Taxing tobacco: ‘Gov’t still earns if poor, youth buy less’

Judith Balea

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Only the price-sensitive segments of the population—the poor and the youth—will be discouraged by higher cigarette prices. The rich will still buy the products

(Second of 4 parts)
MANILA, Philippines – The reasons for raising excise taxes on tobacco are clear. The government wants to reduce consumption of the “sin” product, especially among the poor and young. Increasing tax rates will lead to an increase in the prices of cigarettes, making them more expensive for the price-sensitive segments.

Ultimately this will reduce government expenditures on tobacco-related illnesses, and generate funds for its universal health care program.
With a watered-down bill, however, questions have been raised on whether the impact on consumption that increased taxes originally intended would still be achieved.

The answer, according to finance and economic experts, is yes. But it will take time.

The experience of other countries are instructive, too, in refuting the argument that when consumers buy less cigarettes, government’s revenue collection would plummet, too.

Cheapest in PH

The Philippines is among the top smoking countries in the world. In fact, it’s the number one in South East Asia, Health Secretary Enrique Ona told an August 16 Senate hearing on the sin tax bill. He was citing data from a 2007 report by global research firm ERC Statistics Intl Plc.
On the average, he said, every Filipino smoker consumes 1,073 sticks per year, higher than his counterparts in Indonesia (974), Vietnam (887), Malaysia (646), Thailand (634), Laos (544), Cambodia (447), Singapore (406), and Myanmar (209).
Largely behind this number is the fact that the Philippines has “one of the cheapest cigarette prices and lowest excise tax rates in the world,” said Finance Secretary Cesar Purisima in the same Senate hearing.
According to data from the ASEAN Tax Report Card 2012 of the Southeast Asia Initiative on Tobacco Tax, the most popular local (Fortune) and foreign (Marlboro) brands in the Philippines are priced US$0.27 and $0.63 per pack, respectively. These are lower than their prices in Thailand at $1.76 and $2.36, respectively; and in Vietnam at $0.63 and $0.74, respectively.
Tobacco firms can afford to pull down their prices in the Philippines because the country has one of the lowest excise tax rates on tobacco in the region at 30% of retail price. The rates in Cambodia (10%) and Laos (15-30%) are lower than the Philippines’.
Local cigarette prices here are low, and even get cheaper over time, because of the way the excise tax system is structured. There are 4 tiers that differentiate low-priced, medium-, high-, and premium-priced brands, which have set tax rates imposed on them. Of course, the lower the price, the lower the tax rate. The tax rates are based on prices that were fixed on the existing brands in 1996 and are not adjusted for inflation.
Under this system, a brand that was classified in as low-priced with a retail price of less than P5 in 1996 was taxed P2.47 per pack. By 2010, when that same pack was already being sold for P9.49, the tax imposed on it was still P2.47 per pack—much lower than the P11.43 tax that should have been imposed on it if there were no price freeze on its tier.
This system also gives consumers a lot more options; they can shift to lower-priced cigarettes if they don’t have that much money.
The government wants to change all this by reforming the tax structure.
The original House Bill 5727 sought to remove the price freeze and collapse the 4 tiers into 2, with higher tax rates during the first 2 years of implementation before shifting to a unitary tax of P30 per pack for all brands in the third year. It also wanted to automatically adjust the tax rates in line with annual inflation.

On the other hand, the watered-down bill seeks to remove the price freeze, but only provides for 2 tiers and an 8% increase every 2 years starting 2015.

Effects on consumption
Based on estimates by the Department of Finance (DoF), cigarette consumption under the original bill seeking a unitary tax rate of P30 will go down by nearly half—from 5.45 billion packs (prior to reform) to 2.8 billion in the first year of implementation, 2.6 billion in the second, 2.51 billion in the third, and 2.5 billion in the fourth.
Under the new version of the bill, consumption will also decrease to the same level by the second to fourth years. In the first year of implementation, however, the decrease won’t be as dramatic as targeted under the original version of HB 5727. Consumption will be cut down to just 3.1 billion packs in the first year, 2.55 billion in the second, 2.50 billion in the third, and 2.55 billion in the fourth.
But economist Filomeno Sta. Ana of the Action for Economic Reforms and Finance Assistant Secretary Teresa Habitan explained that under the new bill, brands will “eventually” move to the high tier (retail price of above P11.50, with tax of P30) from the low tier since cigarette prices will inevitably go up because of inflation. Essentially, this means all brands will be levied just one rate.
“It will take longer, but it will lead to that,” Sta. Ana said.
“It all depends on how they (companies) are going to price their products, and how fast the prices will change,” added Habitan.
Nonetheless, Sta. Ana said: “The preferred version is still to immediately move to a unitary tax or move in 2 or 3 years.”
He said the longer it takes the country to shift to a unitary tax rate, the higher the economic costs it will bear in terms of foregone tax revenues for government and medical expenses stemming from smoking-related diseases.
Addicts don’t mind prices

Sta. Ana, meanwhile, said that demand for cigarettes is “inelastic” or not sensitive to prices due to their addictive nature. That is why consumption is not proportionally responsive to changes in prices.
For example, the weighted average price of all cigarette brands is P19.05 per pack as of 2012. In the first year of implementation of the amended sin tax bill, according to DoF data, it will go up by 74% to P33.09 per pack. However, consumption will go down by only 43% to 3.10 billion packs from 5.45 billion.

In short, government will still earn even if consumers smoked less.

“Using a range of elasticity coefficients, which will measure the drop in demand and the increase in revenues, you’ll still come out with positive figures for revenues and at the same time see a reduction in smoking prevalence,” Sta Ana said.
He noted that only the price-sensitive segments of the population—the poor and the youth—will be discouraged by the higher cigarette prices. The middle class and the rich will still buy the products.

“There’s still a segment of consumers who will still buy the products. The revenues from the higher tax rates will more than offset the revenue losses due to the drop in demand,” he said.

Worldwide trend

The fear of pro-tobacco groups that lower consumption would lead to lower tax revenues for government is therefore “unfounded,” noted Sta. Ana.
The formula of increasing taxes to reduce consumption, while continuously generating revenues for government, has worked in other countries, including the United States, South Africa, Thailand, and Indonesia.

In South Africa, for example, a World Health Organization study showed that after increasing the excise tax to 32.8% of average cigarette price in 2001 (from 21.3% in 1994), tobacco consumption fell 38% to 1.27 million from 1.76 million packs.

Despite the decline in consumption, excise tax collection in the country jumped by a hefty 118% to 2.54 billion from 1.162 billion South African rands, according to the study. –

(Next: Lower sin tax, less health care for poor?)

(Previous: Higher cigarette taxes: A promise compromised?)

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