Executive summary
Consumption of tobacco products, especially cigarettes in Southeastern Europe (SEE) imposes a significant economic burden on households and society in general. This report examines increases in the price of cigarettes through tobacco excise increases and their associated impacts on tobacco consumption, household expenditures, and tax burdens in different income groups as well as the impact of these increases on government revenues.
Using secondary data from household budget surveys (HBS) for periods ranging from 3 to 12 years, depending on data availability, in six countries (Albania, Bosnia and Herzegovina (B&H), Montenegro, North Macedonia, Kosovo, and Serbia), this research estimates the price and income elasticity of smoking prevalence and intensity, both for the full population and by income group.
For all countries studied, this research finds that price increases achieved through an increase in tobacco excises would result in lower consumption, higher budget revenues, and positive redistribution effects. In order to maximize the effectiveness of tobacco taxation policies, country specifics such as income growth, different elasticities, and behavioral responses of different income groups should be considered when designing policy. The findings are outlined in greater detail below:
Increasing excises (that results in the increase of cigarette prices) will result in lower cigarette consumption
Results suggest that in all countries studied, a price increase of cigarettes will result in lower cigarette consumption. Therefore, if the excise increase leads to a price increase, tobacco consumption in the region will decrease. In most of the countries, the decrease in consumption stems from both a decrease in smoking prevalence and a decrease in the consumption of cigarettes by those who smoke. Prevalence elasticities range from as much as -0.636 in Montenegro to -0.165 in Albania, while in Kosovo prices do not impact the decision to smoke. Total elasticities range from -1.065 in Montenegro to -0.387 in Kosovo. The income elasticities range from 0.595 in North Macedonia up to 1.113 in Albania. Given that income elasticities in all countries studied are high, the response of consumers to excise increases will depend on the rate of income growth. Therefore, when designing the excise increase, policymakers should take into account the expected growth of income in the country. In other words, the increase of excises will result in lower consumption of cigarettes if it reduces the affordability of cigarettes.
An increase in cigarette excises will result in an increase in government revenue
In addition, the change in government income from taxes levied on cigarettes is simulated for a scenario in which retail prices would increase either by changing the excise tax or by simultaneously changing the tax and producers’ price. In all the countries the price increase would result in increased budget revenue.
The change in budget revenue would be the highest in Kosovo, with an estimated increase of 26 percent as a result of a price increase of 25 percent, followed by Serbia and Albania with over 17 percent increased revenues. The lowest increase in budget revenues could be expected in B&H, due to a very high price elasticity, where an increase in the specific excise of 25 percent (which would lead to a 17 percent price increase) would result in a 2.5 percent increase in budget revenues. In the long-run, further positive fiscal effects could be expected since the decrease in cigarette consumption will likely lower health expenditures related to the harmful effects of cigarettes.
These research findings suggest that claims about the negative impact of excise increase on budget revenues fueled by the industry are not based on rigorous evidence. Thus, even if a narrow analysis is applied, focusing strictly on budgetary impact, there are still positive fiscal effects.
In most of the countries studied, an increase in cigarette excises would have an additional redistributive effect.
Total demand elasticities among low-, middle-, and high-income households have proven to be significantly different. In most countries, low-income households have the highest price elasticity, and high-income households have the lowest. As a result, the cigarette price increase is followed by the largest reduction in consumption in low-income households. Unlike the middle- and high-income groups, low-income households also reduce their total expenditures on cigarettes which also has positive effect on their living standard. In the long-run, further redistributive effects could be expected, as lower consumption of cigarettes will benefit the health of low-income households and decrease their expenditures for tobacco-related illnesses. On the other hand, policy makers should also bear in mind that low-income households are at the same time the most sensitive with regard to changes in their income. Research results show that the income increase would be associated with a comparatively higher increase in consumption within the low-income group. Therefore, improved taxation policy should be designed to include eventual changes in income.
These research results refute the fallacy, often promoted by the tobacco industry, about regressive effects of tobacco taxes. Research in all countries shows that tobacco excise increases would have a progressive effect as the additional tax burden is the lowest for low-income households and the highest for most high-income households, whereas in some countries the share of budget expenditures for cigarettes among low-income households is actually decreased.