Thursday, August 04, 2005

Tobacco conundrum

Glancing through ITC's annual report, got me thinking of something that I had never given a thought to. ITC earns its revenues through the sale of Cigarettes, cash which it has used to smartly diversify into sunrise industries over time. Today ITC is not just about cigarettes. It is a broad conglomerate with interests in ready to eat food, snacks, biscuits, paper and packaging, candy and hotels. The report talks in detail about taxation on cigarettes vis-a-vis other tobacco products. Here are some excerpts and thoughts (interim..., obviously). (Disclaimer: I am not a user of tobacco and this post is purely about the economics of tobacco in India)

The Cigarette and Other Tobacco Products (Prohibition of advertisement and regulation of trade and commerce, production, supply and distribution) Act 2003 (COTPA) is in effect from 1st May 2004. India is also a signatory to the Framework Convention on Tobacco Control (which covers a whole host of issues).

Anyway, the point is not about these acts. In budget after budget in India, the finance ministry hikes the duties and taxes on cigarettes ostensibly to discourage the consumption of tobacco (which is detrimental to the health of the people). It is a given that in every budget, the prices of cigarettes will increase. But cigarettes are not the only tobacco related thing sold in India. There are bidis (which are tobacco wrapped in leaves), chewable tobacco among others. Cigarettes, incidentally form a smaller share of the tobacco market than the others, bidis, pan masala and raw tobacco. Yet, cigarettes bear 8 times more taxes than bidis and 30 times more than other tobacco products.

So, is the government, by way of increasing duties on cigarettes encouraging consumption of other forms of tobacco? Wouldn't a cigarette smoker switch to the lower end bidis, if he doesnt get his fix (and these are usually the poor, since the rich dont bother with such things)? Or would he quit nicotine just because the government increased duties. The government loses revenue on tobacco consumed by the other, 'revenue inefficient', products. If the government reduces the taxes on cigarettes or brings all other products on par with cigarettes (which is what it should do, if it is truly concerned with the health of the population), both of these will be opposed by other parties, ignorant of the economics of the issue. The implicit assumption is that bidis are manufactured by poor people while cigarettes are manufactured by big bad companies. Bidi manufacturers range from old semi feudal enterprises to the Communist Party of India, which owns Dinesh beedi.

In a developing country like India where the livehihood of millions is linked to growing tobacco, a viable strategy is required to maximise the economic value per unit of tobacco in a shrinking basket of overall tobacco consumption. A holistic tax policy would do the trick, but that wont happen.

So, on the one hand a cigarette smoker who finds cigarette expensive switches to bidis or other tobacco products which causes the government to lose revenue. (the argument on health is another topic altogether)

The rich smoker who would perhaps buy a premium Indian brand, now switches to smuggled foreign brands. The report says "liberal import of under priced international brands into India at prices significantly lower than those that prevail for these brands at duty free trade, gives contraband a highly unfair advantage in both the origin and destination economies by way of tax evasion....As a result, contraband is the fastest growing segment in the Indian market.

Either way the government loses revenue. What is the way out?

2 comments:

Nitin Kochhar said...

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Nitin Kochhar said...

Hi,

Please visit the link:

http://www.fmcgmarketers.blogspot.com
to get updated with news from FMCG world and be a

part of this interesting and content rich blog.
Please send this mail to all your friends who are interested in FMCG.

My personal blog is:

href="http://www.nitinkochhar.blogspot.com/">http://www.nitinkochhar.blogspot.com/