August 8, 2014 2 Comments
News of a controversial cost:benefit calculation contained in new federal tobacco regulations subjecting many tobacco products to cigarette-like regulations, and creating new graphic warning label (GWL) regulations for cigarettes. The question at hand is whether the cost:benefit analysis underpinning the regulations is correct.
Most attention has focused on estimates of the benefits (pleasure, etc.) that smokers derive from smoking that were used in the analysis, and which increase the cost of the regulation (lost benefit to smokers = bigger cost of regulation). Frank Chaloupka and several other leading researchers in the economics of smoking have written a useful critique of the economic analysis undertaken to evaluate this rule. They focus on the issue of “lost consumer surplus “–or the pleasure/other benefits that smokers derive from smoking as a cost of the GWL regulation. From page 3:
The most critical concern about FDA’s cost estimation is the agency’s reliance on lost consumer surplus as a cost of smokers’ quitting in response to the GWLs. We describe in detail why the notion of consumer surplus, predicated on well‐informed rational behavior, does not apply in this instance in which the vast majority of smokers begin smoking, and become addicted, before the age of majority.
This is important because any rule that has an expected cost of over $100 Million (in 1995$) has to undergo a detailed cost:benefit analysis to demonstrate that the benefits of the regulation outweigh the costs. As the estimate of “lost consumer surplus” rises, the net benefit of the regulation decreases, making the case for its promulgation less clear. A book that I co-authored “The Price of Smoking” (5 part series on the book from June, 2011) with Duke colleagues figures heavily in the FDAs cost:benefit analysis, and our top line findings illustrate the stakes. We estimated the net present value of the societal cost of a pack of cigarettes in 2000$ to be $40/pack, allocated as follows:
- $33 private cost: borne by the individual, primarily through a substantially shortened lifespan
- $5.50 quasi-external cost: borne by the smokers’ family through increased health costs, slightly lower wages and other factors
- $1.50 external cost: borne by society, and representing the net effect of things like taxes paid, Medicaid and Medicare payments, and Social Security received
Most of the cost of smoking is borne by smokers via shortened lifespan, so netting out the “lost consumer surplus” or pleasure from smoking greatly changes the calculus of assessing the costs and benefits of a regulation whose predicted impact is smoking cessation. Note that the disagreement about the magnitude of this “lost consumer surplus” is mostly one of theory application (I think). Two polar opposite interpretations of the economic and epidemiological literature are possible: smoking is simply another economic decision, and therefore the benefits of smoking must be similar to the costs expressed in terms of lost years of life. At the other end of the spectrum, the addictive nature of the product and juvenile initiation means smoking is irrational and therefore not given to a calculus based on the economic rationality of decisions. Surely the truth lays somewhere in between.
The most unusual aspect of the economic analysis undertaken by the FDA is to reduce, by around half, the benefits of smoking cessation to account for “lost consumer surplus” or foregone benefits of smoking, which greatly increases the cost of the regulation. While some allowance may seem reasonable, Chaloupka and colleagues argue persuasively (see p. 11-12) that we don’t have enough empirical evidence to determine the size of the impact, and most crucially that there is no reason to expect smokers to quit smoking in response to graphic warning labels if they had undertaken smoking in a fully rational manner. This is persuasive to me that reducing the benefits of cessation that are expected to result from the regulation by half is an over-estimate of this effect, resulting in an under-estimate of the net benefits of the regulation. It does not make clear what the correct estimate might be.
There are many other interesting issues raised by the FDA regulation and the Chaloupka et al response related to the economics of smoking that I will address in several posts over the next few weeks.