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A Note on the Economic Implications of the New Tobacco Tax Policy

The Nigerian government recently reviewed the excise duty rate and structure applicable to tobacco products and alcoholic beverages. Specifically, the government approved an additional ₦1 specific tax on each stick of cigarette (₦20 per pack), which would increase to ₦2 per stick in 2019 (₦40 per pack) and eventually ₦2.90 per stick in 2020 (₦58 per pack) while maintaining the current 20% ad valorem rate on unit cost of production.

The increase on tobacco products which amounts to a tax burden of 16.4% is still way below the World Health Organization (WHO) recommended 75% excise tax burden. Other African countries currently impose higher excise duty rates on unit cost of production: Ghana (175%), Senegal (45%), and Gabon (32%). The excise duty imposed on tobacco products is not only aimed at increasing government revenue, but also improving public health given the well-known fatal effects of tobacco use.

However, concerns have been raised about the negative economic impacts that increasing taxes on tobacco may have, particularly on tobacco industry revenue and employment. The Manufacturers Association of Nigeria (MAN) cautioned that the new policy will have drastic effects on employment and productivity, leading firms to shut down operations. This was followed by a call to the government to reverse the changes made.

In an earlier article, we demonstrated how the new excise policy on tobacco products will impact health and financial outcomes using the Tobacco Excise Tax Simulation Model (TETSiM). In this short article, we examine the likely impact of the new policy on tobacco industry productivity, competitiveness and employment.

Economic Implications of the Recent Tobacco Tax Policy
In order to examine the economic impact of the change in tobacco tax policy, we draw from the findings of a TETSiM carried out using the new excise duty rates, labor data obtained from the National Bureau of Statistics (NBS), and income data sourced from the World Bank.

1. On Tobacco Industry Revenue
With the new excise tax, industry revenue is expected to decrease by about 3.3% to ₦98.7 billion after the three-year period which the new policy is to be implemented. Nigerian cigarette manufacturers currently sell cigarette worth ₦119 billion annually. The tax increase will lead to an increase in sales worth ₦17 billion to about ₦136 billion. Most of the increase will be accrued to the government as tax revenue over the policy implementation period. The increase in tobacco tax would lead to a reduction in cigarette consumption and inadvertently, a reduction in industry revenue. It is expected that money not spent on tobacco products will be spent on other goods and services, hence increasing revenues in other sectors of the economy. However, on the basis of a cost-benefit analysis, the increase in excise tax revenues more than compensates for the decrease in revenue of tobacco industry.

2. On Employment
Job losses for people in direct employment are very unlikely because the implication of the excise tax is paltry (₦2.90 per pack spread over 3years) to cause significant changes. In terms of indirect employment, tobacco farmers and distribution value chain, the new policy is also very unlikely to severely impact livelihoods because most tobacco farmers practice mixed farming, making it easier to switch to alternative crops if there is a reduced demand for tobacco.Furthermore, players in the distribution value chain (e.g. retailers) do not solely market tobacco products. If the new policy effectively reduces the demand for tobacco products, smokers will re-allocate the finances previously spent on tobacco to spending on other consumer goods, which will benefit the value chain of alternative sectors.
At the aggregate (macroeconomic) level, we expect to see no significant net job losses. In fact, the reallocation of spending away from tobacco products will lead to productivity gains and job creation by the Government in alternative sectors.

3. Tobacco Industry Competitiveness
The tobacco industry in Nigeria is essentially a near-monopoly with British America Tobacco (Nigeria) Ltd (BATN) accounting for 79% of total retail volume. The rest of the market is dominated by other local players, International Tobacco Co Inc., Leaf Tobacco Company and Philip Morris International Nigeria Ltd. Tobacco firms in Nigeria make supernormal profits when juxtaposed with their cheap production costs and market power. According to the Nigeria Customs Service, the Unit Cost Analysis (UCA) for a pack of cigarettes is ₦60 (the ad valorem duty rate) relative to an average retail price of ₦194.9 for the most sold brands, signaling huge mark-up by the industry.

This implies that higher tax level is unlikely to significantly affect productivity and employment in these firms, as they can pass on the burden of tax to consumers and still maintain their market share and profitability. Moreover, the new tax increase is relatively small; an additional ₦2.90 per stick spread across three years – allowing the firms to adjust. Their market power, supernormal profits, economies of scale, and the gradual policy implementation will ensure little or no negative impact on productivity, hence tobacco firms are unlikely to shut down.

Conclusion
The new tobacco policy is not significant enough to bring about serious negative economic consequences or threaten the existence of tobacco firms in the short, medium or long term. The direct financial benefit, in terms of fiscal revenues (₦29.5 billion), far outweighs any potential losses.

Additionally, the public health benefits of reduced tobacco-related deaths as well as the indirect economic benefits, in terms of medical care costs savings, productivity gains due to a healthier population, reallocation of resources (labor and money) from tobacco to other sectors are invaluable.

The government’s will to implement tobacco control measures is commendable. However, complementary tobacco control measures will need to be taken to realize maximum benefits from the tax policy. Also, the government should earmark the realized revenues from tobacco taxes to fund priority tobacco control activities in the country and assist tobacco farmers to cultivate alternative crops.

 

By Joseph Ishaku, Precious Akanonu and Chukwuka Onyekwena

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