Cigarette: A Case Study

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Article highlights: UK cigarette firm criticized over Laos tobacco tax deal.
Cigarette is a demerit good. A ‘demerit good’ is a good which is considered to have a negative impact on consumers or a good that is damaging in some way. Demerit goods usually have negative externalities- where consumption causes negative effect to a third party. In addition, the market for cigarettes is an example of market failure - the quantity demanded for a product by consumers does not equate to the quantity of product supplied by suppliers.

The graph illustrates that there are negative externalities of consumption of cigarettes. As indicated, the marginal private benefit is greater than the marginal social benefit as there is a harm to society. The difference between the MPB and MSC is the negative externality. As consumers only consider private benefit, the free market equilibrium will be at P1 and Q1. Thus, cigarettes is over-consumed by q1-q units.

In addition, since MSC is greater than MSB, there is a welfare loss.

In the absence of externalities, the private marginal costs of the supplier are the same as the costs for society. Though, if negative externalities do exist, external costs must be added to the firm’s supply curve to find the social MC curve. A failure to do so would
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Also, as indirect tax is a regressive tax, income inequality arises because most smokers fall in the category of low to middle income individuals. Another disadvantage is that the reduction of the consumption of cigarettes is low in the short run due to its low elasticity. However, the advantages of imposing indirect taxes are high government revenue which can be used to fund and promote merit goods. Also, greater reduction in smoking in the long run because elasticity increases in the long run as consumers have time to pick their
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