By all means, raise sin taxes

Manong Rakatak

Taxes should come from alcohol and tobacco and not from books[…] Tax hazards to lungs and livers, do not tax minds[…]

GMA, July 27 2009 SONA

I meant to discuss this, but bigger things took more of my attention than I expected. Being a heavy smoker, I will be among the millions of consumers directly affected, so let me just come right out and say it, and quote the President in the process: “If you want something done, do it hard, do it well. Don’t pussyfoot. Just do it.” By all means, increase taxes on cigarettes and alcohol. But do it right.

House Bill 3759 and friends

The bill, authored by Rep. Danilo Suarez (3rd District, Quezon), proposes to impose a uniform tax rate for all types of cigarettes. Newsbreak’s Lilita Balane and Jesus F. Llanto reports that “A uniform tax will mean that eventually all types of cigarettes will be imposed a P14 tax per pack. Currently, low-priced brands carry a P2.47 tax per pack; medium-priced, P7.14; high-priced, P11.43; and premium, P27.16.”

Aside from HB 3759 and HB 4951, other measures on sin taxes being deliberated on by the House Committee on Ways and Means, chaired by Rep. Exequiel Javier (Lone District, Antique) are HB 2551 increasing excise tax rates on alcohol and tobacco products filed by Rep Bienvenido M. Abante Jr. (6th District, Manila), HB 3917 increasing tax rates on cigars and cigarettes by Rep. Jose G. Solis (2nd District, Sorsogon) and HB 3787 seeking to restructure the excise tax on alcohol products also by Suarez. ^Congress.gov

As it is currently structured, the law — RA 9334 — has a four-tier classification for the cigarettes, based on their average retail price in nineteen ninety-six. Nod your head, I know you know where this is going. By that classification, cigarettes packed by machines — which means pretty much every cigarette available nationwide — are taxed thusly, excluding the excise and value-added taxes:

Average retail price is less than P5 in 1996:: P2.47/pack in 2009, P2.72/pack in 2011
Average retail price is from P5 to P6.50 in 1996:: P7.14 in 2009, P7.56 in 2011
Average retail price is from P6.50 up, but less than P10 in 1996:: P11.43 in 2009, P12 in 2011
Average retail price is at P10 or more in 1996:: P27.16 in 2009, P28.30 in 2011

Brands or variants that weren’t in the market in 1996 are taxed based on this classification on the date they are introduced. Now this begs different reactions from different people:

If you’re an established (at least as of 1996) low-priced tobacco manufacturer *cough*luciotan*cough*, then you’re loving it: your cigarettes, despite now falling under the third or fourth brackets, are still being taxed lower. As a f’rinstance, a certain flagship menthol brand from a low-priced tobacco manufacturer retails for P18-P24 here in Capiz, but is taxed only P2.47 under the current scheme. This means that local tobacco manufacturers enjoy a sizeable competitive advantage over their foreign counterparts.
- Unfortunately, the farmers themselves hardly benefit from this.
If you’re an established (at least as of 1996) premium brand, then things aren’t so good: your taxes are 462.75% higher than the lower priced brands, despite being only 130%-200% more expensive. My brand of choice, Philip Morris Menthol 100’s, retails anywhere from P28-P31 now (it as P18 back in 2002, when I started smoking), and fell under the third bracket back in 1996. The cheaper alternative costs P8 to P10 less (see above), but is taxed much, much lower.
If you’re a new player (post 1996), then this has you shitting bricks, since more often than not, you’re stuck in the third and fourth brackets, even if your products are still priced competitively.
If you’re the health-conscious, anti-smoking advocate, this scheme doesn’t help your cause much; premium cigarettes may have gotten too expensive for the poor, but cheaper alternatives still abound. All it’s done is give the lower-priced cigarettes some of the premium brands’ market share (well d’oh). In fact, ABS-CBN reports that the share of low-priced cigarettes sold in the Philippines surged from just over 40 percent in 2005, when the tax increases took effect, to an all-time high of about 55 percent in 2007, according to the Department of Finance.
If you’re a casual smoker, you’ve seen an increase of anywhere from P0.50 to P1 per stick on your favorite brand since 1998 — if I recall correctly, PM/Marlboro used to cost P1.25 to P1.50 per stick back then, and Winston/Hope P0.75. They cost P2 – P2.25 and P1.50 now, respectively.
Heavy smokers such as myself have felt a harsher sting, as most premium brands have seen an increase of anywhere from P7 to P15 per pack (PM, Marlboro, Hope and Winston), but slightly less on the cheaper brands like Champion and Fortune.
If you’re a rakatak boy or a sari-sari store owner, you’ve probably been hit hardest. As already mentioned, a stick of the premium brands used to sell for P0.75 to P1.50 back in the day, and P1.50 to P2.25 now. To see the impact of this, I’ll illustrate using the example I know best: back in the 2003 a pack of Philip Morris containing 20 sticks costs P18, so by selling at P2/stick, the rakatak boy would earn P22. Today, it costs P29; but since they can only sell at P2 to P2.25 per stick (any higher and people shift to a cheaper brand, which they’d prefer not to sell, as we’ll see in a bit), they only get somewhere from P11 to P16, or 27% to 50% less profits on premium brands. The cheaper alternatives like Fortune and Champion, though, sell for P10-P13 a pack; these are sold at P1 per stick, which means that they only make P7 to P10 per pack.
If you’re the government, you’re not a happy camper either; with more people opting for the cheaper brands, the taxes collected — even assuming the market grows — will be less.

No matter how you’d look at it, the only ones that really benefit from the current tax scheme are the low-priced manufacturers like Fortune Tobacco. But under the proposed bill, as amended by the Department of Finance, the playing field for the manufacturers are suddenly evened out, allowing for several things to happen:

Local tobacco’s biggest advantage — a high profit margin — goes bye bye. All of a sudden, from being only taxed P2.47/pack, they are facing a P14 tax, an increase of 566.8%. To maintain profitability, they will need to increase their prices as well, maybe even to within a few pesos of the premium brands’.
Unfortunately, this may well mean that the tobacco farmers will be cheated further.
The really expensive foreign brands, mostly known as “blue seals”, get an almost 50% decrease, from P27.16 to P14.
Most premium brands like Philip Morris will see a slight price jump; their taxes are currently at P11.43. Putting it at P14 is a 22% increase, but I seriously doubt if we’ll see a price increase larger than 30% (see what I’ll say at the rakatak section below).
Price variation between cigarettes of similar quality/manufacturing cost will decrease.
New players will be able to enter the market and be comeptitive.
Based on the Department of Finance’s amendments to HB 3759, which includes a proposal that the excise tax rate be adjusted annually to inflation, the Department of Budget and Management projects that the government stands to earn as much as P12.9 billion in the first year of implementation of a single tax rate on cigarettes and tobacco products and P18.6 billion in the second year of implementation.
Rakatak boys and sari-sari stores will be forced to increase their prices as well; but since there won’t be much price deviation, there is little incentive for the buyer to switch to a cheaper brand, because it won’t be that much cheaper, and brand loyalty is kind of a big thing for smokers. If premium brands currently selling at P30 were to increase their prices by say 30%, making it P39, a stick selling at P2.50 per will still mean an P11 profit for the rakatak boy. But the manufacturers can’t go too far beyond a 30% increase, because doing so would mean that:
1. These small-scale retailers would have to sell sticks at P2.75 or more; this is significant because of the psychological effect it would have on the consumer. Pocket change usually comes in P1, P5 and P10 denominations; since a peso won’t buy you much these days, the smallest significant denomination is the five peso coin. At P2 to P2.50 per stick, your five pesos can buy two cigarettes; but at P2.75, it can only buy one! To a casual smoker that only consumes a few sticks per day then, that cigarette costs, for all intents and purposes, five pesos! Or;
2. They can stop selling cigarettes altogether; for the rakatak boys, that means they’re out of a job, true enough, but if their profit margins fall too far, that’ll still happen anyway.
The poor, of course, will be the most affected, as there won’t be much in the way of cheap alternatives. The real addicts will still find a way — we always do — but consumption will be seriously reduced.
Which means that the ones happiest will be the health advocates and concerned citizens at the health department: Lesser consumption of cigarettes is expected to help reduce the direct and indirect economic costs of diseases associated with smoking, estimated between P100 billion to P300 billion.

The strongest resistance to the proposed bill, naturally, comes from the local manufacturers, represented by (directly or indirectly) Antique Congressman Exequiel Javier. He cites a valid point: the new bill can certainly hurt the local industry the most, but only if they sit on their collective asses and fail to compete. Low-priced brands such as those of Fortune Tobacco’s enjoy a huge chunk of the market share for the simple reason that they are taxed less, and so sell for less than foreign brands. The stark reality of the local tobacco situation is that they are bought not because they are better, but because they are what people can afford. They don’t fear competition; they fear their inability to compete.

It doesn’t take an economist to realize that, given a small difference in price, the product with better quality will come out ahead in the long run. The entry of new players, foreign or otherwise, will break their monopoly. This competition will force the local tobacco industry to either get better or fold up. And one way to get better is to help the local farmers themselves.

The infamous Republic Act 7171 by Chavit Singson — which created the Tobacco Excise Tax, from whose coffers deposed President Erap Estrada supposedly demanded P130 million — mandates that the four Virginia tobacco-producing provinces are allotted a 15 percent share of excise taxes on the manufacture of Virginia-type cigarettes. However, these funds don’t go to the farmers directly, but to their Local Govermnent Units, which was why Chavit was able to get his grubby hands on a large chunk of it. With the expected increase in taxes, RA 7171 has to be amended to ensure that a sizeable portion of that fund is allocated to the farmers, or at least, to projects that will expressly and directly enhance their productivity and the quality of their produce.

Unfortunately, getting this done is a daunting task. There is a saying, “the hardest person to wake up is the one already awake, but doesn’t want to get up.” The local manufacturers are like that: it’s not that they can’t compete, they just don’t want to. They can be globally competitive, but it takes too much effort, and cuts too much into their profits in the short term. So they’d rather spend millions lobbying or paying off Congressmen, so that they don’t have to spend those millions to make a better product and uplift the farmers’ lives.

Getting this done right — in a way that looks at the big picture, not just the interests of a single sector — requires testicular fortitude, Madam President. It means going against the Northern Alliance and forcing them to be competitive, and pushing for a reform that will cost you some of the support from Congress that’s allowed you to stay at Malacañang for so long, and will pretty much make your chances at pushing for ChaCha nil.

So stop pussyfooting, already.