February 5, 2013

Sin Taxes: Size, Growth, and Creation of the Sindustry

  • Adam J. Hoffer

    Assistant Professor of Economics, University of Wisconsin-La Crosse
  • William F. Shughart II

  • Michael D. Thomas

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I. Introduction

Revenue shortfalls associated with the Great Recession and the corresponding slow recovery have hindered the ability of US state governments to balance their budgets. With lingering economic doldrums eroding governmental tax bases and strong resistance to proposals for cutting public spending or raising broad-based taxes, many states have begun searching for new revenue sources. Particularly attractive targets for revenue creation are goods deemed by policy makers to be unhealthy, to generate negative externalities, or both. Historically, certain items have been the primary focus of selective excise taxation: tobacco, alcohol, salt, stamps, tea, and motor fuels.[1] Owing to alcohol, tobacco, and gambling’s longstanding association with vice, taxes on these items are commonly referred to as “sin taxes.” While taxing items with presumed negative effects on public health, public morals, and the environment has a long history in traditional welfare economics, a growing number of consumer goods are now being added to the list of items singled out for selective sin taxation.

Recent additions to the sin tax category are foods that are high in sugar, trans fats, and other ingredients the public health establishment has associated with rising incidences of obesity,[2] type 2 diabetes, and similar so-called epidemics. Indeed, 33 states already have implemented a soft drink tax. Because public health expenditures are correlated with the consumption of these goods, a case has been made for the selective taxation of all sugar- sweetened beverages, junk food, and many items on the menus of fast food restaurants (see Brownell et al. 2009 and Jacobson and Brownell 2000).

This paper addresses three criticisms of sin taxes: First, the traditional Pigouvian justification applied to sin goods, such as alcohol and tobacco, is frequently misapplied to a progressively broader base of goods and services where the “sin good” label is questionable, such as automobile tires, candy, soft drinks, and fast food. The standard argument is that, because consuming these and other goods generates negative externalities that consumers are unable to take into account, private markets “fail” in the sense that consumers purchase more sin goods than is socially optimal. Hence, governments must intervene by imposing the appropriate tax rate so that consumers internalize the externality and reduce their purchases. However, at some point, this justification blurred with things like motor fuel taxes, originally justified as user fees meant to build and maintain highway capacity. Nowadays, the justification advanced for taxing sin goods is often based on paternalistic, normative grounds—policy makers can make better consumption choices for individuals than individuals can make for themselves. Second, like consumption taxes in general, the burden of sin taxes usually falls disproportionately on low-income households. Third, the expanding list of goods taxed in this way triggers socially wasteful lobbying by the affected producers. They lobby both to counter the imposition of new sin taxes and to prevent existing tax rates from rising. Special-interest groups that support new or higher excise taxes also invest resources in promoting their own points of view. To illustrate the government’s exploitation of this tax base, we additionally document the trends in sin taxes over time, including changes in sin tax rates and the amounts of revenue they raise.

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