Economics of Cigarette Tax and Advertising: A Comprehensive Analysis

This assignment analyzes the economic effects of cigarette taxes and advertising bans. It examines the impact of taxes on cigarette demand, considering price elasticity among different income groups, and the implications for government revenue. The analysis further explores the role of substitute products like rollies, and how advertising bans affect market dynamics, including price setting and profit maximization. The assignment highlights the importance of a broader definition that considers not only health but also the budgetary allocations of consumers and the tobacco industry's response to the changes. The work provides a comprehensive understanding of how these factors interact to shape the market for cigarettes and influence consumer behavior, offering insights into the consequences of policy interventions.

Exercise 1
a) There will be limited impact on government revenue since there will be a decrease in the
quantity demanded of cigarettes due to the increase in taxes. For this reason there will be a
less than proportionate effect on the tax revenues charged.
b) The teenagers are more price elastic since they have limited income at their disposal hence
they have to work around their budgets in order for them to have maximized leisure. Also,
the teenagers may engage in smoking in order to look cool and therefore may not be
heavily addicted to its use.
c) Lower income groups may feel the effect of the increase in price more than the higher
income groups and therefore they may be more sensitive to the price changes. ON the
other hand, the high income groups may be affected less.
d) Increase in taxes makes the cost of engaging in the practice more expensive. This therefore
increases the amount of income that is used for cigarrete smoking and therefore the
budgetary allocation is adjusted.
e)
The tax on cigarettes increases the quantity supplied of the cigarettes. This is because the
firms may expect a price increase which may increase their surplus. This may result to a
decrease in the equilibrium price since there is limited increase in the demand for the
cigarettes.
f) The taxes have a negative effect on the welfare of the individuals. This is because the
budgetary allocation is affected which may influence other purchases of the homes of
those individuals.
g) Yes there is need for a broader definition. This is because there is need to assess the
impact of the levied taxes not only on health but also on the budget.
h)
Price
Quantity

The rollies may act as substitutes for the cigarettes which reduces the demand for the normal
cigarettes and decreases the equilibrium price.
i) The switch may mostly impact negatively on the health of the individuals. It may however
be a better alternative which may improve the budgetary allocations of the individuals.
Exercise 2
a) Less advertising may negatively impact the demand for the product due to decreased
awareness of the product.
b) The ban may make the tobacco companies more price setters, This is because
individuals may lack information concerning the appropriate market prices of the
product and therefore they may be exploited.
c)
mc
Price mr
Quantity
The profit maximization level decreases. This is because there are less marginal costs associated with
production as there are no advertising costs involved in the process due to the ban.