Why Sri Lanka needs smarter approach to tobacco tax policy

SRI Lanka's tobacco taxation strategy is facing renewed scrutiny as authorities navigate the dual priorities of public health and revenue generation. Central to recent tobacco tax policy discussions is the Tobacco Excise Tax Simulation Model (TETSIM)—a policy planning tool promoted by the World Health Organization (WHO) and adopted in several countries to project how adjustments to tobacco taxes impact consumption levels and state revenue. In Sri Lanka, TETSIM is increasingly being referenced by health advocates and economists as a way to inform more data-driven fiscal policies.

- BY CEYLON TOBACCO COMPANY

The model was designed to offer a standardised framework to support tax policy reforms in developing countries. However, emerging data and real-world outcomes suggests that this one-size-fits-all model may not be fit-for-purpose in Sri Lanka's unique economic and social landscape.

At its core, TETSIM assumes that cigarette demand is highly inelastic that is higher prices and taxes will have a proportionately lower impact on consumption. In simpler terms, the model estimates that a 10% price increase would reduce cigarette volumes by around 5%. However, a recent study by Frontier Economics explains that this view is outdated, and it is inaccurate to assume that this can be generally applied to all markets.

A closer look at market data from Sri Lanka, suggests that this assumption may not hold. Between January 2022 and December 2024, cigarette increased by 146%, while legal cigarette sales dropped by 33%, falling to 1.91 billion sticks according to the 2024 Annual Report of Ceylon Tobacco Company PLC.

That's a far cry from the model's forecast, which claimed that a 50% tax increase would lead to less than a 1% drop in smoking.

Outdated assumptions

The reliance on historical global averages some drawn from decades-old datasets makes TETSIM ill-equipped to reflect today's market dynamics. Rising tobacco prices, the introduction of alternative nicotine products, and growing consumer price sensitivity all demand a more current and country-specific approach.

Moreover, the TETSIM model restricts the elasticity input range, effectively encouraging governments to believe that higher taxes will always increase revenue. This contradicts findings from several global countries, including the EU, where price elasticity varies significantly across countries. Without adjusting for current consumer behaviour, enforcement capacity, and local affordability, the model creates a false sense of fiscal security.