Wednesday, June 16, 2010

Counterproductive Tobacco Measures

There are a number of considerations on the table for ways to regulate the tobacco industry above and beyond the typical cigarette taxes. Many of these involve marketing - further restrictions on advertising, restrictions on placement of cigarettes in a store, restrictions on packaging colors, restrictions on varieties of brands, etc.
Tobacco is a strange good because on a societal level, the "utility" from using tobacco is not considered when looking at usage regulations or optimal industry structure. I agree with this assessment - cigarettes should not be considered a "good", where having more of it is better, holding all else equal and assuming free trade. Instead, they should be considered a "bad", where you pay for it but the less you have of it, the better (this contrasts with externality products, like pollution, where you don't pay for it, you'd pay to get rid of it). My normative assessment, and that of anti-tobacco activists, is that the fact that people who use tobacco have some expectation of utility when they use it - whether this is a teen trying to feel rebellious or an adult addict trying to avoid withdrawal - should not really be considered on a public health level. That "utility" is something we're perfectly happy to throw out, because we see those people as making irrational choices.
This is all fine and good, but it has some very interesting results in terms of optimal policy. Specifically, there is a divergence in policy between minimizing cigarette usage and punishing cigarette producers.
If you want to minimize cigarette usage, a bunch of traditional economic axioms get thrown out.
- you should encourage monopoly, because it leads to inflated prices and customer resentment which can sap demand.
- along the same lines, you want there to be substantial brand strength and you don't want cigarettes to become a commodity, which would depress prices.
The latter is significantly affected by some of the anti-tobacco policies. Restricting packaging colors and varieties, for example, significantly reduces brand strength, which encourages lower quality cigarettes which cost less because consumers start picking on the basis of price instead of brand. Even assuming that low-quality cigarettes have the identical safety consequences as high-quality cigarettes (I doubt it, because of pesticide use and also externalities such as how land is used to grow the tobacco), the net effect is to increase the number of cigarettes per package and to reduce the cost of cigarettes - in effect, making it behave like every other commodity, where producers compete on the basis of quantity produced and low cost instead of brand, quality and taste. Gross margins are high enough on cigarettes (even including excise taxes, which are about 75% of cigarette costs-of-goods-sold) that there is some substantial room to cut prices on cigarettes. This is not a good thing if you believe that cigarette usage is the appropriate target. You could even see a major smuggling uptick, because taxes are very high and it's no longer as important to have a particular brand of cigarette, which has crime implications.
This isn't likely to be a complete switch to commoditization, but changes happen on the margin, and marginal commoditization probably increases cigarette usage by people who have already decided to smoke.
This isn't to say that cigarette marketing is a good thing - ideally, you'd like non-smokers exposed to as little pro-cigarette propaganda as possible - but instead that conditional on you deciding to start smoking, brand differentiation is a good thing - if someone manages to become a smoker even despite ideally low pro-cigarette propaganda, you want them to perceive VERY large differences between brands. To sum it up succinctly, pricing power by tobacco companies is a very, very good thing if you want fewer people to smoke.
Of course, this is predicated on actually wanting to minimize cigarette usage. If you conflate this goal with punishing cigarette companies, then you're going to support every anti-differentiation and anti-pricing power measure listed above because they would shrink cigarette company margins. I don't think cigarette companies are the most wonderful people alive, but they are making a product that's unfortunately legal, and they are responding to demand (tobacco use on the margin is demand-pulled, not supply-pushed), so it seems stupid to demonize them as evil at the expense of actually reducing smoking rates.
[As a side note, the argument that cigarette taxation is regressive is stupid. A regressive tax is bad when it's taxing people who are poor in a way that they can't control. This isn't a "goods" tax - whether that good be labor, consumption or anything else - it's a behavior tax, and thus taxing it does not qualify as regressive even if poor people constitute more smokers than wealthier people. If you had to pay a fine if you committed murder, would you call that unfair to the poor because there are more poor murderers? No, because everyone is equally capable of avoiding that fine by behaving in a way they're supposed to behave anyway - not murdering.]

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