Cigarette ‘Sin’ Taxes Equals Smuggling: US Edition

The populist pseudo-moralistic legislation or quasi-prohibition regulations known as “Sin taxes” have spurred growth of alcohol smuggling in the United Kingdom.

I guess the same effects can be said of cigarette taxes in the US.

Here is Joseph Henchman and Scott Drenkard of the Tax Foundation (bold mine)

Public policies often have unintended consequences that outweigh their benefits. One consequence of high state cigarette tax rates has been increased smuggling, as criminals procure discounted packs from low-tax states to sell in high-tax states. Growing cigarette tax differentials have made cigarette bootlegging both a national problem and a lucrative criminal enterprise.

Every two years, scholars at the Mackinac Center for Public Policy, a Michigan think tank, use a statistical analysis of available data to estimate smuggling rates for each state. Their most recent report uses 2011 data and finds that smuggling rates generally rise in states after they adopt large cigarette tax increases. Smuggling rates have dropped in some states, however, often where neighboring states have higher cigarette tax rates. Table 1 shows the data for each state, comparing 2011 and 2006 smuggling rates and tax changes.

New York is the highest net importer of smuggled cigarettes, totaling 60.9 percent of the total cigarette market in the state. New York also has the highest state cigarette tax ($4.35 per pack), not counting the local New York City cigarette tax (an additional $1.50 per pack). Smuggling in New York has risen sharply since 2006 (+170 percent), as has the tax rate (+190 percent).

Smuggling takes many forms: counterfeit state tax stamps, counterfeit versions of legitimate brands, hijacked trucks, or officials turning a blind eye. The study’s authors, LaFaive and Nesbit, cite examples of a Maryland police officer running illicit cigarettes while on duty, a Virginia man hiring a contract killer over a cigarette smuggling dispute, and prison guards caught smuggling cigarettes into prisons. Policy responses have included banning common carrier delivery of cigarettes, greater law enforcement activity on interstate roads, differential tax rates near low-tax jurisdictions, and cracking down on tribal reservations that sell tax-free cigarettes. However, the underlying problem remains: high cigarette taxes that amount to a “price prohibition” of the product in many U.S. states.

The ramifications of ‘Sin taxes’ appear to be parallel to direct prohibition regulations such as the war on drugs, e.g. fraud, corruption and violence.

My guess is that the same dynamics will apply to the recently enacted law in the Philippines, which will magnify accounts of the surge of incidences in general smuggling.

By the way, cigarette and alcohol bootlegging and smuggling will likely extrapolate to the Philippine government’s failure to attain revenue goals. That’s my prediction. 

On the other hand, smuggling means a shift to, and the subsequent growth of, the informal economy (the gangster "Godfather" type). 

This also implies the expansion of political and bureaucratic corruption, as well as, the greater risks of potential violence, all of which have accounted for as the typical unintended consequences from such noble sounding but unrealistic, uneconomic and immoral quasi-prohibition laws as “Sin Taxes”.   

I might add that since bootlegging means black market production of alcohol and cigarettes, one may also expect an increase of illness of health problems related to these products.  

It has been said that the path to hell is paved with good intentions. This applies to Sin Taxes

Statist Tax Fantasies Unmasked: Two-Third of UK Millionaires Vanish

Once again, reality has made an abject spectacle of popular statist’s fantasies about “class warfare” or “soak the rich” tax policies where tax rates are seen as having linear effects on tax revenues. 

The axiom “if you tax something, you get less of it” seems to have been proven valid anew.  

In Britain, 2/3 of millionaires swiftly vanished (or in just a year!) in the face of 50% tax rate increase. 

From the Telegraph, (bold mine)

Almost two-thirds of the country’s million-pound earners disappeared from Britain after the introduction of the 50p top rate of tax, figures have disclosed.

In the 2009-10 tax year, more than 16,000 people declared an annual income of more than £1 million to HM Revenue and Customs.

This number fell to just 6,000 after Gordon Brown introduced the new 50p top rate of income tax shortly before the last general election.

The figures have been seized upon by the Conservatives to claim that increasing the highest rate of tax actually led to a loss in revenues for the Government.

It is believed that rich Britons moved abroad or took steps to avoid paying the new levy by reducing their taxable incomes…

Far from raising funds, it actually cost the UK £7 billion in lost tax revenue.

The above account shows that amplified elevation of tax rates equals a considerably smaller tax base and significantly lower tax revenues. Maybe politicians should learn about the Laffer curve or the elasticity of taxable income.

In terms of politics of taxation, the Philippines seems to have a parallel experience: When taxes on gold sales were substantially raised, this prompted for a surge in gold smuggling and a similar collapse in tax revenues.

The same phenomenon will likely beset the local version of the proposed sin taxes, which is being pushed by international agencies as Moody’s and the IMF. 

As side note, is the Philippines in a crisis for them to keep intervening by pushing absurd policies (higher mining taxes, SMS tax etc...) and whetting on the insatiable spending appetites of local politicians for a debt financed consumption driven model of economic development?

Yet the blowback from its legislation will likely boost the informal economy and lubricate further corruption, in the same way sin taxes failed in the UK,

We should learn from the lessons from the unmasking of, or the blatant failures of political magical thinking.

Quote of the Day: Why Excessive Taxing of Cigarettes or Anti Tobacco Statutes Fail

the detrimental side effects of prohibition-by-taxation legislation are obvious, while the effectiveness of these polices remain dubious at best. Anti-tobacco policies come about due to misconceptions of the market’s ability to solve social problems (although rent seeking is typically required for prohibitions to be enacted). Bureaucracies established by prohibition are inherently inefficient and unable to discover the knowledge required to solve social problems. Prohibition also suppresses the market’s ability to solve social problems, so that little or no progress is made while prohibitions are in effect. And finally, prohibitions create profit opportunities which add to the problems prohibition is intended to solve (Thornton 83).

As already noted, prohibition is an example of government interventionism, which is in itself the antithesis of a free market. The market allows consumers to decide how to spend their incomes. Anti-tobacco advocates neglect the fact that not all individuals have the same wants and goals in life. Tobacco products have been accepted to be detrimental to human health since the 1960s, yet remain among the most popular goods on any market. This must mean that consumers value the immediate pleasure of a cigarette far more than their long term health.

This is from a study of Dušan Petrovski at the Mises Institute Canada on the Effects of Prohibition by Excessive Taxation or "Sin Taxes" against Tobacco (hat tip Bob Wenzel)

Into the Eyes of the Gorgon: IMF’s Endorsement of the Philippines

The mainstream implies that accolades made by the IMF on the Philippines must be read as bullish for the stock market.

I’d say that the Philippine stock market and the IMF’s approval are two different issues.

Well with the IMF pushing for SMS Taxes[1] as well as Sin Taxes[2], the only thing bullish here is for politicians, who will have more political control over the populace, but not necessarily more money.

As I pointed out earlier[3], Sin Taxes in the United Kingdom have not only failed to achieve the desired tax revenues and the supposed morality to be attained from such a regulation. Instead sin taxes spawned a bootleg industry, increased health risks of alcohol patrons who decided to go underground, and importantly increased corruption, as well as risks of violence.

Sin taxes are equivalent to prohibition laws focused on human vices like drugs, cigarettes gambling, prostitution and etc… that seems noble sounding humanitarian based, but have been hardly in touch economic reality.

As exiting US Congressman Ron Paul said in one of the greatest speech ever[4],

Humanitarian arguments are always used to justify government mandates related to the economy, monetary policy, foreign policy, and personal liberty. This is on purpose to make it more difficult to challenge.  But, initiating violence for humanitarian reasons is still violence.  Good intentions are no excuse and are just as harmful as when people use force with bad intentions.  The results are always negative.

Importantly a common mistake has been to misinterpret taxes rates as a constant or linear function of revenues. An important economic axiom to realize is that “when you tax something, you get less of it.”

And such economic law applies to the effects of raising taxes on gold sales that has only prompted for the skyrocketing of smuggling activities[5] from the output of small scale gold mining or the informal gold economy in the Philippines. In fact, some lawmakers have appealed for the repeal of these taxes[6].

Rampant smuggling has not been limited to gold but has broad based.

According to an Inquirer report[7], smuggling activities in the incumbent administration has exploded to a $39.2 billion industry, or an average of $19.6 billion per year or for the two years of President Aquino’s tenure. This is far from the average of $3.1 and $3.8 billion for the Estrada and the Arroyo administration respectively. As a side note, mainstream economists may deny it but this seems to be one of the real factors contributing to the economic vitality. 

Political agents and the apologists of the state would like make us believe that edicts, ordinances and regulations can supplant the law of economics. Guess who will be wrong?

Or is it that President Aquino realizes that the informal economy has been real force behind the growth in the domestic economy for him to promote populist regulations that drives economic activities underground? So could he be hitting two birds with one stone?

Another more important point is that the diversion of productive resources to redistributive unproductive or politically directed activities will eventually lead to more debt and more inflation whose outcome will be worse than the cumulative effects of individual’s vices. Think Greece.

SMS taxes regardless of the form, on the other hand, will raise the cost of texting at the expense of consumers. Given that the mobile phone market will reach nearly 100% in terms penetration level[8], this implies that kernel of text users are likely to be from the middle to the lower income levels. 

So IMF’s Christine Lagarde in essence discriminates the poor by taxing them in favor of the political class.

Should I be bullish with the IMF’s endorsement? Ms Lagarde’s acclaim seems tantamount to the risk of catching the eyes of the mythical gorgon: victims turn to stone.

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[1] Manila Bulletin IMF chief says SMS tax could help Philippines November 16, 2012

[2] GMANetwork.com Sin tax bill a transparent way to raise revenues — IMF’s Lagarde November 16, 2012

[3] See The Unintended Effects of Alcohol “Sin” Taxes: UK Edition November 26, 2012

[4] See Video: Ron Paul's Farewell Speech to Congress November 15, 2012

[5] See Philippine Informal Gold Mining Industry Booms August 24, 2012

[6] Inquirer.net Stop gold tax, BIR urged November 12, 2012

[7] Rigoberto Tiglao Smuggling at its worst under Aquino Inquirer.net November 14, 2012

[8] GMANetwork PHL mobile penetration to hit 100 percent in 2012, telco claims July 17, 2012

An Emergent Trend on the War on Drugs? Mexico Considers Legalization

The recent electoral victory to legalize drugs in parts of the US may have set the trend towards the decline to the war on drugs worldwide.

From Washington Post

The decision by voters in Colorado and Washington state to legalize the recreational use of marijuana has left Mexican President-elect Enrique Peña Nieto and his team scrambling to reformulate their anti-drug strategies in light of what one senior aide said was a referendum that “changes the rules of the game.”

It is too early to know what Mexico’s response to the successful ballot measures will be, but a top aide said Peña Nieto and members of his incoming administration will discuss the issue with President Obama and congressional leaders in Washington this month. The legalization votes, however, are expected to spark a broad debate in Mexico about the direction and costs of the U.S.-backed drug war here.

Mexico spends billions of dollars each year confronting violent trafficking organizations that threaten the security of the country but whose main market is the United States, the largest consumer of drugs in the world.

Prohibition laws against all forms of vices (i.e. drugs, gambling, prostitution, smoking, drinking et. al.), have not just been immoral and  counterproductive, but also ineffective, impractical and repressive.

Sin taxes are another form of prohibition which has exhibited similar results.

Such ‘feel good’ noble sounding regulations signifies as the proverbial cure that is worse than the disease, where in reality, the populist moral crusade through mandated organized coercion (badges and guns or the government) usually serves as masquerade for politicians and the bureaucracy to expand power (at the expense of civil liberties) and access to the public’s purses e.g. “spends billions of dollars”.

The drug menace should be approached with the reinforcement of the individual’s moral fiber through solidification of familial and communal ties, through education and through therapy or rehabilitation, out of the ambit of taxpayers and the use of force.

If in case Mexico decides to follow the footsteps of Colorado and Washington to legalize drugs, which should also mean a wider tolerance on more states in the US, then this could possibly translate to a ripple effect worldwide.

The Unintended Effects of Alcohol “Sin” Taxes: UK Edition

Politicians and their academic and media supporters fail to see the human action aspects of social policies. 

For sin taxes, not only do they overestimate their understanding on the objectivity of human values, they also treat mathematical models having the same effects on the people, particularly, they mistake tax revenues as having some linear correlations with tax rates.

The Institute of Economic Affairs in a study shows why the concept of Sin taxes backfires. Here’s the summary (bold and italics original) 

The Treasury is losing as much as £1.2 billion every year to the illegal alcohol industry. A new report, Drinking in the Shadow Economy, demonstrates how illicit alcohol consumption is becoming a permanent and growing problem due to excessive taxation. 

The damaging effects of counterfeit alcohol

Failing to deal with counterfeit and smuggled alcohol threatens not only public cash, but public health and public order. Counterfeit alcohol can contain potentially life threatening levels of dangerous chemicals, whilst alcohol smuggling is linked to other illegal activities such as drug dealing, violence and money-laundering.

High taxes are encouraging the growth of the illicit alcohol market

It is evident that high taxes are causing this boom in the illicit alcohol market. As prices rise, consumers are increasingly turning to the more affordable options available in the shadow economy. Government policy might intend to improve people’s health, but it may be having the opposite effect.

With the number of seizures of counterfeit alcohol rising five times between 2008/09 and 2010/11, and growing reports of counterfeit spirits being sold by both licit and illicit retailers, it is crucial that the government reconsiders its strategy in dealing with alcohol pricing.

High alcohol taxes do not reduce alcohol consumption

Contrary to popular belief, making alcohol more expensive is not an effective way of reducing drinking rates or the problems associated with excessive alcohol consumption. Britain and Finland have some of the highest alcohol taxes in the world and yet the amount of drink consumed in these countries is the same as in places such as France and Spain, where alcohol is more affordable.

Commenting on the report, its author, fellow of the Institute of Economic Affairs Christopher Snowdon, said:

“The government’s focus on maximising tax revenues is short-sighted and dangerous. Aside from losing money by encouraging consumers to find cheaper illicit alternatives, public health and public order are also being put at risk by high prices. Policy-makers ought to take the threat of illicit alcohol production seriously when considering alcohol pricing in the future.”

"There is a clear relationship between the affordability of alcohol and the size of the black market. Politicians might view the illicit trade as a price worth paying for lower rates of alcohol consumption, but this research shows that the amount of drink consumed in high tax countries is exactly the same as in low tax countries."

“Minimum alcohol pricing might seem like a quick fix to tackle problem drinking, but it is likely to cause many more problems by pushing people towards the black market in alcohol."

The complete study in pdf format here

Here are some interesting charts:

The shadow economy has tight correlations with corruption

So as with the relationship between shadow economy/corruptions vis-a-vis illegal and bootleg alcohol consumption.

Sin taxes has almost the same effects as the prohibition laws where the only difference is in the degree.

To quote the author of the study Christopher Snowdon 

Contrary to temperance rhetoric, high alcohol taxes are not necessarily good for public health because, although excessive alcohol consumption undoubtedly carries risks to health, so too does moonshine. Counterfeit spirits and surrogate alcohol frequently contain dangerous levels of methanol, isopropanol and other chemicals which cause toxic hepatitis, blindness and death. These are the unintended consequences one associates with prohibition, albeit at a less intense level than was seen in America in the 1920s.

It should not be surprising that excessive taxation encourages the same illicit activity as prohibition since the difference is only one of degrees. As John Stuart Mill noted in 1859: ‘To tax stimulants for the sole purpose of making them more difficult to be obtained is a measure differing only in degree from their entire prohibition, and would be justifiable only if that were justifiable. Every increase of cost is a prohibition to those whose means do not come up to the augmented price’ (Mill, 1974: 170-171).

Fat Taxes and the Road to Serfdom

From Yahoo

On Oct. 1, consumers in Denmark saw a sudden jump in the cost of many of their favorite bread-friendly products. The average price of a half-pound package of butter increased by 2.5 krone (or 45 U.S. cents). A pound of cheese rose from 34.5 krone ($6) to 36 krone ($6.50). And don't even think about lard. In a single day, the cost of a half-pound block of pork fat skyrocketed from 12 krone ($2.15) to 16 krone ($2.85) — a 35% increase. Thanks to a new fat tax, Danes are paying more for just about anything they might want to slather on a piece of bread.

Other countries have imposed tariffs on food and drink considered unhealthy, but Denmark is taking the "fat tax" appellation literally. In the name of reducing cardiovascular disease, obesity, and diabetes, the law that went into effect on Saturday specifically targets saturated fats — the fats found most commonly in animal products like butter, cream, and meat. But few outside the government seem to think it's a good idea — or even a healthy one.

Social engineering policies like the above, which attempts to “nudge” people’s behavior, are expressions of how political leaders think of us. They see as incorrigible idiots who don’t know what is the best interest for ourselves. They essentially are imposing their value preferences on us.

While waging war against the 'fat' or 'obese' seems noble sounding, the unintended consequence is to politically stigmatize people who are ‘fat’ or ‘obese’. In short, such paternal nudging policies promote discrimination and societal divisiveness. Shouldn’t we also tax skinny people too who may also signify as health hazards?

The other unintended effect has been to raise consumer prices which affects not only the fat but even the non obese. So the social costs of rectifying such aberrations will unfortunately befall to everyone.

Social engineering policies signify as slippery slope or incremental steps towards total control of people—a totalitarian state.

As Ludwig von Mises wrote,

The "social engineer" is the reformer who is prepared to
"liquidate" all those who do not fit into his plan for the arrangement of human affairs.

On the other hand, the welfare state, whom have increasingly been burdened by financial strains as a result of the ballooning of the unsustainable system, has been using such ‘sin taxes’ as pretext or as propaganda to raise funds in order to maintain or preserve on the privileges of the political class.

The Truth About Malacanang's Sin Taxes: Insatiable Government Spending

Sin Taxes needs to be raised for the purpose of imposing discipline on the Filipino citizenry. So says the Philippine President.

From the Inquirer.net

We proposed all of these measures because we really believe that they are needed to run this country better. I’m sure that in the conscientious fulfillment of their duties and obligations, they will expedite the passage of measures that they already agree with,” President Aquino said. “With the sin taxes, there’s no question about our ultimate aim, to decrease the consumption of sin products.”

Such moral statements are wonderful to hear. It seems to have a cathartic effect, especially to the gullible.

But in reality, prohibitions whether direct or indirect hardly ever achieves its declared goals. Simply look at the local war on drugs, where the Philippines despite the numerous drug laws have acquired the ranking of the 4th largest supplier in Asia. So we seem to be seeing a reverse phenomenon where more regulations have equaled greater drug problems. (I can't link to my old posts because my dsl is down and I'm operating from an internet cafe).

The same should apply to smoking bans or sin taxes. Economics always trumps politics.

However the real goal of Sin Taxes can be gleaned from the same article.

The government aims to generate P60 billion from a proposed bill restructuring the excise tax on alcohol and tobacco products.

President Aquino said the revenues from the modified excise tax would be earmarked for universal healthcare.

So like all paternalistic- nanny states, who pretend to know best for the society, the means will always be used to justify a questionable unattainable moral end.

Equivocation aside, the real intent, like all governments, is to raise money for political ends.

And governments operating on the welfare platform eventually end up bankrupt, as the problems of Greece and even the US has been revealing.

Apparently, politicians love to spend while ignoring long term consequences of their current actions, and at worst, never ever seem to learn from lessons of the past or of the present.