Overall tax revenue among countries in Latin America and the Caribbean (LAC) averaged 21.7 percent of GDP in 2021, while average tax revenue across OECD countries was 34.1 percent of GDP. Similarly, excise tax revenue in LAC countries averaged 1.8 percent of GDP, compared to 2.2 percent in OECD countries (OECD, 2023). Accordingly, and considering the shrinking fiscal space in the region and restrictions in access to finance (ECLAC, 2022), there is a clear need to strengthen sources of public funding.
One way to achieve this is through increasing excise taxes, which fulfill fiscal but also nonfiscal objectives. Imposing these kinds of taxes on products that cause harm to the population and/or the environment—including tobacco, alcoholic beverages, fossil fuels, pesticides, and high-calorie food and drinks—can increase tax revenue. At the same time, raising the prices of these products decreases their consumption and associated health harms. The extent to which consumption is reduced depends on consumer sensitivity to product price (elasticity). Lower-income groups tend to be more responsive to price than those with higher incomes (Powell & Chaloupka, 2023).
Reducing consumption of products that are harmful to health by raising prices is associated with lower rates of disease and premature mortality. In the case of smoking, this also has an effect on child health by reducing rates of low birth weight and infant mortality, among other positive effects on children and families (Powell & Chaloupka, 2023).
In response to this need to increase public funding and reduce consumption of harmful products, particularly of tobacco, excise taxes constitute a public policy tool capable of achieving both
objectives. To analyze different tobacco tax policy proposals and scenarios, CIEP has developed the Tobacco Tax Simulator, a digital tool providing decision makers, civil society organizations (CSOs), students, academics, and the wider public with accessible, easy-to-interpret estimates under various scenarios to stimulate informed discussion on optimal tobacco tax policy in Mexico.
Purpose of this handbook
This guide aims to help civil society organizations, decision makers, students, academics, specialists, and the wider public in Mexico, other Latin American, and low- and middle-income countries to understand, develop, and integrate into their analysis tobacco tax structures and tax simulators like
the one developed by CIEP.
This handbook does not seek to offer discussion on econometric estimation strategies or computational efficiency in programming. Instead, it is intended as a guide to the flow of parameters and calculations used to perform simulations in different environments. This makes tax simulators useful, easy-to-understand tools that support the application of evidence-based public policy.
Who should use this handbook?
No expert knowledge in tobacco taxes, economics, or econometrics is needed to use this handbook, but a basic understanding of Stata codes or programming experience is required to understand the flow diagram and how it can be executed in another language.
How to use this handbook?
The first section describes how excise taxes are applied to tobacco, first in general terms and then specifically in Mexico, detailing the legislation that underpins these taxes and how part of this revenue is transferred from the central government to the states, Mexico being a federal republic.
This illustration of the implementation of legislation for subnational transfers can help provide added value for countries that have earmarked these taxes for a particular type of expenditure.
The second section lists the data and inputs required in each country to develop a simulator similar
to that found on the CIEP (2019) website and mentions the statistical software used (Stata).
The third section presents the methodology used to develop the CIEP tobacco tax simulator and describes the formulae and parameters used in calculating the effect of the IEPS2 excise tax on variables like revenue, consumption, and sales. An initial scenario (status quo) is estimated, and then this section explains how the variables are changed to compare them with the initial scenario.
Information is also provided about the estimated distribution of funds among the country’s states and cost-benefit calculations in terms of health and productivity. This section also describes the programming used in the simulator.
The fourth section illustrates how the simulator presents the results in infographics on the estimations performed in terms of revenue, sales, price of a pack of cigarettes, distribution of funds among states, and gains/losses in terms of health and income as a result of the change in tobacco tax framework. Importantly, these infographics show the potential that these tools offer for outreach, and how the results of the programming process can be communicated and shared with the public and decision makers.
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