Question: Question 4: Case Study: Cigarette Taxes in New York
Instructions: Read the following “case” which refers to the market for cigarettes in New York State in 2002. It is not necessary to do outside research in answering the questions which follow the case.

A law recently enacted in New York State will raise cigarette taxes by $1.50 per pack, the highest in the nation. The $9 billion expected to be raised will be spent on extending taxpayer-subsidized health care for an additional one million New Yorkers.

History has shown that:
· Health care always costs more than first estimated.
· Tax receipts will always be less than forecast.

Will smokers have a way to beat the taxes? Indeed they do.
· Neighboring New Jersey, Connecticut, and Pennsylvania have lower taxes on cigarettes. Cheaper cigarettes are a toll booth away.
· The state has many tax-free Indian reservations which expect a boom in their business. As a member of the Seneca Nation put it: “God bless them [the legislature and governor]. Every time they do it, more people come.” And New Yorkers don’t have to drive to the reservations since the tribes now run web sites exclusively dedicated to the cigarette trade.
· There is always the Internet. On one of the sites, a carton of Marlboros retails for $24, compared with roughly $40 in New York City.
· And what about the black market? Cigarette taxes are 5 cents per pack in North Carolina and 3 cents per pack in Kentucky.

Why do it? Besides doing good for poor sick people, another reason is that there will be a large increase in the number of health-care givers – people that can be unionized. Since it is highly likely that the tax will not be able to pay for expanded health insurance, other taxes will have to be raised in the future to compensate.

(a) Who will benefit from the imposition of this tax? Who will lose from the imposition of this tax? Explain your answer in the context of consumer and producer surplus.

(b) Who has the higher inelasticity, the producers or the consumers?

(c) Does the Indian spokesman believe smokers have an elastic or inelastic demand for cigarettes? Explain your answer.