Policy Recommendations

Lawmakers consistently advance cigarette excise taxes in order to raise revenue, improve health or both. Few seem aware that the higher tax is unlikely to raise the projected revenue or cause smokers to abandon cigarettes in droves.

With high cigarette excise taxes, states like Michigan, California, New York and New Jersey have already created massive illegal cigarette markets. Indeed, state tobacco taxes have provided profits for organized crime. There are real societal costs to smuggling and its unintended consequences: violence against innocent victims, strain on police and the legal system, theft, property damage and use of unfiltered legal cigarettes and adulterated counterfeit tobacco products.

With extremely high rates of excise taxation, it is even possible that a net decline in cigarette tax revenue could occur, thwarting lawmakers’ aims. This appears to have happened in New Jersey. State cigarette tax revenues had been increasing for several years prior to a state cigarette tax increase in July 2006 (the beginning of the 2007 fiscal year), when the tax was hiked from 240 cents per pack to 257.5 cents per pack.[76] This increase corresponded to a decline in gross state cigarette tax revenues, from $788.7 million in fiscal 2006 to $766.5 million in fiscal 2007; $764.7 million in fiscal 2008; and $728.1 million in fiscal 2009.[77]

Remarkably, New Jersey was not finished raising taxes. The state’s 2010 fiscal year began in July 2009 with another cigarette tax hike, this one from 257.5 cents to 270 cents.[78] Revenue in the first full year of the tax hike did increase, but by less than one-half of 1 percent, to $735 million — an amount that was still well below 2006 levels.[79]

As states with high cigarette tax rates contemplate further increases, they should consider the negative consequences. They should also consider rolling back excise taxes to thwart smuggling and other unintended harms. It may not be enough for high-tax states to do no more harm; some, like Michigan, should consider rolling back tobacco tax rates to levels similar to their neighboring states’.

We used our model to estimate what would happen if Michigan cut its cigarette tax to 102.5 cents per pack, the average excise tax rate for Indiana, Ohio and Wisconsin. We estimate that while cigarette revenues would decline by 42 percent, or about $324 million, Michigan’s overall smuggling rate would fall from 26 percent of the state’s total consumption to 16.3 percent — a decline of about 37 percent.[*]

Policymakers should also realize that cigarette taxes disproportionally target low-income people. In other words, they are regressive taxes. Economists Philip DeCicca, Donald S. Kenkel and Feng Liu report that their research shows cigarette excise tax avoidance actually increases with a person’s income, suggesting that cigarette taxes may be even more regressive than they appear.[80]

Lawmakers should also question whether tobacco revenue should be used to support general fund spending. Targeting a minority of the population for taxes to fund programs for the majority is bad public policy. It removes an important link between those who pay for and those who receive the benefits of government spending. Severing this link may only encourage the majority to happily overtax weaker constituencies and ignore the cost of the programs they use. Indeed, if lawmakers are serious about curbing the deleterious health consequences of smoking, they should consider dedicating such revenue to that purpose alone.

Ultimately, lawmakers must consider and respect the value of individual freedom when setting tax policies, including cigarette excise tax rates. People who purchase legal products from licensed retailers are adults. They are considered able — and free — to determine their own destinies. That includes the decision to use tobacco products or not. True, taxation is not prohibition, but as Supreme Court Chief Justice John Marshall once wrote, “That the power to tax involves the power to destroy … [is] not to be denied.”[81]

Lawmakers should also consider the revolutionary proposition the Founders advanced when they wrote of an “unalienable right” to “life, liberty and the pursuit of happiness.” Last August, writer Vincent DeMarco of the Maryland Citizens Health Initiative wrote in the Baltimore Sun that Maryland should hike its alcohol and tobacco taxes to — among other justifications — save lives.[82] On the popular blog site Cafe Hayek, George Mason University economist Don Boudreaux offered a stinging rebuke, writing:

The lives of individuals are the property neither of any government nor of officious “public interest” groups such as the one that Mr. DeMarco leads. The life of each individual Marylander belongs to that individual. If he or she chooses to endure the higher statistical chance of dying sooner rather than later in order to enjoy smoking, drinking, hang-gliding, or gulping down gasoline[,] it is no business of the state or of the likes of Mr. DeMarco. …[83]

We hope lawmakers are careful about imposing excise taxes in the name of living in a tobacco-free world. As we have written before, freedom matters too.

[*] While the estimated impact of both casual and commercial smuggling is found to be statistically significant, estimated smuggling to Canada is not statistically significant.

[76] “The Tax Burden on Tobacco: Historical Compilation, Volume 44, 2009” (Arlington, Va.: Orzechowski and Walker, 2009), 9.

[77] Ibid., 310.

[78] Ibid., 10.

[79] Paul Tyahla, Common Sense Institute of New Jersey, e-mail correspondence with Michael LaFaive, Nov. 9, 2010.

[80] DeCicca, Kenkel and Liu, “Excise Tax Avoidance: The Case of State Cigarette Taxes,” NBER Working Paper Series (2010): 32.

[81] “U.S. Supreme Court Center: McCulloch v. Maryland, 17 U.S. 316 (1819)” (Justia.Com), http://supreme.justia.com/us/17/316/case.html (accessed Dec. 1, 2010).

[82] Vincent DeMarco, “Maryland Sin Taxes Save Lives,” The Baltimore Sun, Aug. 19, 2010, http://articles.baltimoresun.com/ 2010-08-19/news/bs-ed-demarco-letter-20100819_1_alcohol-tax-tobacco-tax-cigarette-tax (accessed Nov. 8, 2010).

[83] Don Boudreaux, “Live Free or Die” (Cafe Hayek, 2010), http://cafehayek.com/2010/08/live-free-or-die.html/print/ (accessed Nov. 8, 2010).