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Price Uncertainty, Tax Policy, and Addiction: Evidence and Implications

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  • Mark Coppejans
  • Holger Sieg

Abstract

Consumption of addictive goods is subject to habit formation. Forward-looking individuals must, therefore, be concerned about future prices when making current consumption decisions. We study prices for tobacco products based on a unique data set provided by the Bureau of Labor Statistics. Our empirical findings suggest that prices have been highly volatile during the past decade. Price uncertainty has a potentially large impact on the economic well-being of young individuals with relatively low levels of disposable income. We develop a model to study consumption of addictive substances under price uncertainty. Our results indicate that optimal decision rules of low income individuals can crucially depend on subjective beliefs about future prices and the length of the planning horizon. These results imply that tax policies are most effective in reducing teenage cigarette consumption if they credibly alter individuals' beliefs about future prices.

Suggested Citation

  • Mark Coppejans & Holger Sieg, 2002. "Price Uncertainty, Tax Policy, and Addiction: Evidence and Implications," NBER Working Papers 9073, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:9073
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    Cited by:

    1. Frank A. Sloan & Justin G. Trogdon, 2004. "The impact of the master settlement agreement on cigarette consumption," Journal of Policy Analysis and Management, John Wiley & Sons, Ltd., vol. 23(4), pages 843-855.

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    JEL classification:

    • C8 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty

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