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The simple analytics of tobacco taxation with illegal supply

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  • Ian Irvine
  • William Sims

Abstract

This paper examines the impact of tobacco excise taxes where legal and illegal supplies coexist. The government's objective is to minimize cigarettes smoked in the economy (or to maximize revenue or to minimize illegal activity). It reacts to a competitive illegal supply in an adjoining jurisdiction. A model of consumer choice is used to demonstrate how demand response to tax changes can yield counterintuitive results. While the model mimics the Canadian market, similar situations characterize the US and European markets. A novel element of the paper is the treatment of externalities on the supply side rather than the demand side.

Suggested Citation

  • Ian Irvine & William Sims, 2014. "The simple analytics of tobacco taxation with illegal supply," Canadian Journal of Economics, Canadian Economics Association, vol. 47(4), pages 1153-1172, November.
    • Handle: RePEc:cje:issued:v:47:y:2014:i:4:p:1153-1172
    DOI: 10.1111/caje.12112
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    1. Ian Irvine & William Sims, 2014. "The simple analytics of tobacco taxation with illegal supply," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 47(4), pages 1153-1172, November.

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