Firm Strategy, Consumer Behavior and Taxation in Turkish Tobacco Market

Tobacco taxation policy is not only a tool for discouraging smokers but also an important source of budgetary income. Given that many entities are interested in tobacco policy ranging from the fiscal authority to health authority, from firms to economic policy authority the design of the appropriate tax scheme is of utmost importance. The current tobacco taxation scheme in Turkey is very complex and contains incentives both for firms and consumers to deviate from a certain equilibrium. Therefore, appropriate tax policy should take into account firm pricing strategy, consumer behavior, health and industry related issues as well as fiscal concerns. With this perspective, using the current framework in Turkey, this paper proposes a strategy for appropriate tobacco taxation through a simulation analysis. The strategy can be formulized as the tax combination yielding minimum average price change, for a given tax revenue and the desired sectoral composition. Such a tax scheme will not only reduce price volatility but will also improve welfare of the entire society through lowering inflation given the high share of tobacco products in consumption basket.