Mr.
Field: Is it also the case that the issue has probably
incentivised organisations that want counterfeit tobacco, which is so
prevalent on our streets, to focus on some of the higher priced brands
so that there is more value in getting their counterfeit product on the
market?
Mr.
Hands: My hon. Friend is right. I will talk about
counterfeit brands later, because the huge rise in counterfeit or fake
brands, which are designed to look like real brands, is an important
part of the whole
equation. 2.45
pm A
packet of Pall Mall cigarettes retailed at around £4.20 before
the increases in the Budget, and a packet of Marlboro cigarettes
retailed at around £5.80. That was after the increase in ad
valorem, but before the increase
in specific duties. The sales figures show that there appears to have
been a general shift in consumption towards cheaper brands, which may
be expected because the tax regime changed, and people react against
duty rises that disproportionately affect mid-priced and premium
cigarettes. Interestingly,
the Government appear to recognise that ad valorem duty has ratcheted
up the differential, which is where their problems begin. Members of
the Committee may be aware—as a member of the European Scrutiny
Committee, I am certainly aware—that the European Commission
recently consulted on the structure and rates of excise duty that are
applied to cigarettes and other manufactured tobacco. It subsequently
published a draft directive, which I will address in due course. The
Government submitted quite a lengthy document in response to the
consultation, which can be downloaded from the European Union website.
I think that it is also available on the European Scrutiny Committee
website. The
document is called, “Response to the Commission’s
Consultation Paper on the structure and rates of excise duty applied on
cigarettes and other manufactured tobacco”, and it is a detailed
and very well reasoned response. Referring to the problem that I have
just outlined, the Government’s paper
states: “Under
an ad valorem regime, this multiplier effect makes it more costly for
producers to raise the pretax price, which has implications on the
behaviour of producers in imperfectly competitive markets such as
tobacco, which is characterised by small numbers of large firms. The
multiplier effectively increases the marginal revenue a supplier in
such a market perceives and this means it is then profitable for the
supplier to lower prices and raise
output.” In
other words, the Government’s position is that a large amount of
ad valorem incentivises producers to raise profits by lowering prices
and raising output. That raises an interesting question as to whether
we want Government policy to make tobacco manufacturers lower prices
and raise output. That is exactly what is happening, which is surely
contrary to the health objectives of the tobacco duty
policy. Of
course, the ad valorem element of duty is an EU requirement. This is
not a speech against the ad valorem element, but raising it is not an
EU requirement. Taxing the tax on cigarettes increases the price
advantage of cheaper varieties without any convincing rationale from
the Government in either revenue or health terms. Indeed, in revenue
terms, the sale of cheaper brands is, on the face of it, negative for
public finances, as less ad valorem will be brought
in. So
did the Government think that the higher ad valorem duty that they
introduced in November was a good idea? Reading their response to the
EU consultation, one would think not, because they made it clear that
they believed
that “there
is a strong case for specific duties as the only option for taxing
tobacco products.”
So suddenly the
Government were saying that we should only have the specific duty and
get rid of the ad valorem duty, just months before they bumped up the
ad valorem duty in the PBR. That makes no sense. Specific duties are,
of course, the other element of the tax on cigarettes and are based on
the weight of tobacco involved, not the price of any particular
brand. To
spell it out, by arguing for specific taxes as the only option in their
response to the EU, the Government argued that the ad valorem tax
should be scrapped
altogether when the EU approves a new directive on this subject. But in
the PBR, the Government went in completely the opposite direction,
raising the ad valorem part of the duty and leaving the specific part
where it was. I accept that the PBR was neutral on revenue and prices.
However, following the Budget, November’s change to the ad
valorem rate has proved to be far from neutral. It altered the
structure within which other changes are now occurring like the changes
in clause 12. The increases
in specific duty will now widen the gap between cheap and expensive
cigarettes by far more than would have been the case due to the
November steep increases in ad valorem. This will hold true for any
future increases in specific duty or in other matters such as
production costs. When VAT returns to 17.5 per cent., the gap will
widen again because the ad valorem duty taxes the tax on cigarettes. So
the VAT increase will lead to an even larger rise in the price of a
packet of cigarettes because of the increase in the ad valorem as it is
assessed on the VAT.
It is not
clear to me why the Government are set to take this course. There are
no apparent health benefits associated with cheaper cigarettes. I have
even seen arguments that cheaper cigarettes may be less healthy than
premium brands. The justification for having the duty in the first
place ultimately rests on health grounds. When the Exchequer Secretary
to the Treasury justified maintaining prices in line with inflation
last year, she said that it was because it
would “continue
to encourage people to smoke less or to give
up”.——[Official Report, Finance Public
Bill Committee, 15 May 2008; c.
221.] In
my view, increases in ad valorem duty encourage people to trade down in
terms of what they spend on a packet of cigarettes by changing brand,
as much as they encourage people to smoke less or to give up. That is
not just my argument. The Government even argue that the change will
encourage trading down more than it will encourage smoking cessation.
This is another line from their response to the EU consultation. They
said: “Specific
duties are the most effective way of maintaining high prices for
tobacco products and thus encouraging people to reducing smoking or
quit”. Therefore
it is quite extraordinary that since the PBR the Government have done
exactly the opposite of what they themselves told the EU that they
regarded as being effective. This was not that long ago. It is just
over a year or a year and a half ago that they made this submission to
the EU. So the only charitable conclusion is that the PBR changes were
as hurried and botched in relation to tobacco as they were in relation
to alcohol. It may have seemed to make sense to offset the
Chancellor’s cut in VAT by hiking ad valorem duty because as a
one-off short-term measure the correlation was close, but in the medium
term it simply is not and its main impact has been to widen the duty
differential between cheaper brands and premium
ones. The
Government stand condemned by their own words. As they said in their
submission to the
EU: “Substantial
evidence shows that younger smokers are more price sensitive, and the
existence of cheaper cigarettes tends to make individuals more likely
to smoke, and to make smokers less likely to give up. Specific duty, in
increasing the price of all cigarettes, deters the taking up of
smoking, and encourages smokers to reduce their consumption and
quit.” That
is an absolutely clear-cut case for raising specific duty, rather than
ad valorem, a regime that the Government
wanted to see abolished in their response. Specific duty is the one most
likely to lead to smoking cessation, not ad
valorem. Mr.
Stuart: I wonder whether, like me, he hopes that the
Minister will be able to reassure us that lower price cigarettes do not
have a higher tar content on average than higher price cigarettes,
because that would certainly compound the already powerful case that my
hon. Friend is making against this obviously ill-thought-through
measure.
Mr.
Hands: I thank my hon. Friend for that intervention. With
the huge variety of brands out there—some of them new, others
counterfeit or fake—I expect that it might be difficult to make
that generalisation. However, I think that that is an important point.
Another relevant point is the example of revenue—certainly,
lower priced cigarettes generate less revenue for the
Treasury.
The
Exchequer Secretary to the Treasury (Angela Eagle): I am
happy to deal with the issues when I respond to the debate, but I say
now that it will be helpful for all of us, for all sorts of reasons, if
we did not mix up counterfeit with genuine, legally available
cigarettes—the two need to be thought about separately. That
would help us deal with some of the issues raised by the hon.
Gentleman.
Mr.
Hands: The Exchequer Secretary raises an important point,
but to be fair, neither my hon. Friend nor I were mixing up the two. In
terms of the actual impact of the amount of tar, I was saying that it
would be difficult to effect some kind of generalisation because some
fake brands do not tell us on the packet how much tar there
is.
Angela
Eagle: The fake brands do not always contain what they say
they do, which is why it is important to separate the cigarettes made
and sold legally from the counterfeit products. They are totally
separate, and we will have a much clearer and more focused debate if we
do not mix the two
up.
Mr.
Hands: Of course the Minister is right, but she is making
my point for me. In response to my hon. Friend, I pointed out that it
was difficult to effect some kind of generalisation about the overall
tar content for all the cigarettes that are consumed in the UK. Due to
those varied considerations, she is helping me to make my own
point. The
nub of the matter is that the Government could have addressed the
weaknesses of the pre-Budget report in the Bill. The Budget was an
opportunity to replace a temporary measure with a sensible, overall
structure. Unfortunately, they appear to have missed the chance. The
Government can still consider re-balancing the structure of taxation in
January 2010, when the VAT rise kicks in. I will be grateful if the
Minister can confirm whether the Government intend to leave the ad
valorem duty at 24 per cent. in January 2010. As I said, the rise in
VAT will increase the tax on cigarettes by more than the VAT
itself. An
argument could be made for that position, but why would the Government
want to nurture super-low price brands at the expense of premium
brands? I am interested in the Minister’s argument as to why she
thinks that that should be the case in our tobacco duty
structure.
It also, as I
said, conflicts with the Government’s own reasoning in their
response to the EU consultation. There is already a significant move in
this country to low and super-low price brands from premium ones.
According to ACNielsen, the market research company, the market share
of premium brands has fallen from 28.5 per cent. to 25.9 per cent. in
just the past two and a half years, between 2006 and 2008. Meanwhile,
the super-low market share has gone from 41.6 per cent. to 45.1 per
cent. in the same period—a pretty big increase in less than
three years. That is most likely due to the changes in tax. Indeed, the
tax differential between premium and super-low brands has increased
from just 10 per cent. at the beginning of that period to 14 per cent.
now—quite a significant change in a tax differential.
It is worth
thinking about the impact that all that has on tax yields. For every 1
per cent. of consumption that trades down from premium to super-low
brands, the Government lose approximately £11.5 million in tax
revenue. It
is worth looking at the EU consultation and directive again in more
detail because it will dictate the future of the tobacco duty regime in
this country. The Commission, when setting out its consultation,
broadly suggested four areas that it might pursue. The first one is
replacing the most popular price category—the MPPC—with
weighted average prices as a reference point for the whole European
Community, claiming that it would address health objectives in a more
efficient manner. It is saying that there should be higher specific
duty, which is the point I started with. Secondly, it talks about
aligning the taxation of cigarettes and fine cut tobacco or
roll-your-own or hand-rolling tobacco—HRT as I believe it is
called—to reduce the substitution effect. In other words, people
give up smoking ready-rolled cigarettes in favour of hand-rolling
tobacco. Thirdly, it talks about increasing the minimum rate
requirement for cigarettes and fine cut tobacco to combat illicit
trading—which we have already talked about—and to address
health concerns, and finally amending the existing definition of
cigarettes, cigars and pipe tobacco to deter tax avoidance and
evasion.
3
pm In
the light of the EU consultation, there are broadly seven proposals in
the draft directive—indeed, abolishing the MPPC as the reference
point, which is good news for those who prefer a higher rate of
specific duties, with the alternative of a cash minimum to be applied
to all cigarettes, not just to those in the MPPC, of around
£50.50 for 1,000 cigarettes. It would not affect the price in
this country because we are already above that. There are various other
suggestions. I would be grateful to hear from the Minister what
response the Government had made to the draft directive, which was
cleared by the European Scrutiny Committee last autumn.
On a related
topic, I wonder whether the Minister has looked at what various EU
members do and what consideration she has given to a minimum duty on
tobacco products. That is not a minimum price but a minimum level of
duty. Twenty of the 27 EU countries already have such a scheme.
Ireland, for example, has a minimum duty. What consideration has she
given to the Irish experience? In Sweden and Denmark, having a
minimum level of duty actually raised tax revenue because it made
cheaper brands more expensive, thereby increasing the overall tax
revenue because the ad valorem part, the specific duty, would take in
more—and indeed the ad valorem. It closes the differential
between the cheaper brands and the premium brands and, in Sweden and
Denmark at least, it showed an increase in tax revenue. It might also
curb the increase in lower-priced tobaccos and thereby raise more duty.
I would be grateful to hear whether the Minister had looked at the
experience, in particular in Ireland, but also in the other 19 EU
countries that have such a system. Turning from
the structure of tobacco taxation—although the structure does
bear on my next question—we need to ask how close further duty
increases will take us to the revenue maximisation point with tobacco
duty. The Minister admitted in last year’s Finance Bill debates
that we were close to this point, and I think she said the same in
relation to the PBR and the debate on the statutory instrument in
January this year that resulted from the PBR. In the Committee of the
whole House the Minister talked about whether we might have reached the
tax maximisation point with tobacco. We now have another increase, with
a further increase in prices expected as a result of the VAT rise in
January 2010. It would be helpful to have her current view on revenue
maximisation. Discussing the PBR changes in the debate on the statutory
instrument in January—which raised the ad valorem element from
22 to 24 per cent.—she
said: “If
we are close to revenue maximisation, we might go closer to or just
beyond that point and, in that context, there is a risk that smuggling
might undermine the helpful revenue benefits of the real increase in
tobacco taxes.”—[Official Report, Second Delegated
Legislation Committee, 13 January 2009; c.
22.] We
acknowledge that progress has been made on smuggling. HMRC and UKBA
have a joint strategy, although the tone of last year’s launch
document was perhaps a little self-congratulatory given the levels of
illicit tobacco that remained in this country. For example, when
discussing hand-rolling tobacco, as loose tobacco is normally termed,
the document put the illicit market share at a huge 53 per cent. Its
estimate of a 13 per cent. illicit share for the much larger cigarette
market also needs to be placed in context.
Imperial
Tobacco, for example, suggests that 37 per cent. of the cigarettes
smoked in the UK fall outside the UK duty regime. When we are debating
the amount of duty that we might be taking in, that is an incredible
amount. Imperial Tobacco, which is, I think, one of the largest three
or four tobacco manufacturers, suggests that 37 per cent. of what is
smoked in this country does not have UK duty paid on it. In other
words, for more than one in every three cigarettes, the Treasury gets
absolutely nothing. Clearly many of those are not illicit—the
Minister was right to draw that distinction—but they all
represent lost revenue to the Treasury.
We should
also consider the effect of the exchange rate. Some of the pressure on
tobacco imports of all kinds—illicit and legal—has been
eased by the fall in sterling, which has meant that super-low brands
have become cheaper in the UK than in France. That must be the first
time that that has happened—certainly for 20 years, but perhaps
ever since tobacco was discovered in the 17th century. Thinking about
all-time historic changes, it is worth remembering that, at the moment,
sterling is very close to its historic low against the euro and its
predecessor currencies, such as the French franc.
We are living
in interesting times, but we cannot rely on sterling remaining very low
against the euro to reduce tobacco importation over a long time. I do
not think that smuggling has been stopped or eliminated. We have to be
aware of that. I would be interested to hear the Minister’s
views about what the Government are doing. It would also be interesting
to know what effect the Government think any significant recovery in
sterling would have on the joint smuggling strategy and wider
policy. Another
area of revenue loss that we should examine is the new threat of
so-called non-domestic brands—or “cheap
whites”—which we mentioned earlier. Those are brands that
are not counterfeits, but that resemble those available in the UK. They
are what I call in vernacular terms fake brands, which are ostensibly
manufactured for the home markets of the countries in which they are
produced—eastern Europe, Russia, China and elsewhere. Duty is
often paid in those countries, even though it is never intended that
those products will be consumed there. Anybody who knows anything about
tobacco duty will know that it is very low in countries such as Russia
and China. It can still make sense to produce the product there, even
though it is intended for export from the very beginning. However,
instead of being smoked there, after manufacture, the cigarettes are
either smuggled directly to countries such as the UK, or moved
legitimately via other hubs—particularly Poland, but also
Germany—from where they find their way
here.
Last
November, which is the most recent month for which I have data from
HMRC, interestingly, 47 per cent. of seizures were of those
“cheap whites”. They are a significant part of the non-UK
duty paid part of the cigarette market. I do not know whether other
members of the Committee have come across those fake brands, but the
industry is finding an ever-increasing number of those “cheap
whites” when it conducts pack sampling of the rubbish left
behind at events such as football matches and concerts. That might
sound like an obscure thing to refer to, but it is standard practice in
the cigarette industry to do pack sampling exercises. People from the
industry go to somewhere where there has been a big assembly of people
and look at the detritus left
behind.
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