Excise Tax Avoidance: the Case of State Cigarette Taxes

61 Pages Posted: 3 May 2010 Last revised: 24 Jul 2010

See all articles by Philip DeCicca

Philip DeCicca

McMaster University - Department of Economics; Ball State--Department of Economics

Donald Kenkel

Cornell University - Department of Policy Analysis & Management (PAM); National Bureau of Economic Research (NBER)

Feng Liu

Shanghai University of Finance and Economics; The Chinese University of Hong Kong, Shenzhen

Date Written: April 2010

Abstract

In this paper we contribute new empirical results about consumers' decisions to avoid cigarette excise taxes, and a new applied welfare economic analysis of optimal excise taxation with tax avoidance. We examine direct measures of consumer excise tax avoidance in novel individual-level data from the 2003 and 2006 - 2007 Tobacco Use Supplements to the U.S. Current Population Survey. We estimate reduced-form models and a structural endogenous switching regression model. In the structural border-crossing equation, the decision to cross the border depends on the difference between the endogenous home- and border-state prices. The reduced-form and structural results show that the probability of cross-border cigarette purchases responds in predictable ways to the economic incentives created by the distance to the border and state tax differentials. To our knowledge, we are also the first study to extend the formula for optimal Pigouvian corrective taxation to incorporate excise tax avoidance. Taking into account tax avoidance implies the optimal tax is substantially below the simple Pigouvian tax that internalizes external costs. In illustrative calculations for 2003, we find that in 20 states the optimal tax that accounts for tax avoidance is at least 20 percent smaller than the simple Pigouvian tax.

Suggested Citation

DeCicca, Philip and Kenkel, Donald and Liu, Feng, Excise Tax Avoidance: the Case of State Cigarette Taxes (April 2010). NBER Working Paper No. w15941. Available at SSRN: https://ssrn.com/abstract=1598057

Philip DeCicca (Contact Author)

McMaster University - Department of Economics ( email )

Hamilton, Ontario L8S 4M4
Canada

Ball State--Department of Economics ( email )

United States

Donald Kenkel

Cornell University - Department of Policy Analysis & Management (PAM) ( email )

120 Martha Van Rensselaer Hall
Ithaca, NY 14853
United States
607-255-2594 (Phone)
607-255-4071 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Feng Liu

Shanghai University of Finance and Economics ( email )

777 Guoding Road
Shanghai, AK Shanghai 200433
China

The Chinese University of Hong Kong, Shenzhen ( email )

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