The impact of prices on smoking by young people is of
special interest to all those involved in the dialogue
surrounding tobacco use. Generally, higher prices are
expected to discourage youth from starting to smoke and
would also be expected to reduce the rate of smoking after
smoking has become a habit. The price increases from 1975
through 1998 shown in Table 1 are not extremely large on a
year-to-year basis when the prices are converted to an
inflation-adjusted series. The abrupt increase in price in late
1998 is large and will amount to more than a 20 percent
increase in inflation-adjusted prices from 1998 through 1999.
Such a large increase in price will significantly influence
consumption.
Figure 1. U.S. Domestic Cigarette Consumption and
Retail Prices, 1975-1998
—♦—Nominal Price —•— Deflated Price —ж—Consumption
The other side of the coin is also present and merits
special attention. In August 1993, the tobacco companies
reduced the wholesale price of premium brands of cigarettes
by 24 to 27 percent (ERS, Table 8). Median nominal retail
prices for 1994 were down almost 8 percent, from 183.7 cents
per pack to 169.3 cents. Prior to the price cut, the
consumption of cigarettes had trended down from a high of
640 billion pieces in 1981 to 485 billion in 1993, an average
decline of 12.9 billion pieces across the period. That
significant downward trend was stopped by the price cut
(Figure 1), and it was 1997 before consumption again dipped
below 485 billion pieces.
The abrupt halt to the decline in consumption was
related to the price cuts. When the influence of inflation is
removed, prices in 1994 through 1997 were 10 percent below
the 1993 price, and price was still down nearly 6 percent in
1998 . After the price cut by the tobacco companies in 1993,
the typical consumer’s ability to buy cigarettes increased
significantly. Overall prices—and overall wages—were
going up much faster from 1993 through 1998 than were
cigarette prices. More will generally be taken of any product
or service at lower prices, reflecting the widely referenced
“law of demand.” The law says that consumers will take, at
any point in time, more quantity only at lower prices. Clearly,
price cuts can be used to stimulate consumption.
The price cut in 1993 stopped, for a number of years, a
large and sustained decrease in domestic cigarette
consumption.
The Role of Elasticity of Demand
Elasticity of the demand for any product or service is
defined as percent change in quantity divided by percent
change in price. In practical terms, the concept is very useful
in determining what, if any, sales might be lost from
announced price increases. Alternatively, business firms
might be interested in what happens to total revenue received
from the sale of any product or service when the selling price
is changed.
Elasticity is typically divided into two broad categories:
elastic and inelastic. Generally, the demand for a particular
product or service is said to be price elastic when the
percentage change in quantity divided by the percentage
change in price exceeds one. Alternatively, the demand for
products or services is considered to be price inelastic when
that same ratio is less than one. Since price and quantity
move in opposite directions along a negatively sloping
demand curve from one price-quantity coordinate to another,
the ratio is always negative. Thus, the interest is in whether
elasticity is greater than one or smaller than one, regardless
of sign.
Chaloupka and Grossman estimate the price elasticity
of demand for cigarette use among young people ages 18 to
25 at approximately -1.3. This elastic demand suggests young
smokers change quantity consumed a great deal in response
to a price change. It is about three times as large as is
researchers’ estimate of the measure of elasticity of demand
for all smokers, which is around -.45. Reductions in youth
smoking as the result of price increases are about evenly
divided between those who never start to smoke and those
already smoking who decrease their consumption, the
researchers conclude. These findings suggest that price
decreases are very effective in attracting young people to
cigarette consumption: The 1993 price cuts would have
encouraged many young people to start smoking.