Table 4.

2: Price elasticity estimates for tobacco products in India

Rural Urban
Bidis Cigarettes Leaf Bidis Cigarettes Leaf
tobacco tobacco
Bidis –0.92* –0.084* –0.01 –0.85* –0.063 0.011

Cigarettes –0.45* –0.338** 0.021 –0.091 –0.196 –0.003

Leaf –0.036 0.022 –0.871* 0.071 0 –0.874*

tobacco

Table 5 helps us to infer own- and cross-price elasticity estimates for bidis, cigarettes and leaf
tobacco for both rural and urban households. The elasticity in any given cell represents the
effect of a change in the price of the product in the corresponding column on the quantity
demanded of the tobacco product in the corresponding row. For example, the estimate of –0.34
suggests that a 10% increase in the price of cigarettes will cause rural consumers to decrease
their consumption by approximately 3.4%.

Own-price elasticities of demand for bidi and leaf tobacco are negative, except for cigarettes in
urban India. Most of the cross-price elasticities are negative but lack statistical significance.
Own-price elasticity estimates for rural and urban households are nearly the same, except in the
case of cigarettes, which are relatively more price-inelastic in urban India than in rural India.

The demand for cigarette is relatively inelastic. The statistically significant negative signs on the
cross-price elasticity estimates suggest that bidis and cigarettes are economic complements in
rural India, this complementarity between bidis and cigarettes, however, does not necessarily
mean that an increase in the price of one would result in substantial reduction in the
consumption of the other, given the magnitude of small cross – price elasticity coefficients. In
rural India, the effect of a percentage increase in cigarette price on bidi consumption is very low
(0.8%), whereas that of a price increase for bidis on cigarette consumption is higher (4.5%).
A 5% increase in the Bidi prices will
 Reduce Bidi consumption by 4.6% in rural areas and 4.25% in urban areas,
 Reduce Cigarette consumption by 2.25% in rural and 0.45% in urban areas and
 Reduce Leaf tobacco consumption by .18% in rural and 0.35% in urban areas.
And a 15% increase in the prices of Cigarettes will
 Reduce Bidi consumption by 1.26% in rural areas and 0.94% in urban areas,
 Reduce Cigarette consumption by 5.1% in rural and 2.9% in urban areas and
 Reduce Leaf tobacco consumption by 0.33% in rural areas and 0% in urban.

Own Price Elasticity

Bidis:

When the prices of bidi increase by 5%, its consumption in rural and urban areas also
reduces by almost the same magnitude.

In the question we are assuming the price of bidis to increase by 5% which is 1/10th of
the threshold price, required to affect consumption.

Bidis are taxed at a very lower rate, at a price of Rs. 14 per 1000 sticks (of man-made
bidis).

In other words, tax on bidis can be increased to Rs. 100 per 1000 sticks without any fear
of losing on revenue. At that level of taxation, price of a pack of 25 bidis will be Rs. 6,
which is only 50% more than that of its current price.

Cigarettes:

Owing to the income levels, rural households are more affected by the increase in prices
of cigarettes compared to urban households who are relatively inelastic.

Revenue from taxation on cigarettes remains unaffected until tax is almost 70% of the
retail price, which effectively means that average tax on cigarettes can be increased to
Rs. 3300 per 1000 sticks compared to the current Rs. 659(average tax pe 1000 sticks)

The percentage of expenditure spent on cigarettes will start falling only when the tax
reaches Rs. 3300 per 1000 sticks. Effectively it would tantamount to 150% increase in
price of cigarettes which is more than 15%.
 Cross-Price Elasticity:

If we examine the co-efficient of elasticity in case of rural areas, we see that magnitude
of effect of increase in price of cigarettes on bidis and that of increase in price of bidis on
cigarette is different.

We are increasing price of cigarette by 15% and bidis by 5% and with the above
information we can say:

 The increase in price of cigarette has very less impact on consumption of bidis.
 There is relatively low increase in price of bidis i.e. 5% so there is negligible effect on the
consumption of both.