1. Economic, social, and security impacts of tobacco excise duty harmonization in the EU Líberální Institut Conference, 20 September 2006 Prague Costs and benefits of tax harmonization – experience and expectations: Hungary Zoltan Fekete Director BGA Hungary

2. Background  Since 1995, BGA Hungary is the prime forum of the FMCG businesses in Hungary.  Its main activities include legislative lobbying, fighting against abusive trade practices, and promoting the case of brands and branding for consumers and policy-makers.  IPR infringement, counterfeiting, piracy, smuggling are topical issues for the industry.  In 2005, to better tackle these issues, BGA Hungary started new activities:  Budapest Economy Round-table, a series of discussions by state, industry and experts on black market, grey trade, smuggling etc;  BGA package of regulatory amendment proposals for better regulation and effective enforcement in the above issues.  Tobacco industry is heavily affected by illicit trade, smuggling, and, to a lesser extent, piracy, hence the common agenda with other packaged goods manufacturers.

3. Illicit tobacco trade by region Total: 20,1% 2005 Region 5: 39,3% Region 4: 30,0% Region 3: 4,9% Region 1: 10,3% Region 2: 8,5% In 2004: 19,1% Romania Ukraine Slovakia Austria Serbia Croatia Slovenia Most affected regions are along the Eastern borders. Source: BAT Hungary

4. Illicit tobacco trade by country of origin Growing illicit trade, growing inbound from Serbia. 20042005 Source: BAT Hungary

5. Illicit tobacco trade by brands Growing illicit brand portfolio. Source: Illicit Trade Survey, BAT

6. Why to buy? Price level differences Consumer demand is unchanged due to price level gaps.  84% of respondents claim lower price as single decisive factor for buying.  Price competition on black market as well: avg 237 HUF price drops to 223 HUF (2004 vs 2005). Source: BAT Hungary

7. Tobacco market development Jun 2001 +HUF10 Jan 2002 +HUF20 Sep 2002 + HUF30 Jan 2003 +HUF15 May 2003 +HUF35 Jun 2003 – HUF25 Sep 2003 +HUF25 Price increase: Jun 2001 2,4% MPPC tax increase %: Jan 2002 Apr 2002 5,0% 4,4% Sep 2002 17,0% Feb 2003 May 2003 2,8% 17,0% Jan 2004 29,9% Source: BAT Hungary

8. Estimated state revenue losses State revenues (Bn HUF)20002001200220032004 Excise duties, tobacco 99110127151166 VAT, tobacco 5156616664 Total, tobacco150166187216230 State revenues development11%13%15%6% Excise duty development, MPPC14%16%28%37% Estimated losses in revenues, if total volume legaln/a9142874 Despite a 37% tax increase, in 2004 the state revenue development drops below the 2001 level. In 2004, estimated state losses amount to 74 Bn HUF. In 2005, the legal market keeps shrinking. Source: BAT Hungary

9. Other aspects, assumptions & conclusions  “… It is estimated that some 25% of cigarettes produced globally or more than 210 billion cigarettes (the difference between reported exports and imports) go to the black market. Of these about one third are believed to be smuggled into and within Council of Europe member States.” (Council of Europe, Organised Crime Situation Report 2004, Strasbourg, 23 December 2004)  It is the excise duty policy, that may be accounted as one decisive factor in creating or maintaining the price differences.  It is the price difference from country to country, that fuels tobacco smuggling.  It is tobacco smuggling that also fuels international crime organizations and international terrorist organizations, raising national security issues.  The shaping of national excise duty policies needs a very complex approach that takes into account all relevant aspects such as purchasing power, state revenues, national security, and health impact as well.

10. Industry efforts & results  Constructive dialogue with policy-makers  Coordinated industry input for better regulation and effective enforcement  Continuous flow of information to support efficiency of state investigations and checks  Contribution to state enforcement especially customs (e.g. destruction of seized goods)  Promoting a complex approach relating to all main aspects (state revenues, crime issues, health issues, consumption patterns, etc)  First results  Better regulations (new competences for customs in IPR cases)  Closer state-industry collaboration (cooperation agreement between tobacco association and customs)  Significant drop in illicit trade consumer share  Volume: 11% (July 2006) vs 19% (Jan 2006) vs 20% (total 2005)  Incidence: 11% (July 2006) vs 18% (Jan 2006) vs 22% (total 2005)