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The Tobacco Deal

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  • Bulow, Jeremy I.
  • Klemperer, Paul

Abstract

We analyse the major economic issues raised by the 1997 Tobacco Resolution and the ensuing proposed legislation that were intended to settle tobacco litigation in the United States. By settling litigation largely in return for tax increases, the Resolution was a superb example of a "win-win" deal. The taxes would cost the companies about $1 billion per year, but yield the government about $13 billion per year, and allow the lawyers to claim fees based on hundreds of billions in "damages". Only consumers, in whose name many of the lawsuits were filed, lost out. Though the strategy seems brilliant for the parties involved, the execution was less intelligent. We show that alternative taxes would be considerably superior to those proposed, and explain problems with the damage payments required from the firms, and the legal protections offered to them. We argue that the legislation was not particularly focused on youth smoking, despite the rhetoric. However, contrary to conventional wisdom, youth smokers are not especially valuable to the companies, so marketing restrictions are a sensible part of any deal. The individual state settlements set very dangerous examples which could open up unprecedented opportunities for collusion throughout the economy, and the multistate settlement of November 1998 is equally flawed. The fees proposed for the lawyers (around $15 billion) and the equally remarkable proposed payoff for Liggett (perhaps $400 million annually, for a company with a prior market value of about $100 million) also set terrible examples. We conclude with some views about how public policy might do better.

Suggested Citation

  • Bulow, Jeremy I. & Klemperer, Paul, 1999. "The Tobacco Deal," CEPR Discussion Papers 2125, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:2125
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    Cited by:

    1. Ken Binmore & Paul Klemperer, 2002. "The Biggest Auction Ever: the Sale of the British 3G Telecom Licences," Economic Journal, Royal Economic Society, vol. 112(478), pages 74-96, March.
    2. Klemperer, Paul, 2000. "Why every Economist should Learn some Auction Theory," CEPR Discussion Papers 2572, C.E.P.R. Discussion Papers.
    3. David Cutler & Jonathan Gruber, 2001. "Health Policy in the Clinton Era: Once Bitten, Twice Shy," NBER Working Papers 8455, National Bureau of Economic Research, Inc.
    4. Ritz Robert A., 2009. "Cost Pass-Through under Delegation," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 8(1), pages 1-19, January.
    5. John Tauras & Richard Peck & Frank Chaloupka, 2006. "The Role of Retail Prices and Promotions in Determining Cigarette Brand Market Shares," Review of Industrial Organization, Springer;The Industrial Organization Society, vol. 28(3), pages 253-284, May.
    6. Delipalla, Sophia & O'Donnell, Owen, 2001. "Estimating tax incidence, market power and market conduct: The European cigarette industry," International Journal of Industrial Organization, Elsevier, vol. 19(6), pages 885-908, May.
    7. DeCicca, Philip & Kenkel, Donald & Liu, Feng, 2013. "Excise tax avoidance: The case of state cigarette taxes," Journal of Health Economics, Elsevier, vol. 32(6), pages 1130-1141.
    8. Rosemary Avery & Donald Kenkel & Dean Lillard & Alan Mathios, 2007. "Regulating advertisements: the case of smoking cessation products," Journal of Regulatory Economics, Springer, vol. 31(2), pages 185-208, April.
    9. Wei Tan, 2006. "The Effects of Taxes and Advertising Restrictions on the Market Structure of the U.S. Cigarette Market," Review of Industrial Organization, Springer;The Industrial Organization Society, vol. 28(3), pages 231-251, May.
    10. Ciliberto Federico & Kuminoff Nicolai V, 2010. "Public Policy and Market Competition: How the Master Settlement Agreement Changed the Cigarette Industry," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 10(1), pages 1-46, July.
    11. B. Coestier & E. Gozlan & Stephan Marette, 2003. "La responsabilité des entreprises et le risque d'obésité," THEMA Working Papers 2003-42, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
    12. Sandeep Dahiya & David Yermack, 1999. "Wealth Creation and Destruction from Brooke Group's Tobacco Litigation Strategy," New York University, Leonard N. Stern School Finance Department Working Paper Seires 99-050, New York University, Leonard N. Stern School of Business-.

    More about this item

    Keywords

    Cigarettes; Tobacco;

    JEL classification:

    • H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
    • I18 - Health, Education, and Welfare - - Health - - - Government Policy; Regulation; Public Health
    • K13 - Law and Economics - - Basic Areas of Law - - - Tort Law and Product Liability; Forensic Economics
    • L41 - Industrial Organization - - Antitrust Issues and Policies - - - Monopolization; Horizontal Anticompetitive Practices
    • L66 - Industrial Organization - - Industry Studies: Manufacturing - - - Food; Beverages; Cosmetics; Tobacco

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