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A Dynamic Simultaneous-Equations Model for Cigarette Consumption in the Western States

  • Hai-Yen Sung

    (Ph.D. student, Agricultural and Resource Economics, University of California at Berkeley)

  • Teh- Wei Hu

    (Health Economics, University of California at Berkeley)

  • Theodore E. Keeler

    (Economics, University of California at Berkeley)

Registered author(s):

    This paper presents a rational addiction model, which integrates the addictive behavior of smokers toward cigarette consumption and the dynamic, profit-maximizing behavior of an oligopoly of cigarette producers. This model is tested on a panel data for eleven western states over the period of 1967-1990, using simultaneous estimation techniques. The results suggest the following conclusions: first, cigarette consumption is price-sensitive, with a demand elasticity of about -.33 in the short run and -.44 in the long run. These elasticities are smaller than those reported in most previous studies. Second, our results at least partially confirm the theory of rational addiction. Third, our model of oligopoly behavior confirms the hypothesis that the tobacco companies often do, as a part of their oligopoly behavior, raise end-market prices by more than the amount of the tax. Fourth, our results indicate that antismoking ordinances matter in reducing cigarette consumption, though their estimated significance is marginal. Finally, our results indicate that a tax increase, such as that imposed in California as a result of Proposition 99 effective in January 1989, can have a strong effect on reducing cigarette consumption, ranging between 8 percent in the short run and 11 percent in the long run.

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    Paper provided by EconWPA in its series Public Economics with number 9403002.

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    Date of creation: 23 Mar 1994
    Date of revision: 04 Apr 1994
    Handle: RePEc:wpa:wuwppe:9403002
    Note: 38pp; postscript file, compressed; keywords: Cigarettes, taxation, regulation, addiction
    Contact details of provider: Web page: http://econwpa.repec.org

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    1. Sumner, Daniel A, 1981. "Measurement of Monopoly Behavior: An Application to the Cigarette Industry," Journal of Political Economy, University of Chicago Press, vol. 89(5), pages 1010-19, October.
    2. Benjamin Klein & Kevin M. Murphy & Lynne Schneider, 1981. "Governmental REgualtion of Cigarette Health Information," UCLA Economics Working Papers 200, UCLA Department of Economics.
    3. Cowling, Keith & Waterson, Michael, 1976. "Price-Cost Margins and Market Structure," Economica, London School of Economics and Political Science, vol. 43(171), pages 267-74, August.
    4. Paul G. Barnett, Theodore E. Keeler, Teh-wei Hu., 1992. "Oligopoly Structure and the Incidence of Cigarette Excise Taxes," Economics Working Papers 92-202, University of California at Berkeley.
    5. Wasserman, Jeffrey & Manning, Willard G. & Newhouse, Joseph P. & Winkler, John D., 1991. "The effects of excise taxes and regulations on cigarette smoking," Journal of Health Economics, Elsevier, vol. 10(1), pages 43-64, May.
    6. Breusch, T S & Pagan, A R, 1979. "A Simple Test for Heteroscedasticity and Random Coefficient Variation," Econometrica, Econometric Society, vol. 47(5), pages 1287-94, September.
    7. Becker, Gary S & Murphy, Kevin M, 1988. "A Theory of Rational Addiction," Journal of Political Economy, University of Chicago Press, vol. 96(4), pages 675-700, August.
    8. Baltagi, Badi H & Levin, Dan, 1986. "Estimating Dynamic Demand for Cigarettes Using Panel Data: The Effects of Bootlegging, Taxation and Advertising Reconsidered," The Review of Economics and Statistics, MIT Press, vol. 68(1), pages 148-55, February.
    9. Lewit, Eugene M. & Coate, Douglas, 1982. "The potential for using excise taxes to reduce smoking," Journal of Health Economics, Elsevier, vol. 1(2), pages 121-145, August.
    10. Chaloupka, Frank, 1991. "Rational Addictive Behavior and Cigarette Smoking," Journal of Political Economy, University of Chicago Press, vol. 99(4), pages 722-42, August.
    11. Barnett, Paul G. & Keeler, Theodore E. & Hu, Teh-wei, 1992. "Oligopoly Structure and the Incidence of Cigarette Excise Taxes," Department of Economics, Working Paper Series qt2fz158jc, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
    12. Victor R. Fuchs & Robert T. Michael & Sharon R. Scott, 1979. "A State Price Index," NBER Working Papers 0320, National Bureau of Economic Research, Inc.
    13. Barzel, Yoram, 1976. "An Alternative Approach to the Analysis of Taxation," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1177-97, December.
    14. Keeler, Theodore E. & Hu, Teh-Wei & Barnett, Paul G. & Manning, Williard G., 1993. "Taxation, regulation, and addiction: A demand function for cigarettes based on time-series evidence," Journal of Health Economics, Elsevier, vol. 12(1), pages 1-18, April.
    15. McGuinness, Tony & Cowling, Keith, 1975. "Advertising and the aggregate demand for cigarettes," European Economic Review, Elsevier, vol. 6(3), pages 311-328, July.
    16. Appelbaum, Elie, 1982. "The estimation of the degree of oligopoly power," Journal of Econometrics, Elsevier, vol. 19(2-3), pages 287-299, August.
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