Published by Oxford University Press in association with The London School of Hygiene and Tropical Medicine Health Policy

cy and Planning 2008;23:200–209

ß The Author 2008; all rights reserved. doi:10.1093/heapol/czn007

Price Elasticity Estimates for Tobacco Products

in India
Rijo M John

Accepted 4 March 2008

The tax base of tobacco in India is heavily dependent on about 14% of tobacco
users, who smoke cigarettes. Non-cigarette tobacco products accounting for 85%
of the tobacco consumption contributes only 15% of the total tobacco taxes.
Though taxation is an important tool to regulate consumption of tobacco, there
have been no estimates of price elasticities for different tobacco products in
India to date, which can guide tax policy on tobacco. This paper, for the first
time in India, examines the price elasticity of demand for bidis, cigarettes and
leaf tobacco at the national level using a representative cross-section of
households. This study found that own-price elasticity estimates of different
tobacco products in India ranged between
0.4 to
0.9, with bidis (an
indigenous hand-rolled smoked tobacco preparation in India) and leaf tobacco
having elasticities close to unity. Cigarettes were the least price elastic of all.
With some assumptions, it is shown that the tax on bidis can be increased to
Rs. 100 per 1000 sticks compared with the current Rs. 14 and the tax on an
average cigarette can be increased to Rs. 3.5 per stick without any fear of losing
revenue. The paper argues that the current system of taxing cigarettes in India
based on the presence of filters and the length of cigarettes has no justification
on health grounds, and should be abolished, if reducing tobacco consumption
and the consequent disease burden is one of the objectives of tobacco taxation
policy. It also argues that attempts to regulate tobacco use without effecting
significant tax increases on bidis may not produce desired results.
Keywords Tobacco, bidis, cigarettes, consumption, elasticity, India

KEY MESSAGES

 Price elasticities for different tobacco products at a national level have never been estimated in India

 Different tobacco products in India are price responsive and hence taxation could be used as a viable tool of regulating
tobacco use in India

 Effective regulation of tobacco use in India requires substantial increases in tax of bidis and other non-cigarette tobacco
products, apart from tax increases on cigarettes

 The existing system of taxing cigarettes in India based on the presence of filters and the length of cigarettes has no
justification on health grounds, and should be abolished

Post Doctoral Fellow, Center for Tobacco Control Research and Education,
University of California, San Francisco, CA 94143-1390, USA.
Corresponding author. 530 Parnassus Ave, Ste 366, San Francisco, CA 94143-
1390. Tel: (Office) 415-476-3139. Fax: 415-514-9345.
E-mail: rmjohn@gmail.com
Introduction
Ever since the huge morbidity and mortality associated with
tobacco became evident, some nations have tried to regulate its
use by various price and non-price instruments. The process of
tobacco regulation has gained momentum in many developing

200
 PRICE ELASTICITY ESTIMATES FOR TOBACCO PRODUCTS IN INDIA 201

Table 1 Excise duty rates for cigarettes and bidis in India, taxed at such a low rate compared with cigarettes in India,
year 2007–08
though it is presumed that it is mostly economically weaker
Duty as people who smoke bidis and thousands of poor households are
percentage involved in the production of bidis. The price advantage that
of retail Proportion of
bidis enjoy over cigarettes is largely due to the huge discrepancies
price of the consumption
Duty per 1000 most popular for the year in taxes on these products and this could be the single greatest
Tobacco products sticks in Rs. brand 2005–06 reason why bidis account for a major proportion—77% by the
Cigarettes 100% weight of tobacco (Sunley 2008)—of smoked tobacco in India.
Non-filter cigarettes Apart from bidis and cigarettes, a wide range of alternative
tobacco products are consumed in India such as leaf tobacco,
60 mm 168 34% 7%
hookah, zarda, cheroot and snuff. Some of these are chewed and
>60–70 mm 546 44% 24%
some smoked. However, bidis, cigarettes and leaf tobacco
Filter cigarettes together account for almost 95% of the tobacco that is consumed
70 mm 819 34% 54% in India. Most non-cigarette tobacco products in India are much
>70–75 mm 1323 38% 9% cheaper than cigarettes. The fact that the relatively expensive
>75–85 mm 1759 59% 7%
cigarettes account for only a small fraction of tobacco use in India
is an indication that price hugely affects consumption. If the
>85 mm* 2163 NA NA
tobacco products are sufficiently price responsive, an increase
Bidis 100% in the tax rate of these goods will have the effect of reducing
Handmade 14 8.8% 98% the consumption substantially, while raising the tax revenue.
Machine-made 26 2% There is overwhelming evidence from other countries
(Chaloupka and Warner 2000) that increased taxes on tobacco
*Filter cigarettes >85 mm constitute only a negligible share of the market
and their tax is calculated as Rs. 600 or 300% þRs. 20 whichever is higher. leads to a reduction in consumption. Estimates of price-elasticity
Source: Sunley (2008). of demand for cigarettes from developed countries range from

0.25 to
0.50. The estimates from low-income and middle-
income countries suggest that price elasticity of demand varies
countries, especially after the implementation of the global
between
0.50 to
1.00 (Chaloupka et al. 2000). Analyses from
Framework Convention for Tobacco Control in 2003 by the World
various South East Asian countries have found that short-run
Health Organization. Taxation is an important price instrument
price elasticity estimates for tobacco products range from
0.17
for regulating tobacco use. As in other countries, cigarettes are
to
0.78, while long-run estimates ranging from
0.4 to
1.21
taxed in India. However, unlike in other countries, tobacco
(Guindon et al. 2003).
consumption in India is characterized by extensive use of non-
Estimation of price elasticities for different tobacco products
cigarette tobacco products, especially in the form of bidis1 and
has received little attention in India. The only known estimate
chewing tobacco. In India, 57% of men and 11% of women in the
is for cigarettes for the sample period 1981–82 to 1992–93, and
15–49 years age group consume tobacco in some form (IIPS and
is estimated to be
0.67 (Sarma 2000). Comparable and more
Macro International 2007). As of year 2004–05, it is estimated
recent estimates for other tobacco products as well as cigarettes
that per capita consumption of bidis in rural and in urban areas
are essential to formulate any comprehensive price control
is 31.5 and 18.8 sticks per month, respectively, while cigarettes
measures. To the best of the author’s knowledge there is no
consumption is 0.79 and 2.52 sticks, respectively (Government of
study that provides information on the price elasticity of
India 2006). It is also estimated that there are 119.25 million
different tobacco products in India. Hence this paper, for the
adult (15þ) smokers (110.46 million male and 8.79 million
first time in India, examines the price elasticity of demand for
female) in India as of the year 2004 (ERC 2005).
bidis, cigarettes and leaf tobacco at the national level.
Cigarettes account for only 14% of the tobacco consumption in
In the next section, a brief discussion of the data on consump-
India. However, they contribute as high as 85% of the excise
tion of tobacco in India is made followed by a discussion of the
revenue collected from tobacco products (ERC 2005). Thus methodology of elasticity estimation used in this paper. The
taxation of tobacco products in India is highly skewed in favour spatial variation in prices of tobacco products is then used to
of bidis and chewing tobacco products even though they estimate own- and cross-price elasticities of bidis, cigarettes and
contribute 48% and 38%, respectively, to the total tobacco leaf tobacco.
consumption in India (Sunley 2008). A strong case for increasing
taxes on bidis on health grounds has been made by Sunley
(2008). He argues that since bidis are at least as harmful as
cigarettes, the taxation on bidis should be increased to match at Unit values and prices
least that of the lower taxed cigarettes. Taxes on cigarettes in The National Sample Survey Organization (NSSO), under the
India are levied on the basis of cigarette length; the tax ranged Ministry of Statistics and Program Implementation, Government
from Rs. 168 to Rs. 543 per 1000 sticks for non-filtered cigarettes of India, conducts nationwide sample surveys every 5 years on
and Rs. 819 to Rs. 2163 for filtered cigarettes in financial year the consumption habits of households in India. The survey
2007–08 (Table 1).2 The tax on 1000 sticks of handmade bidis, on conducted from July 1999 to June 2000 collected information on
the other hand, is a meager Rs. 14. Machine-made bidis, which consumption and various household characteristics of 120,309
account for only 2% of total bidis produced in India, are taxed at households spread over 10,140 villages. The consumption goods
Rs. 26 per 1000 sticks. There are no stated reasons why bidis are included a variety of tobacco products along with more than 500
202 HEALTH POLICY AND PLANNING
Table 2 Unit values and budget shares of different tobacco products
Rural
Commodity % consuming Unit values
Bidis 36.5 0.17
Cigarettes 3.69 1.40
Leaf tobacco 19.42 69.86
Tobacco (Total) 62.63 NA
Note: All values are weighted using sampling weights. Total includes all tobacco products including the ones that are not listed here but are in the NSS data.
Unit of measurement for bidis and cigarettes is number of sticks and that for leaf tobacco is Kg. Unit values are all in Rupees. Budget shares (averaged over
households who bought at least one of the tobacco products) are in percentages.
Source: Author’s calculation from NSSO (2000) data.
food and non-food items. The survey asked for the quantity
purchased as well as the expenditure incurred for consumption
of various products over the last 30 days prior to the date of
interview. According to this survey, at least one member in 62%
of the rural households and 40% of the urban households
reported consuming tobacco in some form.
One reason for the dearth of estimates of price elasticities for
tobacco in India could be the lack of sufficient data on prices and
quantity consumed for various tobacco products. While NSSO
surveys provide cross-sectional information on households’
expenditure and quantity consumed of various tobacco products,
they do not provide direct information on prices. Various
attempts have been made in the literature to estimate price
responses in such cases. One approach is to use available regional
price data used normally for constructing consumer price indices.
These data can be merged with the NSSO data by associating
with each household the prices available from the nearest
collection centre at the time closest to the reporting period for
that household. The combined data can then be used to estimate
a demand system with individual households as the unit
of analysis.3 However, such a procedure may give inaccurate
estimates, as prices are not collected from each and every
desirable location (Deaton 1997: 283). Nor are they available at
the desired level of disaggregation. Since prices of tobacco
products are not available from such collection centres for the
level of disaggregation used in this analysis, this approach could
not be used in this paper.
Another approach would be to treat unit values (expenditure
divided by quantity) collected in the surveys themselves as
prices. Table 2 gives average unit values, budget shares (both
of them averaged only over households who purchased at least
one of the tobacco products) and percentage of households
consuming each tobacco product. The table shows the weighted
averages using inverse sampling probabilities as weights so that
the estimates should be representative of the corresponding rural
and urban households in India. If we were to consider the unit
values as prices it means that the price of bidis, cigarettes and
leaf tobacco in rural India is 17 paisa/stick, Rs. 1.40/stick and Rs.
70/kg. respectively. In urban India it is 21 paisa/stick, Rs. 1.32/
stick and Rs. 75/kg. respectively. (One hundred paisa is
equivalent to one Indian Rupee.) While the unit values in rural
and urban India for both bidis and leaf tobacco are as expected,
those for cigarettes are counter to expectation. One would expect
a higher average price for cigarettes in urban than in rural India
since much of the high priced cigarettes are sold in urban India.
However, since more cigarettes smokers are in urban India and if
a large number of cigarettes smokers use low priced cigarettes, it
Urban
Share % consuming Unit values Share
1.72 19.84 0.21 1.34
0.22 9.61 1.32 0.97
0.39 7.25 74.73 0.21
2.66 39.69 NA 2.93
is possible to have a lower average price for cigarettes in urban
India relative to that in rural India. As we see later, the variability
is very high for cigarettes prices in rural India versus urban India,
meaning that some of the cigarettes smokers in rural India
are using substantially higher priced cigarettes than others.
Having said that, it should be also noted that unit values are not
the same as prices for the reasons explained below. Because of
this, unit values cannot be used as they are to estimate price
elasticities.
Unit values are not the same as prices due to two reasons, as
Deaton (1997) points out. First, unit values also reflect quality.
Since unit values are computed by dividing expenditures by
physical quantities, they do not take into account the nature of
heterogeneity of the commodity. For example, when households
report quantity and value of cigarettes, the interviewer has to
overlook the fact that cigarettes are a heterogenous commodity,
and that price varies according to the quality chosen. Consumers,
in general, adapt to changes in price not only by changing the
quantity purchased but also by changing the quality. Hence, an
estimate of price elasticity using unit values will lead to over-
estimation. Secondly, unit values are subject to measurement
errors since the measurement error in quantity is transmitted to
unit values. Thus, unit values are ‘contaminated’ by both
measurement errors and quality variations. However, unit
values also contain price information which can be captured
and made use of in estimating price elasticities. A theoretical
model was developed by Deaton (1988, 1997), wherein consis-
tent estimation of price elasticities was made possible with the
spatial variation in unit values from survey data. This model is
used to derive own- and cross-price elasticities for tobacco
products in this paper.
According to this model, by studying the spatial variation in
unit values, one should be able to assess the extent of spatial
variation in prices. A simple way of examining the spatial
variation in prices, which makes the temporary supposition that
quality variations are negligible, is to regress log of unit values on
dummy variables representing village/urban units.4 This regres-
sion is nothing but a decomposition of variance of unit values
over villages, similar to an ANOVA regression.
Table 3 provides the extent and significance of the spatial
variation in prices (unit values) along with the source of var-
iability separately for rural and urban India. The first column in
each panel shows the standard deviation of the logarithms of
unit values multiplied by 100 so that the figures can be inter-
preted as percentage variability. Leaf tobacco seems to have
maximum variability in both rural and urban areas. F and R2 are
the F-statistics and R2-statistics from this regression. What we

Table 3 Variability in unit values
Rural India
Items SD F-stat
Bidi 59.8 12.35
Cigarette 63.0 4.08
Leaf tobacco 206.6 7.67
Notes: SD refers to 100 times the standard deviation of log unit values calculated over the households reporting positive consumption. F and R-sq are the
F-statistics and R-sq-statistics associated with the presence of dummy variables for each village in the survey. F-reg is the F-statistics of an ANOVA of log unit
values on dummies for 78 regions. All statistics are significant at 1% level.
are looking for here is evidence that unit values are informative
about prices. Since prices should not vary much within villages
over a short period of time, there should be significant
F-statistics for the village effects. In other words, village
dummies should explain a large share of the total variation in
logarithm of unit values. We observe that almost 70% of the
variation in price is explained by variability between villages for
all three goods. Within village variation is thus relatively small.
A test for the broad regional effects was also conducted.5 Column
F-reg in each panel shows the F-statistics for the regression of
log unit values on region dummies and it shows strong evidence
of regional price variation. The F-statistics are significant at the
1% level for all regressions. Information from the broad regional
variation and stronger inter-village variation of unit values can
thus be used to estimate a demand model proposed by Deaton
(1997) for the products under consideration. The following
section briefly introduces the model of price elasticity estimation.
Estimating price elasticity from
unit values
Due to the large volume of equations involved in the model, only a
brief introduction to the model is given here. A detailed
exposition of the methodology can be found in Deaton (1997).
This is a model of consumer behaviour in which households
choose both quantity and quality so that expenditure on a good is
the product of quantity, quality and price, thereby implying
that unit value is price times quality. Thus, this is a model where
utility depends not only on quantity, but also on quality, giving an
augmented utility function. Commodities are defined as collec-
tions of heterogeneous goods and quality is defined as a property
of commodity aggregates. Because unit values are defined to
include quality, the analysis must take into account price and
income elasticities of quality as well. The model requires that
households are geographically clustered within the sample.
Village demand patterns, as represented by the budget shares,
are regressed on the average village prices, as represented by unit
values. The following two equations link the budget shares and
unit values to household expenditures, other household char-
acteristics and the underlying prices of commodities.
X
N

WGic ¼
0G þ 0G ln xic þ G0  Zic þ GH ln pHc þ fGc þ u0Gic ð1Þ
H¼1
X
N in the utility function of non-users of tobacco for whom tobacco
ln UVGic ¼
1G þ 1G ln xic þ G1  Zic þ GH
H¼1
WGic is the budget share of good G in the budget of household i
living in village (cluster) c. The budget share of the household is
PRICE ELASTICITY ESTIMATES FOR TOBACCO PRODUCTS IN INDIA 203
Urban India
F-reg R-sq SD F-stat R-sq F-reg
0.76 71.63 56.3 4.58 0.68 23.73
0.81 7.52 55.7 2.82 0.68 9.75
0.68 39.10 227.5 5.72 0.76 11.40
taken to be a linear function of the logarithm of total household
expenditure, x, a vector of household characteristics, Z, and the
logarithm of N prices where N is the number of commodities.6
However, coefficients of these equations are not elasticities,
which need to be calculated. The derivation for the same can be
found in Deaton (1997). The first element of the residual in
equation (1), fGc, is a village-level effect that is the same for all
households within a village and it can be thought of either as
a ‘random effect’ or as a ‘fixed effect’.7 Since both fGc and price are
unobserved, it is necessary to assume that the term fGc is
uncorrelated with price in order to estimate the influence of the
latter. The term u0Gic is the standard error term representing,
among other things, measurement errors in the budget share
and taste (quality) variations. The price in equation (1) is not
observed but is related to unit value (UV) as given in equation (2).
The logarithm of unit value is a function of ln x, household
characteristics represented by the vector Z, and price. Since
unit value is price multiplied by quality, 1G is the expenditure
elasticity of quality. Differentiating (1) with respect to ln x and
defining 2G to be the elasticity of expenditure with respect to
quantity, yields @ ln WG/@ ln x ¼ 0G /WG ¼ 2G þ 1G
1, since the
logarithm of share is the sum of logarithms of quantity and
quality less the logarithm of expenditure. Rearranging it will
yield the expenditure elasticity of quantity so that the total
income elasticity of quantity and quality together will be 2G þ 1G .

 0
2G ¼ 1
1G þ G ð3Þ
WG
The non-price parameters such as
,  and  in both the
equations can be consistently estimated using standard OLS
regression with the assumption that market prices do not vary for
a given commodity within each village over the relevant reporting
period. The model allows for completing the system of demand
equations by adding a composite commodity which will then
exhaust the total household budget. Symmetry restrictions that
add to the precision of parameter estimates are also imposed.8
Empirical results
Households with zero consumption of tobacco are eliminated
from the analysis. This is with the assumption that the pre-

ferences of tobacco consumers and non-consumers are funda-
mentally different in the sense that tobacco is not an argument
ln pHc þ u1Gic ð2Þ does not give any utility no matter what the price is. This is not to
argue that price has no effect on initiation of tobacco consump-
tion. Even though there may be theoretical reasons to include all
the consumers in the analysis, the empirical evidence on the
204 HEALTH POLICY AND PLANNING

Table 4 Income and household size coefficients and income elasticities

Unit value regression Budget share regression

Bidis Cigarettes Leaf tobacco Bidis Cigarettes Leaf tobacco
Coeff P-val Coeff P-val Coeff P-val Coeff P-val Coeff P-val Coeff P-val
Rural India
lnexp 0.048 0.00 0.108 0.00 0.005 0.92
0.719 0.00 0.435 0.00
0.226 0.00
lhsize
0.034 0.00
0.111 0.00
0.005 0.91 0.116 0.00
0.456 0.00 0.001 0.93
Observations 24946 3853 13169 43923 43923 43923
F-stat 3.38 0.00 2.34 0.00 0.76 0.77 197.70 0.00 99.78 0.00 91.80 0.00
Adjusted-R 0.695 0.618 0.589 0.441 0.294 0.500
Clusters 5029 1994 2843 5865 5865 5865
ExpElsty 0.49 2.37 0.37

Urban India
lnexp 0.044 0.01 0.240 0.00 0.103 0.29
0.841 0.00 0.893 0.00
0.133 0.00
lhsize
0.018 0.29
0.165 0.00
0.307 0.00 0.228 0.00
1.002 0.00
0.035 0.01
Observations 9139 5460 3580 19229 19229 19229
F-stat 2.02 0.01 12.34 0.00 2.73 0.00 125.93 0.00 76.16 0.00 29.59 0.00
Adjusted-R 0.533 0.48 0.630 0.384 0.340 0.439
Clusters 2900 2376 1266 3894 3894 3894
ExpElsty 0.28 1.59 0.29

Notes: Coefficients in the budget share regression are multiplied by 100 for the convenience in reporting. Total expenditure elasticity is given by 2G þ 1.

effect of prices on the initiation of smoking is mixed (Cawley
et al. 2004). Hence, the inclusion or exclusion of consumers
reporting zero consumption is largely a matter of empirical
significance. A previous study9 using the same data has shown
that the large majority of consumers who report zero consump-
tion of tobacco are doing so not because they are unable to afford
it but because tobacco does not figure in their utility function no
matter what its price is. Hence, based on the existing evidence
using this data, this paper excludes all the non-consumers from
the analysis. As the non-consumers are excluded, the analysis is
conditional in some sense.10
The set of household socio-economic characteristics that are
considered for the regression in equations 1 and 2 includes: log
of household expenditure, log of household size, ratio of number
of adults (14 years of age or more) to household size, ratio of
total adult males to household size, average education of the
household (total education, in years, received by all the members
divided by household size), years of education received by the
most educated member in a household, and dummies for
religion, social groups and occupational groups. Region dummies
were also introduced to eliminate broad regional taste differ-
ences, if any, that may be not due to regional price differences.
These variables are introduced only with the intention of purging
the budget shares and unit values of the household-specific
effects so as to allow for the quality effects and enable consistent
estimation of own- and cross-price elasticities.
Estimates from unit value and budget share
regression
Table 4 shows the estimated coefficients from both unit value
and budget share equations along with income (expenditure)
elasticities. The coefficient of ln x in the unit value equation gives
the expenditure elasticity of quality. As we can observe, in all
cases it is positive and in most cases significant at the 1% level for
both rural and urban India. Among the different tobacco
products considered, cigarettes have the highest expenditure
elasticity of quality, at 0.11 in rural and 0.24 in urban India. This
implies that a doubling of the household total expenditure would
raise the average price paid for cigarettes by 11% and 24% in
rural and urban India, respectively. This is also evidence that
lower income households spent more on lower ‘quality’ cigar-
ettes, possibly ones without a filter.11 Quality elasticity of bidis is
around 5% and that of leaf tobacco is insignificant.
Coefficients on the logarithm of household size are roughly
similar in size and opposite in sign to the coefficients on the
logarithm of total expenditure in the unit value regression. This
seems to suggest that increases in household size act like
reductions in income. The estimated coefficients on household
size are smaller in absolute size than the coefficients of total
expenditure. With total household expenditure and other
household characteristics remaining the same, an increase in
household size has a significant effect of decreasing the average
price paid by the household. It may mean that given total
expenditure, as household size increases, households may
increase consumption, therefore resorting to consuming lower
‘quality’ products which are cheaper. It may be interesting to
note here that the average household size is higher among
tobacco consuming households (5.4 and 4.92 in rural and urban
India, respectively) than other households (4.4 and 4.3 in rural
and urban India, respectively) in our data.
Budget share equations also show opposite signs in the case of
coefficients of log total expenditure and log household size.
Keeping expenditures and other variables constant, an increase
in household size increases budget shares of bidis and leaf
tobacco and it decreases budget shares of cigarettes in rural
India. In urban India, on the other hand, household size has an
increasing effect on budget share allocated to bidis and
 PRICE ELASTICITY ESTIMATES FOR TOBACCO PRODUCTS IN INDIA 205

1000 draws from the second stage data, and are defined as half the length of the interval around the bootstrapped mean, and contain 68.3% of the bootstrapped estimates. Assuming the estimates follow a normal
0.52*** (0.140)

1.525*** (0.384)
0.456 (0.362)

0.262*** (0.001)

0.581*** (0.095)

1.54*** (0.386)

0.262*** (0.001)

Notes: The elasticity in row i, column j estimates the effect of a change in the price of good j on the quantity demanded of good i. Values in parentheses are the bootstrapped standard errors calculated by making
0.413*** (0.137)
Composite
a decreasing effect on leaf tobacco and cigarettes. Total
expenditure elasticity (sum of the expenditure elasticity of
quantity and quality) is less than one for both bidis and leaf
tobacco in both rural and urban India and is more than unity for
cigarettes. High expenditure elasticities of cigarettes imply that
cigarettes are luxury goods both in rural and in urban India.
A similar result was obtained by Suryanarayana (2002) though
0.011 (0.011)

0.002 (0.021)

0.877*** (0.032)
0.0001*** (0.000)

0.011 (0.010)

0.003 (0.020)

0.874*** (0.029)
0.0001*** (0.000)
Leaf tobacco

the author had done the estimation using aggregate data

unlike the household level data that is used in our exercise. An

distribution, the coefficients with ***, ** and * imply levels of significance at 1%, 5% and 10%, respectively. Residual refers to a composite commodity that exhausts the budget.
increase in total household expenditure more than doubles the
consumption of cigarettes among rural households.
Other socio-demographic variables in the regression exert only
occasional and modest effects on unit values and budget shares.
The purpose of introducing them in the first stage regression was
0.011 (0.167)

0.179 (0.431)

0.221 (0.414)
0.002* (0.001)

0.063 (0.093)

0.196 (0.428)
0.000 (0.119)
0.002** (0.001)
Cigarettes

only to purge their effects on prices so that second stage

estimation of price elasticities is not affected. Therefore, the
results are not discussed here. However, a few results are worth
mentioning. An increase in the male ratio would lead to an
increase in budget spent on bidis in rural and urban India.
Education has mild but significant decreasing effects on the
Bidis

0.87*** (0.094)

0.122 (0.113)
0.252** (0.126)
0.0002 (0.000)

0.855*** (0.084)

0.091 (0.108)
0.071 (0.068)
0.000 (0.000)

budget share devoted to tobacco consumption, especially bidis.

Similarly, households belonging to the Sikh religious group also
exhibited a mild but significant negative effect on budget share
of various tobacco products.
Urban

Estimates of own- and cross-price elasticities

Table 5 reports own- and cross-price elasticity estimates for bidis,
Residual

0.5*** (0.042)

1.845*** (0.196)
0.411*** (0.067)

0.256*** (0.000)

0.478*** (0.039)

1.71*** (0.213)
0.509*** (0.039)

0.26*** (0.000)

cigarettes and leaf tobacco using only tobacco consuming

households. Both symmetry-constrained and -unconstrained
estimates are presented here and the results are reported for
both rural and urban households. Values given in parentheses
below each coefficient are bootstrapped standard errors calcu-
lated by making 1000 draws from the second stage data, and are
defined as half the length of the interval around the boot-

0.010 (0.009)
0.010 (0.032)

0.87*** (0.019)

0.010 (0.009)
Leaf tobacco

0.00009*** (0.000)

0.021 (0.032)

0.871*** (0.018)
0.0001*** (0.000)

strapped mean, and containing 68.3% of the bootstrapped

estimates. Region dummies for the NSSO regions were also
used in these regressions to remove any regional taste differences
that may affect the estimated coefficients. The elasticity in row i,
column j, estimates the effect of a change in the price of good j on
the quantity demanded of good i. Elasticity coefficients are
Table 5 Price elasticity estimates for tobacco products in India

relatively well determined and are comparable to other price

Cigarettes

0.117*** (0.045)

0.41* (0.239)
0.15* (0.078)
0.0001** (0.000)

0.084*** (0.029)

0.338** (0.143)
0.022 (0.025)
0.0002*** (0.000)

elasticity estimates available in the literature from other

developing countries. As we can observe, all of the own-price
elasticities (diagonal elements) are negative and are statistically
significant except for cigarettes in urban India. Many of the
cross-price elasticities, however, are not statistically significant.
The last column and row in each panel shows the estimates for a
composite commodity or a residual item for which we have no
Bidis

0.91*** (0.046)

0.24* (0.126)

0.067 (0.049)
0.0001** (0.000)

0.922*** (0.043)

0.455* (0.147)

0.036 (0.035)

0.0001*** (0.000)
Symmetry-constrained estimates

price information. The elasticities for this were calculated

imposing theoretical restrictions.
As we can observe, own-price elasticity estimates for rural and
Unconstrained estimates

urban households are approximately the same, except for

Rural

cigarettes which are relatively more inelastic in urban India

than in rural India. Elasticity for cigarettes is lower than 0.5,
which is in consensus with the conservative estimates available
Leaf tobacco

Leaf tobacco

for cigarettes, whether from developing or developed countries.

Cigarettes

Cigarettes

On the other hand, there are no comparable studies for bidis and
Residual

Residual

leaf tobacco for which the elasticities were close to unity. This
Bidis

Bidis

may be reason enough to justify the heavy taxation on cigarettes

206 HEALTH POLICY AND PLANNING
in India, as economic logic supports taxing luxuries which are
highly inelastic.
The present exercise indicates that consumption of tobacco
products in India does respond to changes in prices, though the
proportionate increases in price lead to slightly less than
proportionate reductions in consumption in the case of bidis
and leaf tobacco, while leading to much less proportionate
reductions in consumption in the case of cigarettes.
Examination of cross-price elasticity from the symmetry-
constrained estimates (lower panel in Table 5) indicates that
bidis are complementary to cigarettes and leaf tobacco in rural
India, and to cigarettes in urban India, though many of the other
cross-elasticity coefficients are not statistically significant.
An earlier study (John 2006) observed that a large number of
households reporting the consumption of bidis were also
consuming other tobacco products such as cigarettes and leaf
tobacco. It established that increased presence of adults, higher
male to female ratio in a household, larger household size and
the alcohol consumption habit of households were important
predictors for a higher relative probability of consuming a
combination of tobacco products.
The complementarity between bidis and cigarettes need not be
entirely counterintuitive either. Given the huge difference in the
price of bidis and cigarettes in India and the fact that both these
items cater to totally different socio-economic groups, it is
perfectly reasonable to think that consumers who consume
either of the products would occasionally try out a few sticks of
the other. Moreover, the complementarity here need not
necessarily mean that increases in the price of one will lead to
a dramatic reduction in consumption of the other. This is
primarily because the magnitude of the cross elasticity coefficient
is small. If we examine the coefficient in the case of rural India,
we see that the magnitude of the effect of an increase in price of
cigarettes on bidis, and that of an increase in price of bidis on
cigarettes, is different though the directions are the same. The
effect of a percentage increase in cigarette price on bidi
consumption is very low, whereas that of a bidi price increase
on cigarette consumption is higher. This is especially true in rural
India, for two reasons: (1) the price of bidis is at a very low base
compared with that of cigarettes and (2) a price rise of bidis may
have large budgetary implications for rural households, as bidis
are the preferred form of smoked tobacco consumption there.
Hence any increase in the price of bidis will have greater effects
in reducing consumption of cigarettes as well.
Effects of price changes through taxation
Curbing tobacco use is critical for health. However, two
counteracting objectives of government with respect to tobacco,
namely generating tax revenue and protecting households
dependent on tobacco-related employment, become crucial
while formulating policies to regulate tobacco use. The public
health goal of regulating tobacco use could be yet another
objective for policy makers. In this section I address the tax
objective of the government while regulating demand for tobacco
use. Addressing the employment question is out of the scope of
this paper. Using the price elasticity estimates and some key
assumptions, it is possible to calculate the movement of tax
revenue and consumption of various tobacco products.
Calculations here are done only for cigarettes and bidis and are
merely expository in nature. The following assumptions were
made:
1. there are no substitution effects due to price change;
2. change in price is commensurate with change in tax;
3. elasticity is constant across the entire range of prices;
4. there is no tax evasion or smuggling as a result of increased
taxes.
Annual consumption of manufactured cigarettes in India was
estimated to be 107.5 billion sticks and the tax revenue from
cigarettes amounted to Rs. 70.86 billion in the financial year 2006–
07 (Sunley 2008). Assuming that the tax is collected from all
cigarettes consumed, this yields an average tax per stick of Rs. 659
per 1000. Using the proportion of each type of cigarette out of total
cigarette consumption, and the respective ad valorem tax rates
given in Table 1, we computed an ad valorem tax rate of 38.3% and
a retail price of Rs. 1.72 per stick for an average cigarette in India.
Bidis are taxed at a very low rate with a quantity tax of Rs. 14 per
1000 sticks for man-made bidis and Rs. 26 per 1000 for machine-
made bidis in the year 2007–08. Since man-made bidis constitute
more than 98% of bidis produced in India (Sunley 2008), Rs. 14 is
taken as the initial tax amount. Using the ad valorem tax rate
(8.8%) for bidis given in Table 1 and the tax per stick, the price
for an average bidi stick was computed as Rs. 0.16 which amounts
to Rs. 4 per pack of 25 bidis. Similarly, Sunley (2008) notes that
the most common price for a pack of 25 bidis in India is Rs. 4.
Annual consumption of manufactured bidis in India was
estimated to be between 750 billion to 1.2 trillion sticks in 2007,
52–70% of which are not taxed either due to non-compliance
or due to small producer exemptions (Sunley 2008). For the
purpose of this simulation, the current consumption of bidis was
taken to be one trillion.12 Tax revenue from bidis for the year
2006–07 was Rs. 4.3 billion. If tax was collected from all bidis that
were consumed, the tax revenue would have been approximately
Rs. 14 billion. The actual tax collection is thus nearly 70% less.
In this simulation exercise the initial tax revenue was taken to
be Rs. 14 billion. So the reader should keep in mind that for all
the levels of projected tax revenues for bidis, actual revenue
will be well below the projected revenue unless it is ensured
that all bidis consumed in India are taxed.
Table 6 shows the changes in consumption and tax revenue as
a result of changes in tax amount. Tax shocks (increases in tax as
a percentage of the existing tax) are introduced and the changes
in consumption, expenditure and tax revenue are calculated
using the price elasticity in Table 5. The effects are calculated
separately for rural and urban India using the respective
elasticities and are later aggregated to obtain the results for all-
India as shown in the table. For this, out of the total cigarettes
consumed, 63% were attributed to rural and 37% to urban
households as estimated from the NSS data. Similarly for bidis,
the proportions were 77% and 23% for rural and urban
households respectively. As the table illustrates, revenue from
taxation of bidis increases until tax becomes more than 40% of
the retail price, which would be equivalent to a multi-fold
increase in the current taxes on bidis from the current level of
roughly 9% of the retail price. In other words, tax on bidis can be
increased to Rs. 100 per 1000 sticks compared with the current
Rs. 14 without any fear of losing revenue. At that level, the
average price of a pack of 25 bidis would be slightly more than
 PRICE ELASTICITY ESTIMATES FOR TOBACCO PRODUCTS IN INDIA 207

Table 6 Changes in consumption, expenditures and revenue from would have the effect of raising the average price paid for
changes in taxes
cigarettes by 11% in rural and 24% in urban India. Cigarettes,
Unit Tax per Tax unlike other tobacco products, were found to be luxury goods in
Tax price Tax stick Consumption Expenditure revenue both rural and urban India with income elasticity greater than
shock (Rs.) rate (Rs.) (Billion sticks) (Billion Rs.) (Billion Rs.)
one. Estimates of own- and cross-price elasticities showed that
Bidis
own-price elasticity estimates of different tobacco products in
0% 0.159 9% 0.014 1000 159.1 14.0 India ranged between
0.4 and
0.9, with bidis and leaf tobacco
20% 0.162 10% 0.017 984 159.3 16.5 having own-price elasticities close to unity. Cigarettes were the
40% 0.165 12% 0.020 968 159.4 19.0 least price elastic of all. Analysis of the cross-price elasticities
60% 0.167 13% 0.022 952 159.5 21.3 revealed that bidis are a complement to cigarettes. With certain
assumptions, it is shown that taxes on cigarettes and bidis can be
80% 0.170 15% 0.025 936 159.4 23.6
raised to many times higher than the existing rates without fear
100% 0.173 16% 0.028 920 159.3 25.8
of losing tax revenue, which reveals the potential of using
200% 0.187 22% 0.042 840 157.2 35.3 taxation as an effective way for both regulating tobacco use and
400% 0.215 33% 0.070 681 146.5 47.7 generating tax revenue.
600% 0.243 40% 0.098 521 126.7 51.1 The analysis here provides strong support for taxing tobacco
620% 0.246 41% 0.101 505 124.3 50.9 products whether it is bidis, cigarettes or leaf tobacco. However,
as mentioned in the introduction, taxation of tobacco in India
Cigarettes
has been predominantly on cigarettes. The tax on bidis of Rs. 14
0% 1.721 38% 0.659 108 185.0 70.9 per 1000 sticks, compared with Rs.819 per 1000 of the least taxed
20% 1.853 43% 0.791 105 194.8 83.2 filtered cigarette, is negligible in comparison. Such low taxes on
40% 1.985 46% 0.923 103 204.0 94.9 bidis are certainly the most important reason why bidis have
60% 2.116 50% 1.055 100 212.6 105.9 such high price advantage over cigarettes, making them one of
the cheapest tobacco products in the world. It is then no surprise
80% 2.248 53% 1.186 98 220.6 116.4
that tobacco consumption in India is unique with a very high
100% 2.380 55% 1.318 96 227.9 126.2
presence of non-cigarette tobacco, especially bidis.
200% 3.039 65% 1.977 84 255.3 166.1 It is not clear why cigarettes bear most of the burden of tax on
400% 4.358 76% 3.296 60 263.6 199.3 tobacco while bidis and other tobacco products are either very
430% 4.555 77% 3.493 57 259.5 199.0 lightly taxed or not taxed at all. There are many arguments for
it. One argument is that bidis are largely consumed by
economically weaker sections of the community and taxing
Rs. 6 which is tantamount to a 50% increase in the current bidis could be interpreted as being regressive. Attempts to raise
average retail price. The expenditure spent on bidis starts falling tax on bidis are often interpreted as an attack on the poor and
only after the tax increase is more than Rs. 25 per 1000 sticks. have been regarded as politically inexpedient. Secondly, it could
Revenue from taxation of cigarettes keeps increasing until tax also be that taxes on cigarettes are much easier to administer as
is almost 76% of the retail price, which effectively means that the there are only three to four cigarette manufacturers in India
tax on an average cigarette can be increased to Rs. 3300 per 1000 accounting for more than 95% of the production (ERC 2005).
sticks compared with the current Rs.659 without fear of losing Production of bidis on the other hand is highly fragmented and
revenue. The expenditure spent on cigarettes would start falling the bidi rolling is done mostly by female home-based workers
only after the tax reaches at least Rs.3300 per 1000 sticks. under contractors, making it extremely difficult to administer
Effectively this would mean a 150% increase on the current excise taxes (Sunley 2008). Concerns about the employment of
average retail price of cigarettes. an estimated 4 million people, 76% of them women and some
Even though consumption of both bidis and cigarettes falls for 8.4% children, who are directly dependent on bidi rolling
each small increase in taxes, substantial increases in retail price (Panchamukhi et al. 2007), could be yet another reason why
through tax are required for the expenditure to decrease. This is the bidi industry is protected from larger taxes. Whatever the
important in the context of India where expenditure on tobacco reason, any attempt to regulate tobacco use in India without
has crowding-out effects. While these results are subject to the taking effective measures to reduce consumption of bidis will not
strong assumption of constant price elasticity, they nevertheless produce significant results. Moreover, since bidis are at least as
point to the potential for increasing taxes in order to curb harmful as cigarettes, increasing the tax on bidis to match
consumption without losing revenue. This analysis shows the that of cigarettes is justifiable on health grounds, as noted by
huge potential of taxation as a way of both generating revenue Sunley (2008).
and curbing consumption. An increased tax on bidis need not be seen as regressive, as it
would have multiple benefits. First, increased taxes would
directly translate to reduced consumption which would have
direct health benefits. Secondly, as high taxes would lead to a
Discussion and conclusion substantial decrease in consumption, it would also have the
This paper provides the first ever estimates of own- and cross- effect of reducing money spent on consuming tobacco, provided
price elasticities of bidis, cigarettes and leaf tobacco in India. the tax is large enough. Reduced consumption coupled with
It was found that a doubling of a household’s total expenditure reduced expenditure would leave the poor with extra disposable
208 HEALTH POLICY AND PLANNING
income. Finally, tobacco taxes have the potential to increase
revenue, a portion of which can be earmarked for rehabilitating
poor households who are directly dependent on bidi rolling.
There is also no clear reason why there is a huge difference
between the rates of tax on cigarettes based on the presence of
filters and the length of cigarettes in India. The lowest taxed
filtered cigarettes are taxed at Rs.819 per 1000 sticks, while the
lowest taxed non-filtered cigarettes are taxed at only Rs.168 per
1000 sticks. According to the National Institute of Cancer, there
has been no conclusive scientific study which has shown either
that filtered cigarettes are less harmful than non-filtered
cigarettes or that any changes in cigarette design resulted in a
decrease of disease burden associated with smoking. So
cigarettes advertised as ‘light’, ‘low-tar’, ‘filtered’ etc. would
not actually reduce the harm to a smoker, on the contrary it only
gives the smoker ‘an illusion of risk reduction’ (National Cancer
Institute 2001). As it is hard to justify different tax rates based on
the presence of filters, it is also hard to justify different tax rates
based on the length of cigarettes. The existing duties on filtered
cigarettes range from Rs.819 to Rs.2163, as shown in Table 1.
One can argue that an addicted smoker would smoke more short
cigarettes to take advantage of the lower prices and be able to
obtain the same level of tar and nicotine as from a long cigarette.
Hence no justification can be provided for having different tax
rates either on the basis of the presence of a filter or on the basis
of cigarette length. Differentiating cigarettes on such grounds for
the purpose of taxation is unwarranted and should be abolished,
if regulating tobacco use is one of the objectives of tobacco
taxation. This would simplify tax structure for cigarettes,
improve the tax administration, and above all would help to
communicate the public health message that all cigarettes,
regardless of shape and size, are harmful and should be taxed
heavily.
Past studies (Efroymson et al. 2001) have shown the crowding
out potential of tobacco expenditure. Rigorous empirical exam-
ination of tobacco expenditures data in India (John 2008) has
also shown that increased expenditure on tobacco might result in
reduced expenditures on essential commodities such as food and
education. Given that price elasticity of tobacco products is less
than one, one may argue that an increase in taxes will only result
in increased expenditure on tobacco and consequent crowding
out. However, as shown in Table 6, a substantial increase in tax
has the ability to decrease the expenditure, yielding positive
benefits for the tobacco users who reduce consumption. This
points to the need for defining the objectives of tobacco taxation
itself as a public health policy tool over and above being a tool to
generate revenue. It is important to devise a tax policy for all
tobacco products, including bidis, cigarettes and chewing tobacco
products, that will result in a comprehensive reduction in
tobacco use instead of focusing on one particular tobacco
product which comprises only a small portion of tobacco used
in India.
Limitations
Though the estimates presented here are useful guides to devise
suitable tax policy measures on tobacco, it should be noted that
the conclusions of the paper are not completely without
weaknesses. Much of the weaknesses emerge from the inade-
quacy of the data itself. First, the estimates are for the
households as a whole whereas much of the tobacco consump-
tion in India is by adults, especially adult males. Since tobacco is
such an important public health problem, collecting data on
tobacco consumption habits at the individual level should be a
priority in future surveys. Secondly, bidis are smoked by poor
smokers and have an estimated price elasticity near unity,
whereas cigarettes are smoked by wealthier smokers and,
although their price and tax are much higher than for bidis,
have much lower price elasticities, which suggests differential
price elasticity by income levels. Price elasticity for tobacco is
known to be higher among the poor compared with the rich
(Farrelly et al. 2001). The exercise in this paper, however, does
not distinguish between different income groups. Since price
information is not directly available, the model depends on the
variability of unit values between clusters. Applying the same
model to different income groups separately will not yield
sufficient variability in prices. Knowledge of differential price
elasticities would be particularly useful in the context of India
wherein economic disparities determine the nature of tobacco
consumption itself. Collecting large-scale data conducive for
detailed economic analysis should be a priority in this respect.
Acknowledgements
This work was supported in part by a scholarship from
Indira Gandhi Institute of Development Research and in part
by a postdoctoral fellowship (CA-113710) from University
of California San Francisco. I am indebted to Dr. A. Ganesh-
Kumar, Prof. Kirit Parikh and Dr. Joy de Beyer for their
valuable comments and suggestions. I also thank the partici-
pants of 67th Health Economists Study Group Meeting, held at
University of Newcastle upon Tyne, UK (29 June 2005) and
participants of the 13th World Conference on Tobacco or Health
held at Washington DC, USA (12 July 2006) for their useful
comments on earlier drafts of this paper. I have also benefited
from the discussions with Cecily S. Ray. All errors, however,
remain my own.
Endnotes
1
Bidi is an indigenous tobacco preparation in India made by rolling a
dried piece of Temburini leaf (Diospyros melanoxylon) with 0.15 to
0.25 g of sun-dried, flaked tobacco into a conical shape and
securing the roll with a thread. Bidis contain only a small amount
of tobacco compared with cigarettes, yet they deliver as much as
45–50 mg of tar and 1.74–2.05 mg of nicotine compared with
18–28 mg and 1.55–1.92 mg of tar and nicotine, respectively, in
Indian cigarettes (Gupta et al. 1992).
2
The exchange rate for Indian Rupees was roughly Rs.40 to one US
Dollar during this period.
3
See Alderman (1988) where such an exercise is done for Pakistan.
4
Villages are the First Stage Units (clusters) in the NSSO surveys. For
urban areas they are referred to as urban Frame Survey Blocks.
There are 6018 villages and 4122 blocks in the data.
5
NSSO divides the entire geographical region of the survey into 78
regions which are called NSSO regions.
6
The budget share equation here closely follows the one suggested by
Working (1943) with an extra price term and household demo-
graphic terms. This has the theoretical advantage of being
consistent with a utility function (Deaton 1997). Though the
 PRICE ELASTICITY ESTIMATES FOR TOBACCO PRODUCTS IN INDIA
budget share equation resembles the Almost Ideal Demand System,
it is not the same.
7
Note that by distinguishing households according to clusters, the
model has a data structure that is similar to a ‘panel data
regression’, although coming out of a single cross-section.
8
Symmetry-constrained estimates guarantee the unique substitution
complementary patterns, ruling out the possibility that good i is a
substitute of good j when j is a complement of i.
9
See John (2008) using the same data as in this paper. See also
Vermeulen (2003) for a similar exposition using different data.
10
Demand elasticities for tobacco products with all households included
are available upon request. Only the results for ‘tobacco consuming
households’ are reported here.
11
There is, however, no conclusive evidence that non-filtered cigarettes
are more hazardous than filtered ones.
12
The conclusions from the simulation are not very sensitive to the
initial estimate of the consumption.
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