United States

Department

of Agriculture

www.ers.usda.gov

Electronic Outlook Report from the Economic Research Service

TBS-250-01

October 2001

Trends in the Cigarette

Industry After the Master

Settlement Agreement

Abstract

Since the Master Settlement Agreement (MSA) was signed in November 1998, the cigarette industry has been forced to raise prices to cover the costs associated with the settlement. The agreement between the attorneys general from 46 States and the major cigarette companies was intended primarily to reimburse States for expenses related to the

treatment of smoking-related illnesses. The agreement also contained provisions to

reduce smoking prevalence, especially among youth. Cigarette companies have boosted

prices as a result of payments required by the settlement. Higher prices have curtailed

consumption, although not as much as originally expected. The long-term decline in cigarette consumption due to non-economic factors continues as well.

Keywords: Cigarettes, tobacco, consumption, supply, use, taxes, Master Settlement

Agreement, Consumer Price Index, imports, and exports.

Acknowledgments

The author wishes to thank the reviewers in USDA's Economic Research Service,

Foreign Agricultural Service, and Farm Service Agency for helpful comments and 

suggestions. Thanks also to Martha R. Evans and Wynnice Pointer-Napper for their 

technical assistance.

Thomas C. Capehart, Jr.
Introduction

On November 16, 1998, States attorneys general and

cigarette manufacturers signed an agreement to reimburse the States for the costs of treating smoking-related illnesses and to reduce underage smoking. Within a

few days, all 47 States and the District of Columbia

(four States settled previously) and various territories

had signed on with the agreement. This tobacco settlement did not require approval by Congress. 

Key elements of the pact are:

$206 billion to be paid to States over 25 years.

$1.5 billion over 10 years to support anti-smoking

measures plus $250 million to fund research into

reducing youth smoking.

Limitations on advertising.

Ban on cartoon characters in advertising.

Ban on “branded” merchandise.

Limitations on sporting event sponsorship.

Disbanding of tobacco trade organizations.

The settlement, combined with expenses from the four

previous State settlements, will have an ongoing inflationary effect on the price of cigarettes. 

The National Tobacco Grower 

Settlement Trust

In addition to the Master Settlement Agreement

(sometimes known as phase I), cigarette manufacturers

agreed to pay $5.15 billion to tobacco growers over a

period of 12 years (phase II). The trust fund was negotiated to compensate tobacco quota owners and growers for potential reductions in their tobacco production

and sales resulting from the Master Tobacco

Settlement reached in 1998.

2 Economic Research Service, USDA

The Master Settlement Agreement of November 1998
Rising prices have caused cigarette consumption to

decline 7.5 percent since 1998. 

Other factors, such as restrictions on where people

can smoke and the greater knowledge of the health

risks associated with smoking, also have contributed

to lower cigarette consumption. 

Year-end 2000 cigarette consumption is expected to

be 430 billion pieces, unchanged from earlier estimates, compared with 435 billion pieces in 1999. 

Per capita consumption continued to slip at 2,025

pieces per person (total U.S. age 16 and over population), compared with 2,067 pieces for the same

group in 1999.

Although consumption has declined by about 35 billion cigarettes since 1998, it has declined less than

expected. Premium brands especially have shown a

tenacious grasp on market share. The share of the

market held by premium brands has continued to

increase since the MSA was signed.

Economic Research Service, USDA 3

Cigarette Consumption Slips to 430 Billion Pieces in 2000

U.S. cigarette consumption, 1990-2000

Bil. pieces

1990 91 92 93 94 95 96 97 98 99 2000

300

400

500

600

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.
Cigarette prices surged 45 cents per pack on

November 16, 1998, the day the Master Settlement

Agreement (MSA) was signed. Cigarette manufacturers raised prices to cover the cost of the settlement. 

Price increases set the stage for declines in consumption in subsequent years, but increased taxes also

played a role in dampening demand for cigarettes. 

The Federal excise tax has been 34 cents per pack

since January 2000, when it increased from 24 cents

per pack. The Federal excise tax is paid by the manufacturers, but most of the tax is passed on to consumers. In January 2002, the Federal cigarette

excise tax will increase by an additional 5 cents per

pack, or $2.50 per thousand cigarettes. 

States also collect excise taxes on cigarettes.

Currently, State excise taxes range from 2.5 cents

per pack in Virginia to $1.11 in New York. State

excise taxes, weighted by number of packs sold,

average 41 cents per pack. Most States also collect

sales taxes, and some municipalities and cities collect additional taxes on cigarettes.

The impact of taxes on the individual smoker is significant, averaging $250 per smoker in 2000 (based

on Centers for Disease Control data indicating 22.7

percent of people in the United States over 16 years

of age are smokers). 

Cigarettes sold for export and re-imported into the

United States are known as “grey market” cigarettes. The grey market is financially feasible

because the wholesale export price of U.S. cigarettes is about 20 percent of the domestic wholesale

price—$.40 versus $2.25 per pack of 20 cigarettes.

After paying duties, excise taxes, and transportation,

cigarettes shipped abroad and then shipped back to

the United States are still cheaper than those sold

domestically by the manufacturers. This practice

was forbidden by legislation effective January 2000. 

4 Economic Research Service, USDA

Cigarette prices, 1990-2001

$ per pack

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1990 91 92 93 94 95 96 97 98 99 2000 01

0

0.5

1.0

1.5

2.0

2.5

3.0

MSA 11/98

Wholesale price (excluding tax)

Export price $0.40

$2.25

Cigarette Prices Have Risen Since the Master 

Settlement Agreement
Retail prices, as indicated by the cigarette Consumer

Price Index (CPI) (Bureau of Labor Statistics,

Department of Labor), have historically tracked

wholesale price increases. 

Since the MSA, however, discounts and promotions

have caused retail prices to grow at a slower rate

than the wholesale prices charged by manufacturers. 

Discounts and promotions have also enabled manufacturers to maintain market share for premium 

cigarettes. 

The cigarette CPI increased much faster than the

CPI for all consumer items. Between 1998 and

2000, the overall CPI grew by 6 percent while the

cigarette CPI grew by 60 percent.

Economic Research Service, USDA 5

Cigarette price indices, 1997-2001

Dec. 1997=100

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

Dec. 97 Apr. 98 Aug. 98 Dec. 98 Apr. 99 Aug. 99 Dec. 99 Apr. 2000 Aug. 00 Dec. 00 Apr. 01

100

125

150

175

200

225

CPI

Wholesale Jan. 2001

163.6

Dec. 2000

195.1

Price Indices Show the Effect to the Consumer of Higher

Cigarette Prices
Since 1996, cigarette exports have fallen by about

100 billion pieces. 

This is due to offshore manufacturing by U.S. makers of cigarettes, primarily in Europe and Eastern

Europe, declining consumption in some major buying countries in Europe and Asia, and economic

troubles in many Asian nations.

U.S. cigarette imports are rising, but are a small factor in overall consumption.

6 Economic Research Service, USDA

U.S. cigarette exports, 1979-2000

Bil. pieces

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1979 81 83 85 87 89 91 93 95 97 99

0

50

100

150

200

250

300

244 bil.

148 bil.

After Peaking in 1996, Cigarette Exports Fell Rapidly Until 1999,

Then Stabilized
Declining domestic consumption and lower exports

have reduced the number of cigarettes produced in

the United States. 

After peaking in 1996, cigarette output has fallen

every year since. Cigarette output in 2000 is about

595 billion pieces. 

In 2000, exports were virtually unchanged and

domestic consumption fell slightly. With output

falling relatively faster than consumption, stocks are

declining. 

Economic Research Service, USDA 7

U.S. cigarette output, 1979-2000

Bil. pieces

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1979 81 83 85 87 89 91 93 95 97 99

500

550

600

650

700

750

800

755 bil.

595 bil.

Declining Domestic Demand and Exports Shrink U.S. 

Cigarette Production
Discount (generic) brand market share continued to

slip in 2000, falling to 26.7 percent of sales, compared with 37.0 percent in 1993. This is mostly due

to increased price competitiveness of premium

brands due to promotions and discounts.

Output for calendar 2000 is expected to be around

595 billion pieces. 

Taxable removals (the amount upon which Federal

tax was paid) in 2000 reached 423 billion pieces and

exports totaled 148.3 billion pieces (12 months of

data). Federal excise taxes are collected from cigarette manufacturers.

Exports stabilized, slipping by only 2.8 billion cigarettes compared with declines of 50 billion pieces

during both 1998 and 1999.

8 Economic Research Service, USDA

U.S. cigarette disappearance, 1979-2000

Bil. pieces

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1979 81 83 85 87 89 91 93 95 97 99

0

100

200

300

400

500

600

700

800

Total removals

Taxable removals

Generics

Exports

The Components of U.S. Cigarette Use Show Declines 

Are Long Term
Lower cigarette output has caused demand for

tobacco leaf to decline. 

U.S. leaf prices are higher than world leaf prices,

making U.S. leaf less competitive. The price support

component of the U.S. tobacco program inflates U.S.

leaf prices. Without the program, U.S. prices would

be closer to those of other leaf-producing countries.

Furthermore, improved quality of foreign-grown leaf

has boosted leaf import levels. (See the Policy section of the Tobacco Briefing Room, http://www.ers.

usda.gov/briefing/tobacco/policy.htm, for details of

the USDA Tobacco Program.)

U.S. leaf has been displaced to a greater extent 

by foreign leaf than by declines in cigarette 

consumption.

Economic Research Service, USDA 9

Tobacco used for cigarettes, 1990-1999

Mil. lb

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1990 91 92 93 94 95 96 97 98 99

0

200

400

600

800

1,000

1,200

1,400

Flue-cured Burley Maryland Imported

Overall Leaf Use Has Declined, but the Domestic Component 

Has Shrunk Even Faster
Cigarette consumption in the United States will likely continue to decline between 1 and 3 percent per

year, assuming price increases similar to those of

the past 2 years.

Additional taxes or price increases will dampen 

consumption further. 

Cigarette exports will likely continue at about current levels for at least 5 years, as demand for U.S.-

manufactured cigarettes has stabilized in major

importing countries and movement of production 

offshore has stopped. 

Demand for U.S. leaf will continue to slide.

Competition from foreign leaf in both domestic and

foreign markets will dampen U.S. leaf use.

Any major changes in the U.S. tobacco program

will cause significant changes in these forecasts. For

instance, elimination of the price support and marketing quota would cause U.S. leaf production to

rise and prices to fall. 

10 Economic Research Service, USDA

Upcoming Trends in the U.S. Cigarette Industry

Bil. pieces

Source: Tobacco Situation and Outlook Report, Economic Research Service, USDA.

1991 92 93 94 95 96 97 98 99 2000 01 02 03 04 05

300

350

400

450

500

550

600

400

380

U.S. cigarette consumption, 1991-2005

2001-05 forecast with 1.5% and 2.5% per annum decline

1.5% per year decline

2.5% per year decline