Sin Taxes: A Questionable Source of Revenue

NCPA February 13, 2013

As federal, state and local governments struggle to balance their budgets, more municipalities are turning to "sin taxes" to address revenue shortfalls. While taxing items with presumed negative effects on public health, public morals, and the environment has a long history in traditional welfare economics, a growing number of consumer goods are now being added to the list of items singled out for selective sin taxation, say Adam Hoffer, William Shughart III and Michael Thomas of the Mercatus Center.

• Recent additions to the sin tax category are foods that are high in sugar, trans fats and other ingredients the public health establishment has associated with rising incidences of obesity, type 2 diabetes and similar so-called epidemics.
• Indeed, 33 states already have implemented a soft drink tax.
• Because public health expenditures are correlated with the consumption of these goods, a case has been made for the selective taxation of all sugar-sweetened beverages, junk food, and many items on the menus of fast food restaurants.

The government claims that it must levy taxes on certain goods because consumption of these goods creates negative externalities that consumers and private markets cannot account for. Theoretically, the goal of sin taxes is to internalize externalities through taxation and reduce purchases. In reality, most sin taxes are an extension of policymakers' belief that they can make better consumption choices than individuals can make for themselves. By attaching a monetary fee to certain behaviors that are deemed risky or undesirable, selective sin taxes are aimed at inducing people to adopt healthier lifestyles. Sin taxes also disproportionately affect low-income individuals who are more likely to use many of the consumer goods, like alcohol and tobacco, than are higher-income individuals. Low-income individuals are less likely to have consumption alternatives and are thus less likely to respond to changes in price.

Selective taxation of sin goods should ultimately be eliminated because the sound theoretical foundation of penalizing consumer behavior and internalizing externalities becomes flawed when it is administered by politicians. In each decision process, lobbyists are relied upon heavily to vie for the interests of the higher-income consumers and producers, leaving the burden of the new tax to lower income consumers who cannot afford representation.

Source: Adam Hoffer, William Shughart and Michael Thomas, "Sin Taxes: Size, Growth, and Creation of the Sindustry," Mercatus Center, February 5, 2013.