How The Cigarette Industry Affects Society With Disease And Reduces Social Economic Welfare

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The cigarette industry is known to cause market failure. It burdens society with disease and reduces social economic welfare. These negative externalities are thought to far outweigh any economic benefits that the industry yields (Guhl & Hughes n.d). To combat this, governments implement indirect taxes with the aim of reducing the number of smokers. Evidence shows that this has been the most effective means of reducing demand for cigarettes (Cotter, Dunclop & Perez 2011). In the context of the competitive model, this essay will explain how taxes on cigarettes reduce demand, including discussion of the short-term and long-term price elasticity of demand, how the tax burden is distributed between consumers and producers, redistribution of…show more content…
This is relatively inelastic due to addiction and lack of legal substitutes. General belief is that PED is inelastic in the short-run (as in Graph A) but becomes more elastic in the long run (as in Graph B) because smokers have more time to quit the habit in response to price increases (Issues in Tobacco Taxation 2013). However, a population-based survey conducted by the Cancer Institute NSW Tobacco Tracking Survey (CITTS) of Australia reported that the PED for cigarettes – that is, quitting activity and reduced consumption, continued to increase significantly for three months after the April 2010 tax increase. Soon after, the PED returned to its natural inelastic state. A possible explanation is that tax increases reinforce the motivations of smokers who already want to quit. Eventually, the pool of ready-to-quit smokers becomes depleted and quitting activity declines. This is the reason why the Australian Government regularly increases tobacco excise (Cotter, Dunlop & Perez 2011). From 1 December 2013, cigarette taxes in Australia were set to increase by 12.5% annually for the next four years (Cullen & Griffiths 2013). Based on the Ramsey Rule, such high tax increases are best applied to goods for which the PED is relatively inelastic (Issues in Tobacco
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