News & Updates

The price of most items that consumers purchase increases over time due to inflation. This year, however, the impact of inflation was removed as it applies to the tax on one of the most deadly over-the-counter products that Minnesotans can buy: cigarettes. The repeal of the annual inflation adjustment to Minnesota’s cigarette tax effectively freezes the rate at $3.04 per pack indefinitely. As wages and other sources of income increase over time, cigarettes will thus become more accessible to smokers and potential smokers, including teens who are especially sensitive to marginal increases in the price of cigarettes.

Prior to the recent law change, Minnesota’s cigarette tax had been adjusted annually based on the year-to-year increase in the in-lieu sales tax rate, which was in turn increased each year based primarily on the increase in the average weighted retail price of a pack of cigarettes.* In this way, inflation in the price of cigarettes was factored into the cigarette tax, essentially ensuring that the total inflation-adjusted price of a pack of cigarettes (including both the retail price and the tax) remained constant over time. With the repeal of the annual adjustment, the amount of the tax will decline over time in constant dollars.

The chart below shows the estimated amount of the cigarette tax per pack in constant 2017 dollars under the new law, assuming inflation in cigarette prices equivalent to the projected Consumer Price Index (CPI). The CPI projections used in this analysis through 2021 are from the February 2017 State Budget and Economic Forecast; inflation after 2021 is assumed to equal annual average CPI growth from 2020 to 2021.

While the nominal (i.e., prior to inflation adjustment) amount of the tax will remain constant, its real impact will decline. In constant 2017 dollars, the tax will decline from $3.04 in 2017 to $2.37 in 2027, based on these projections. This 22 percent decline in the tax will have at least two effects. First, it will reduce state tax revenues. Second—and more importantly—it will mitigate the disincentive to smoke that would result from a higher cigarette tax.

The cigarette tax increase enacted in 2013 is credited with encouraging many Minnesota smokers to “kick the habit.” According to the Minnesota Adult Tobacco Survey (MATS) 2014 from ClearWay Minnesota and the Minnesota Department of Health:

In 2013, the Minnesota Legislature passed a law that increased the tax on cigarettes by $1.60 per pack. Smokers reported that this price increase influenced their smoking behaviors, with 60.8 percent thinking about quitting, 48.1 percent cutting down on smoking and 44.2 percent making quit attempts. Among smokers who successfully quit in the past year, 62.8 percent reported that the price increase helped them make a quit attempt, and 62.7 percent reported that it helped keep them from smoking again.

MATS shows that the impact of the 2013 cigarette tax increase was particularly pronounced among young smokers, with 56.1 percent of smokers between the ages of 18 and 24 indicating that they reduced cigarette consumption in response to the tax increase, and 29.0 percent indicating that the tax increase helped them to “maintain a quit attempt.” The prevalence of smoking among this age group fell significantly from 21.8 percent in 2010 (prior to the tax increase) to 15.3 percent in 2014 (after the increase). The removal of the inflation adjustment from the cigarette tax will not eliminate the impact of the 2013 cigarette tax increase, but it will erode its effect over time, as the real impact of the tax gradually declines.

Apart from the obvious health and mortality risks that cigarette usage creates for smokers, there are clear and well-documented societal costs as well. A 2010 Penn State study found that, “the combined medical costs and productivity losses attributable to each pack of cigarettes sold [in Minnesota] are approximately $20.83 per pack.” This $20.83 estimate is expressed in 2009 dollars; no doubt, these costs have increased since 2009 and will continue to increase in the future, as health care and other costs continue to increase. While the societal cost of cigarette usage will continue to escalate, Minnesota’s cigarette tax will remain frozen. As a result, the gap between the cost of the harms resulting from smoking and the revenue generated by the cigarette tax will increase.

A tax that is frozen in nominal dollars is a tax that is declining in real dollars. By eliminating the annual inflation adjustment to the cigarette tax, the tax will gradually become less of a smoking deterrent. Over time, the real dollar decline in the cigarette tax will become significant—and so too will the dilution of the tax’s deterrent effect, ultimately leading to increased cigarette usage (especially among price sensitive groups such as teens), increased mortality and other health consequences for smokers, and increased societal costs in the form of higher health care expenditures and lost productivity.

 

*The original version of this article stated that the annual increase in the cigarette tax was directly tied to the Consumer Price Index, which is not correct.

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