Public Sector Economics Over-Shifting in the Cigarette Industry

Federal and State Excise Taxes constant nominal (i.e., no inflation adjustment) amount per pack occasional state exceptions. eg., Hawaii 1965-93 charged fraction of wholesale price federal tax owed by manufacturer and state tax owed by wholesaler  wholesale prices include federal but not state tax 1983: first federal hike since 1950’s (8 to 16 cents) other federal hikes in 1991, 1993, 2002, 2009; now 101 cents wide variation across states, now from 17 (MO) to 435 (NY) national average state rates have more than tripled since Dec 31 1998, from 39 cents to 132 cents

Tobacco Master Settlement Agreement 46 states agree with major manufacturers to waive lawsuits in exchange for $4+ billion payments from the industry each manufacturer’s share of the payment depends on his market share  MSA payments impose a marginal cost on producers, beginning in 1999 marginal cost varies from year to year, from 29 cents (1999) to 40 cents (2002)

Cross-Section vs Time Series cross-section studies show shifting of 1 or 1.1 “law of one wholesale price” trans-shipping may limit cross-section variation in wholesale prices even for a monopolist who significantly over-shifts wholesalers have more incentive to ship than consumers until recently, major manufacturers had only one (national) wholesale list price. even now, just a few regions 1.1 may only represent over-shifting in wholesale and retail cigarette markets time series suggests at least 1.3? April 2009 fed tax increases 62 cents Over prior year, state taxes increased 12 cents Cigarette prices increased 97 cents  (97-4)/74 = 1.3 Put 2009 on the scatter; do 2009 with wholesale price

The Not-so-holy Grail of Panel Data Taxes affect wholesale prices, but a panel analysis with year effects holds constant national wholesale prices E.g., Evans et al (1999) based on their panel estimates, conclude that the MSA would “eventually increase cigarette prices by 30 cents per pack” Even while noting that “wholesale prices are set at the national level” They predicted wrong! Prices immediately increased 45 cents per pack Evans et al is cited favorably in Chetty’s public econ lectures

Specific Taxes Distort the Quality Margin @ this slide is wrong