# **1. Introduction**

The World Health Organization estimates that tobacco kills more than 7 million people worldwide each year (WHO 2017a). It is the second leading cause of death and disability worldwide and is among the major preventable causes of disease and premature death globally (Doll and Hill 1956; Ng et al. 2014; Wynder and Graham 1950). Diseases associated with tobacco use include lung cancer, stroke, ischemic heart disease, and respiratory diseases (DHHS 2004). Nearly 80 percent of the world’s smokers live in low- and middle-income countries and are less likely to be informed about the adverse health effects of tobacco use relative to individuals in high-income countries. The Russian Federation is one of the largest producers and consumers of tobacco; 50 percent of the men and almost 14 percent of the women smoke (30 percent overall), above the average in the countries with high human development indexes.<sup>2,3</sup> Tobacco taxes are often considered regressive because the share of household budgets allocated to tobacco products is larger among low-income households than among high-income households. This paper shows that, if behavioral and indirect effects, especially health-related effects, are taken into account, this is no longer valid. The long-run benefits of not smoking offset the costs associated with tobacco taxes among low-income groups and the overall population. Potential benefits include a reduction in medical expenditures and an increase in healthy life years, factors that translate into economic benefits that outweigh the losses created by tax increases if consumers quit or never start smoking.

This paper describes and quantifies the medium- and long-run effects of tobacco tax increases on aggregate household welfare through three channels. The first channel implies that higher tobacco prices because of higher taxes induce a behavioral response involving a reduction and cessation in tobacco consumption that is manifest particularly among people who discontinue smoking and younger individuals who do not start smoking. The second channel is associated with a reduction in medical expenses associated with the averted treatment costs of tobacco-related diseases, and the third is a rise in incomes because of gains in years of employment derived from an extension in life expectancy. To assess the impact of these effects, this paper estimates the price elasticity of tobacco, simulates upper- and lowerbound scenarios, and calculates the welfare gains among various income groups.

The study is structured as follows. Section 2 reviews the literature on the health effects of tobacco, the economic costs associated with tobacco-related diseases, tobacco tax policies, and price elasticities. Section 3 presents the model, and section 4 provides an overview of the data used to estimate the impact of the tobacco tax. Section 5 examines the results. The final section concludes with a discussion on policy implications.

> 2 2016 Global Adult Tobacco Survey (GATS), Russian Federation Factsheet:

> <u>http://www.who.int/tobacco/surveillance/survey/gats/rus_factsheet_2016.pdf?ua=1</u>

> 3 The Human Development Index (HDI) is a summary measure of average achievement in key dimensions of human development: a long and healthy life, being knowledgeable and have a decent standard of living. The HDI is the geometric mean of normalized indices for each of the three dimensions. The measure was introduced and measured by the United Nations Development Programme (UNDP).

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