand was: -0.5? -1.2? 0? 1. If the price increases from 100 Taka to 110 Taka and the price elasticity of demand is -0.6, by what percentage would consumption decrease? 2. 12 N. Begum: Economics of Tobacco
Presenting elasticity graphically 13 N. Begum: Economics of Tobacco
How does price elasticity work in practice? An example At the outset: 1000 smokers, each smoking 100 cigarettes; total consumption is 100 000 cigarettes Price = 200 taka Price elasticity of demand = -0.6 Assume that price increases by 10% As a result consumption drops by 10 x 0.6 = 6% New consumption = 94 000 Two questions: What happens to the number of smokers? Are remaining smokers going to reduce their smoking? 14 N. Begum: Economics of Tobacco
Elasticity Cross price elasticity of demand Measures the extent that the quantity demanded of one good changes when the price of another good changes Elastic demand Elasticity less than 1.0 The quantity demanded decreases proportionately more than the price increases Inelastic demand Elasticity greater than 1.0 The quantity demanded decreases by less than the percentage increase in price Evidence shows that demand for smoking is inelastic 15 N. Begum: Economics of Tobacco
Understanding the decrease in consumption better International evidence: About 50% of decrease in consumption is due to people quitting and the other 50% due to remaining smokers smoking less on average Thus in this example Number of smokers decrease by 3% from 1000 to 970 Average cigarette consumption by remaining smokers decreases by 3% from 100 to 97 cigarettes Some smokers are completely unaffected by the price; others are A possible (one of an infinite number) outcome is the following: 679 smokers continue smoking at 100 cigarettes 291 smokers reduce their smoking to 90 cigarettes 16 N. Begum: Economics of Tobacco
What is the magnitude of the price elasticity of demand for tobacco? Many studies have estimated the price elasticity of demand for tobacco Initially only in high-income countries, especially the US Since the early 1990s increasingly in LMICs Different data sets and techniques The results are consistent Price elasticity lies in inelastic range (between 0 and -1) Most estimates lie between -0.4 and -0.8 Demand for tobacco is often more price inelastic in HICs than in LMICs Lower income groups and young people are 17 N. Begum: Economics of Tobacco
Bangladesh Overall price elasticity of cigarette demand is 0.49, which is less than 1 Which means that a given percentage increase in cigarette price leads to a less than proportionate decrease in cigarette consumption This will result in higher tobacco expenditure along with higher tax revenue for the government. In Bangladesh the impact of increasing price through taxation would have a considerably greater impact on reducing health harms of tobacco use 18 N. Begum: Economics of Tobacco
Increased taxes and price Effectiveness of excise tax as a tool to reduce tobacco use depends on how the tax increase impacts the retail price of the product. People change their purchasing behavior in response to retail price changes An excise tax increase typically increases the price of cigarettes. The magnitude of the price increase depends on the degree to which the tax increase is passed through to 19 N. Begum: Economics of Tobacco
Tax pass-through Tax pass-through: The degree to which the tax increase is passed onto consumers in the form of higher retail prices If the tax increases by R2, and the (net-of-VAT) price increases by Less than R2 under shifting More than R2 over shifting Exactly R2 full pass-through 20 N. Begum: Economics of Tobacco
Increased taxes and price Increasing the excise tax on cigarettes is a win-win situation: Reduces consumption Increases government revenues The evidence that the price elasticity of demand for cigarettes is in the inelastic range is so strong, that one can safely apply this knowledge to countries that do not have the data to allow one to estimate the price elasticity 21 N. Begum: Economics of Tobacco
Thank you R. Bitran for 2nd Bangladesh Flagship 22
