Are tobacco taxes still a reliable source of revenue?

TOBACCO taxes have been a cash cow for governments around the world. World Health Organisation (WHO) data suggest that combined annual global taxes on cigarettes are approaching $1 trillion. In many countries, however, cigarette tax collections shrink each year because fewer people smoke. This tremendous win for public health should be a cause for celebration.

- BY ADAM HOFFER

But for governments that have become dependent on their tobacco tax revenue, declining revenue means fewer resources available to spend on programs linked to that revenue. Rather than try to fund government programs with a broader and more stable source of revenue, some groups have called to push tobacco rates even higher in an attempt to restore and grow tobacco revenue.

In many parts of the world, tobacco revenue has already been pushed to the limit. Further increases to rates will generate less revenue, and in some cases, decrease cigarette tax collections.

Across the EU, cigarettes are taxed a minimum of 1.92 per pack up to nearly 11 per pack.

Ireland, for example, has the highest cigarette tax in the EU. Despite continual tax rate hikes, increasing by more than 300 percent over the past 25 years, nominal cigarette tax revenue in 2024 was less than nominal cigarette tax revenue in 2000.

Recent data reveal how substantially the cigarette market has changed in recent decades, specifically measured by changes in cigarettes' price elasticity of demand (PED). PED is a formulaic calculation of how consumers respond to (tax-induced) price changes.

The term elasticity is economic jargon for responsiveness or sensitivity. When taxes increase the price of a product, we know the quantity demanded will fall. PED estimates tell us how much they fall. This is particularly useful to policymakers because it predicts the size of an impact a policy may have in discouraging consumption of a targeted product (e.g., carbon, cigarettes, alcohol, etc.). PED also conveys whether revenue will increase or decrease from a tax increase.

Because tax-induced price increases result in quantity demanded decreases, the PED calculation generates a negative number, and is often reported as such in academic publications, but for simplicity in this post, we'll talk about everything in absolute value terms (all positive numbers).