States and Cigarette Smuggling

Both economics and history make clear what will happen when taxes are raised too high on cigarettes. Tax evasion – namely, smuggling and counterfeiting – will flourish. In turn, government spends more money on trying to stop such activities.

On July 20, the Wall Street Journal ran a piece on the current situation titled “States Go To War on Cigarette Smuggling.” Three points are worth highlighting here:

• In the case of cigarette schemes, authorities see more organized crime and international rings supplanting mom-and-pop operations. As a result, many local jurisdictions are joining with federal authorities to target trafficking. "It's a big business and it's getting horribly bigger," said Paul Carey III, enforcement coordinator for the Northern Virginia Cigarette Tax Board, who said there is smuggling even among counties with varying tax rates within a single state.

• John Singleton, spokesman for Reynolds American Inc., said his company "works with the appropriate state and federal authorities" in investigating cigarette smuggling. "It's in our interest as a company to ensure our products stay in the legal supply chain." He added that the company, maker of cigarette brands including Camel, Winston, Kool and Pall Mall, expects smuggling to increase because rising excise taxes are creating more incentive. The excise taxes on cigarettes are levied by states and some localities. Smugglers arbitrage the differences between lower- and higher-tax jurisdictions. New York City smokers take among the steepest hits, with combined state and local taxes of $4.25 a pack. Crimes include smuggling cigarettes bought legally in lower-tax areas and reselling them elsewhere, stealing state tax stamps and manufacturing counterfeit cigarettes.

• "People have smuggled cigarettes from North Carolina and Virginia up north in the past, but we haven't seen the volume we are seeing today where it's tracked by the trailer load," said Capt. Dennis Wilson, commander of the criminal-intelligence division for the Fairfax County police, who are working with the ATF.

Large increases in tobacco excise taxes impose a variety of costs, including not only lost business for small retailers, but a vast expansion of organized crime activity, and commensurate increased costs for law enforcement. None of this should be a surprise, as ecnomists have widely recognized the phenomenon, and predicted that it would develop and spread as excise taxes were pushed relentlessly higher.

Raymond J. Keating
Chief Economist
Small Business & Entrepreneurship Council