Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle

& Doreen Carvajal)

Taxes are involuntary fees levied on corporations or individuals that are enforced by government for revenue. Indirect tax is a tax that increases the current price of a commodity at every price level. During the period of "Europe's four year old economic crisis", governments have added taxes to inelastic commodities such as cigarettes in order to increase total government revenue and reduce budget deficit.

Subsequently, indirect specific tax applied by the government on cigarettes has caused an increase in price of cigarettes from P1 to P2, which lead to a decrease in quantity produced, and caused a burden on the producer. Since the tax is applied to every price level the whole supply curve, S1, shifts to the left affecting consumer marginal benefits at every price level. Also, cigarettes have price inelastic demand because of their addictive properties; therefore an increase in price has only made a minimal change in quantity demanded (Q2 Q1). For regular consumers this is a burden since the price has increased, but consumers still highly demand this commodity even at a higher price because of its inelasticity. Furthermore, a new market equilibrium was formed (E1 E2) due to the change in price and the shift in the supply curve, which producers are forced to follow. Generally, price inelastic commodities are primary targets for high rate taxation during times of economic crisis. However there may be disadvantages to the producer and consumer. In turn, taxation decreases the net price producers earn as well as the total revenue producers collect. This can lead to a loss in total collected revenue of retail storeowners who sell cigarettes, which ultimately could lead to unemployment due to lower revenue performance. During such "times of

Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle & Doreen Carvajal)

economic crisis", consumers have "less disposable income" which increases demand for cheaper substitutes.

Consequently, not only does a tax on a commodity increase the price, but also creates a loss in welfare as viewed by the grey triangle labeled "dead weight loss". The consumer tax burden and the producer tax burden have been the main results of the welfare loss. This in turn causes the unavailability of products that were available before the increased government taxation. At the same time the grey rectangle represents a decrease in labor, because of the increased price and decreased quantity demanded. Furthermore, the addition of tax decreased the total consumer surplus as represented by the blue rectangle. Similarly, the total producer surplus also reduced because of the producer tax burden represented by the green rectangle. In this case there is a tax of $4 and an increase in price of $4. C is representing the amount that the consumer is receiving for the price that is being paid for that commodity. The $9.20 packet of cigarettes is only worth $C, a value of $5.20. For "Mr.Gilsenan's" store there was a decrease in sales by "40 percent in the last 4 years" leading to the lay off of two of his

Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle & Doreen Carvajal)

employees. Not only was this the result of government taxation, but also the expanding of the black market. A black market is economic activity mostly to avoid government taxation of certain commodities as well as the buying and selling of illicit drugs, firearms or other illegal goods. Not only did the government not expect such a result, but also the intended benefits of the government taxation was not met leading to almost "$1 Billion" loss in total E.U. tax revenue. This decrease in total tax revenue caused a substantial increase in counterfeit or illicit cigarette purchases. Consequently, this method of smuggling counterfeit and illicit cigarettes while avoiding government taxation has created a billion dollar underground industry. It can be said the black market benefits the "ordinary person in the street, who has a lot less money" because cigarettes sold in the underground market are normally well below the retail price. Controversies regarding advantages and disadvantages of government taxation on price inelastic commodities have risen. In the short run, government taxation was beneficial in increasing total tax revenue and decreasing budget deficits, but in the long run, as there was a doubling in smuggled cigarettes between "2008 and 2010", less affluent, eager consumers found substitutes to retail cigarettes on the black market leading to a loss in total government tax revenue. Similarly, at the same time, taxation caused dead weight loss, unemployment, and consumer/producer burden. Moreover, smuggling of cigarettes should be strictly controlled to ensure the benefits of government taxation. Word Count: (746)

Title of the article: Europes Downturn Creates Unlikely Smugglers Source of the article: http://www.nytimes.com/2012/07/12/world/europe/europes-downturn-createsunlikely-cigarette-smugglers.html?pagewanted=all&_r=0 Teacher: Date of article published: July 11th 2012 Date of commentary written: November 5th 2012 Candidate Name: IB Syllabus: Section 1: Microeconomics

Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle & Doreen Carvajal)

MLA Format:
Castle, Stephen, and Doreen Carvajal. "Europes Downturn Creates Unlikely Smugglers." New York Times. N.p., 11 July 2012. Web. 29 Oct. 2012. <nytimes.com>.

Original Article:
LONDON When the Sophie Maersk docked at the British port of Felixstowe, the ship carried two 40-foot containers brimming with what had been billed as toys and stuffed turtles. But the cargo was not for childs play. The containers were actually crammed with more than 20 million illicit cigarettes smuggled by an unlikely ring that included a recruitment consultant, a scaffolding company owner and a millionaire Dubai businessman in plastics recycling who had fallen on hard times during Europes economic dow nturn. He borrowed money and took the wrong route, a lawyer said in open court earlier this year, apologizing for the gangs ringleader, Paul OMeara, 48, of Suffolk, England, adding that he lived the good life, but lost it all, and then risked his reputation as a result, really, of the financial collapse. For years, law enforcement officers and smugglers have played cat and mouse in Europe, where contraband cigarettes are stashed in everything from furniture shipments to loads of Christmas trees. But Europes fouryear-old economic crisis is expanding the black market for cigarettes, robbing European Union nations of valuable revenue and drawing in a new class of smugglers. In May, a judge in England scolded Terry Nolan, a blind man from Yorkshire, who was convicted after investigators found him stashing more than 200,000 contraband cigarettes, some behind a false wall in his garden shed. Mr. Nolan refused to reveal the source, claiming he was afraid of reprisals, and was given a fivemonth suspended sentence after pleading guilty to evading more than $150,000 in excise taxes. You are 61 years old, and apart from a sentence in your youth for cannabis possession, you have remained law abiding for the last 40 years, Judge David Tremberg lectured him in court, issuing a curfew and a fine of about $1,000. At a time when the public purse is at breaking point, this business robs the country of muchneeded finances. Indeed, the impact of lost tax revenues is enormous, especially since the European Union is partly financed by customs duties, 75 percent of which are passed to the bloc by its member nations.

Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle & Doreen Carvajal)

The damage: 1 billion euros missing in the E.U. budget and up to 9 billion euros missing in the member states, according to Jens Geier, a German member of the European Parliament, who worries that the volume of smuggled cigarettes hints at serious structures of organized crime behind these illicit, everyman retailers. Hard facts about this smuggling trade are found in the lowliest places: the garbage. In annual surveys, financed by cigarette companies, researchers fan out to major cities in 27 European nations and collect crumpled cigarette packs. In turn those packs are analyzed by laboratories to determine how many are bought across the counter and how many are counterfeit. Some boxes are so meticulously produced in China, Dubai or Eastern Europe that they contain bogus tax stamps for different nations. The latest results of the garbage scavenging showed the black market competition had increased to record levels. In Spain, illicit sales last year soared 300 percent to more than 4.6 billion cigarettes. In the struggling region of Andalusia, they showed, contraband cigarettes commanded 20 percent of the market. In Ireland, smugglers are robust competitors with legal cigarette companies, reaching more than 17 percent. Over all, black market cigarettes continued a steady climb for the fifth straight year, topping 10 percent of consumption or 65 billion cigarettes, according to the annual report issued in June by KPMG for Philip Morris International. Smuggling has flourished in particular in nations where the price of a pack of cigarettes has edged past $10, the result of rising taxes and tighter wallets. In times of economic crisis, especially a long economic crisis like the one Europe is experiencing now, people have less disposable income, and they are particularly interested in cheaper products, said Simeon Djankov, deputy prime minister and finance minister of Bulgaria. There, he said, the market share of smuggled cigarettes more than doubled between 2008 and 2010. In Dublin, Benny Gilsenan did his own personal research. When Irelands economy started to founder in 2008 after the nations real estate crash, Mr. Gilsenan noticed the regulars were dwindling from his store, Bennys, a 40-year fixture in the neighborhood. Then he confronted a former customer, whom he could see smoking just a few hundred yards away. The man explained the math to him.

Microeconomics, Taxes & Subsidies, Section 1: Microeconomics Commentary: Europes Downturn Creates Unlikely Smugglers (Author: Stephen Castle & Doreen Carvajal)

I sell a pack for 9.20 euros, while they can get one for 3.20, about $7.30 less, Mr. Gilsenan said, noting that his sales declined 40 percent in the last four years and resulted in layoffs of two employees. Since then, he and other shopkeepers have formed a group called Retailers Against Smuggling that is pressing for higher penalties for smugglers. The turtle toy smuggling case was masterminded by Mr. OMeara, the businessman who embarked on what prosecutors called a massive international smuggling operation. Among the seven men, sentenced earlier this year, none had previous records for smuggling, according to Paul Barton, assistant director of criminal investigations at Britains HM Revenue & Customs. According to investigators and court records, the turtle plot began sometime in 2009 when Mr. OMeara was struggling with debts and began work on setting up a haulage business called Vincent Logistics, which prosecutors described as a front company. He received financial help from another member of the smuggling ring, Robert Doran, 47, a Dubai millionaire. The potential tax loss from the operation was more than $5 million for the British government, according to Mr. Barton, who said the plot had taken around four to five months to prepare and was so well organized that plotters marketed the cigarettes with glossy brochures. In the end it cost them prison sentences, ranging from two years to four and a half years.