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“Sin” taxes are less efficient than they look—but they do help improve public health

July 26, 2018 | The Economist

Tobacco was new to England in the 17th century, but even then, smoking had plenty of critics. The most famous was King James I, who in 1604 described smoking as “a custome lothsome to the eye, hatefull to the Nose, harmful to the braine, dangerous to the Lungs, and in the blacke and stinking fume thereof, nearest resembling the Stigian smoke of the pit that is bottomless”. The king increased the import tax on the “noxious weed” by 4,000%.

Sometimes, governments have had compelling financial reasons to tax particular goods. In 1764, when the national finances were drained by wars in North America, Britain’s parliament began enforcing tariffs on sugar and molasses imported from outside the empire. In practice, these served as a consumption tax on colonists living in America and threatened to ruin their rum industry. Not long after, parliament also introduced heavy levies on tea. The colonists were not best pleased.

Two-and-a-half centuries later, sugar taxes have returned to policy debates, this time as “sin taxes”—levies on socially harmful practices. These are seen as a double win—useful sources of revenue that also improve public health. Economists think it is not as easy as that.

Governments hope that just as taxes on alcohol and tobacco both generate revenue and reduce smoking and drinking, so sugar taxes will help curb obesity. Hungary, which has the highest rate of obesity in Europe, imposed a tax on food with high levels of sugar and salt in 2011. France did the same for sugary drinks in 2012. Several American cities, Thailand, Britain, Ireland, South Africa and other countries have since followed suit.

Sin taxes do change behaviour. Alcohol and tobacco are addictive, so demand for them is not as responsive to price changes as, say, the demand for airline tickets to fly abroad. But it is still more responsive than for many common household goods. Estimates vary from study to study, but economists find that on average, a 1% increase in prices is associated with a decline of around 0.5% in sales of both alcohol and tobacco (see chart 1).

Clunky sin tax

Data on the efficacy of sugar taxes are scantier, but the available evidence shows that they, too, lower consumption. In March 2015 Berkeley, California, put a tax of one cent per ounce (28 grams) on sugary drinks. A study by researchers at the University of North Carolina (UNC) and the Public Health Institute in Oakland, California, found that sales of sugary drinks fell by 9.6% in a year. It was a similar story in Mexico, which in January 2014 slapped a nationwide tax of 1 peso (then 8 cents) a litre on sugar-sweetened beverages. Sales fell by 5.5% in the first year, and 9.7% in the next. In both places, sales of bottled water rose after the fizzy-drinks tax came in.

Nevertheless, as policy instruments, sin taxes are extremely blunt. People who only occasionally drink or smoke do their bodies little harm, yet are taxed no differently from heavy smokers and drinkers. A study published last year by the Institute for Fiscal Studies (IFS), a think-tank, found that Britons who bought only a few drinks a week were far more sensitive to price fluctuations than heavy drinkers. The IFS suggests that it might make more sense to place higher levies on the tipples more in favour with heavy drinkers, such as spirits.

It is fairly easy to blame particular diseases on tobacco and alcohol. For sugary drinks, which provide only part of consumers’ sugar intake, it is harder. Another IFS study finds that, though Britain’s new law will lower sales of fizzy drinks, it will have little effect on the behaviour of those who consume the most sugar. In Mexico the data show that the tax did lead poorer households to buy fewer sugar-sweetened drinks. But it had little impact on how much the rich consumed.

John Cawley, an economist at Cornell University, points out that one flaw with many existing sugar taxes is that they are too local in scope. After Berkeley introduced its tax, sales of sugary drinks rose by 6.9% in neighbouring cities. Denmark, which instituted a tax on fat-laden foods in 2011, ran into similar problems. The government got rid of the tax a year later when it discovered that many shoppers were buying butter in neighbouring Germany and Sweden.

Moreover, the impact on public health is unclear. Consumers might simply get their sugar from other sources. Shu Wen Ng, an economist at UNC who studied the taxes in both Berkeley and Mexico, says that one reason for hope is that many people form their dietary habits when they are young. And fizzy drinks are disproportionally drunk by teenagers, who are more sensitive to price changes.

Jonathan Gruber, an economist at the Massachusetts Institute of Technology, points out that taxing foods like sugar and fat is in a different category from taxing tobacco and alcohol, because people need food to live. It presents public-health problems only when people eat too much. Mr Gruber says if he were king, he would target the problem more directly, by supplementing taxes on sugar and fat with a tax based on individuals’ body-mass indices.

The point of sin taxes is to make unhealthy goods more expensive on a relative basis, not to make the poor poorer. So a further concern is that they affect low-income households most. The poor spend a higher share of their income on consumption. So they are hit harder by any consumption tax, such as sales taxes in America or the European Union’s value-added taxes. Sin taxes are especially regressive, since poorer people are more likely to smoke and tend to drink more alcohol and sugary drinks. In theory, the sin taxes could be offset by earmarking any revenue from them for direct cash transfers or for social programmes aimed at reducing poverty. Philadelphia, for example, has earmarked the revenue from its sugar tax for schools, parks and libraries.

Double negatives

Debate about sin taxes often tends to blur two distinct purposes. One is to deter people from behaviour that does them harm. Another is to pay for the cost to society as a whole of that harmful behaviour—what economists call its “negative externalities”. Some examples can be fairly clear-cut. When a driver buys fuel for his car, for example, society as a whole has to suffer the consequences of the higher levels of pollution. Banning fossil fuels is impractical, so economists recommend taxing carbon-dioxide emissions instead.

Similar ideas underpin taxes on plastic bags to combat the growing problem of ocean pollution. In 2015 the British government passed a law forcing big retailers to charge 5p (6.6 cents) for every plastic bag. Use of plastic bags fell by 85%, though ecologists worry some consumers have switched to substitutes that are environmentally even more damaging. Cotton tote bags, for instance, have to be used 131 times to rank as greener than plastic alternatives.

Advocates of taxes on vices such as smoking and obesity argue that they also impose negative externalities on the public, since governments have to spend more to take care of sick people. However, policy papers tend to overstate the economic costs of activities like smoking because they rarely account for what would happen without them. Although unhealthy people tend to cost governments more money while they are alive, this is at least partially offset by the morbid fact that they tend to die earlier, and so draw less from services like pensions.

Different vices have different economic costs since they harm people in different ways. Save for the exceptionally overweight, most obese people do not die much earlier. But they do tend to require more medical attention than their healthier peers, often spanning the course of several decades. So obesity does impose net costs on taxpayers.

Continue reading the full article in The Economist.