The 21st century has seen a massive expansion in the ways that people can consume tobacco and nicotine. Innovative new products include electronic nicotine delivery systems (“ENDS” or e-cigarettes) and heat-not-burn (HnB) products.
One of the challenges this has thrown up is the tax rates on these products.
Combustible tobacco products like cigarettes and loose tobacco are generally taxed at similar rates since the harmful behaviour tied to these products – inhaling tobacco toxins released by burning – is the same. But e-cigarettes don’t contain tobacco and HnB devices do not burn tobacco. Nevertheless, they contain nicotine, which is addictive.
Given their differences to combustible tobacco, applying similar tax rates might not be appropriate.
Economists and health experts have different, and sometimes conflicting, views on how tax rates should be determined for nicotine products.
Economists tend to value economic outcomes and individual liberty. They generally rely on economic theory that dictates that tax rates should be set so that the tax-inclusive price of a nicotine product reflects all costs associated with the production and consumption of that product, reduced by the benefits of production and consumption of that product.
On the other hand, health experts tend to put health outcomes above economic outcomes. They sometimes argue for products to be banned, as seen in the World Health Organization’s Technical Manual on Tobacco Tax Policy and Administration. More generally, they argue for high tax rates and regulations on nicotine products to eliminate or limit negative health consequences.
The tension between these two approaches is apparent in countries across the world. So too in South Africa, which is reconsidering the design of its taxes on tobacco and nicotine.
To balance the perspective of economists and health experts, I argue in a recent paper for risk-based tax rates on tobacco and nicotine. The idea of risk-based taxes is to set tax rates based on the risk to health of tobacco and nicotine by relying on scientific evidence. For instance, if the available scientific evidence indicates that a stick of cigarette poses twice the risk to health of a stick of HnB, the excise rate on the cigarette should be twice that of the stick of HnB.
I provide suggestive risk-based rates for tobacco and nicotine products, based on a review of the latest scientific evidence, and conclude that adopting risk-based tax rates may be appropriate in the South African context. Since tax policy is never one-size-fits-all, carefully considering context is essential in designing policies.
The economists
In terms of economic theory, if all the net costs of production and consumption of nicotine products are included in purchase prices, such prices would provide accurate information to consumers to base their decisions on. The price would represent the true costs of consumption and the consumer could decide whether they were willing to pay this cost.
Without taxes set this way, prices will, for instance, not include the future cost of health treatments of the consumer to the government. And the benefit in the form of savings to the government because of the probable premature death of the consumer. The price will, therefore, misinform the consumer as to the true costs of consumption.
The role of government, therefore, is to ensure that prices convey accurate information to consumers. But any further government interference that restricts consumer liberty may give rise to negative economic outcomes, such as decreased productivity and, consequently, lower economic growth.
The rationale for this view is that consumers tend to have better information on which to base decisions than a government. In other words, decisions taken by a government on behalf of the consumer may not be appropriate.
The health experts
In contrast with the economist, health experts argue, by and large, that tax rates on nicotine products should be set to deter consumption. Accurate information to consumers is generally not a consideration.
The World Health Organization, for instance, argues that tax rates on HnB products should be set at the same level as cigarettes. But it does so without providing scientific evidence that the net costs or health risks to society of these two products are equivalent, which would be required for tax rates to provide accurate information to consumers.
Health experts see the role of governments differently from economists; governments should limit negative health outcomes. Less attention tends to be given to consumer liberty than by economists. The rationale for this view is that consumers struggle to make – or cannot make – decisions in their best interest. Governments should therefore deter such decisions through bans, taxes and regulations.
This suggests that, for the health expert, if the decision by the consumer is not the healthiest decision it is also not the optimal decision. While for the economists, the unhealthy decision may be the optimal decision.
The risk-based approach
Governments face conflicting interests.
First, they need to collect sufficient tax revenues and limit negative health consequences, which generally calls for high tax rates. Second, they need positive economic and social outcomes, such as economic growth and social justice, which call for taxes that correctly allocate costs to products, are sufficient to fund government expenses and redistribution, and do not hamper domestic production and investment.
Third, in a democratic society, they need political acceptability, which often means lower taxes and valuing individual liberty.
Risk-based excise taxes are an attempt to balance the interest of economists, health experts and governments.
This approach takes into consideration the economists’ approach, since health costs form a large part of costs not included in product prices and differ between products.
It also considers the health expert, since the tax rates are based on the health consequences and excludes other costs and benefits that economists would want to take into consideration.
It represents government interests since it suggests high taxes on goods that carry high health risks, tax rates that approximate those required for positive economic and social outcomes, and lower taxes on low-risk substitutes.
Further, it aims to provide accurate information in the market by having prices reflect health costs and thereby improve individual decisions with limited constraint on individual liberty.
There is also a large body of scientific evidence which can be relied on to approximate relative health implications of tobacco and nicotine products. Especially the toxicological evidence, which indicates the toxins released during the consumption of different tobacco and nicotine products, allows for comparison between products.
The case of South Africa
South Africa represents an interesting case for applying risk-based taxes. It has the highest income and wealth inequality in the world and an under-performing public healthcare system. Together these have resulted in a high prevalence of non-communicable diseases that disproportionately affect low-income individuals. Most of whom are victims of past institutionalised racial segregation.
It requires additional tax revenues to fund healthcare and redistribution, among others, while facing severe economic constraints, such as an unemployment rate of over 30%.
This profile suggests that the best route to take would be to adopt risk-based tax rates on tobacco and nicotine products.
Marius van Oordt receives research funding and is affiliated with the International Tax and Investment Center, an independent, nonprofit research and education organization.
This article was originally published on The Conversation. Read the original article.
