Government Policy Towards Smoking: A View from Economics

Abstract

The past six years have witnessed an enormous change in the treatment of smoking by policymakers. In 1995, federal and state excise taxes on cigarettes were one-third lower, in real terms, than their peak level in the mid-1960s. Since 1995, however, taxes have risen forty percent, or twenty-two cents per pack, and now stand at seventy-eight cents per pack. From the traditional economics perspective, this shift in government policy is unwarranted. In the standard economics model, fully informed, forward-looking, rational consumers decide whether or not to smoke, weighing the benefits of doing so in terms of smoking enjoyment against the costs in terms of health and other risks. The only call for intervention in such a model are the externalities that smokers impose on others, such as increased medical costs for public insurance programs. But such externalities are, in fact, fairly small by most measures, and their costs are offset by the savings from the earlier mortality of smokers, who pay a lifetime of Social Security taxes but often do not live long enough to collect the benefits. As a result, the traditional economics model would suggest that the "optimal" tax on cigarettes may be below the 1995 level. The traditional model, however, has little evidence in its support. This model is predicated on the description of a smoking decision at odds with laboratory evidence, the behavior of smokers, econometric analysis, and, quite frankly, common sense. Moreover, alternative models, deviating only modestly from this traditional formulation, have radically different implications for government policy, rationalizing large taxes on cigarettes and other types of regulatory controls. In this Commentary, I describe this "new economics of smoking." First, I discuss how the new model differs from the old. Second, I offer evidence that supports the evolution in thinking. Finally, I discuss the implications of the new formulation for government policy and the legal arena.