New research shows Europe’s Single Market has kept taxes on alcohol and tobacco low

The completion of the European Union’s ‘single market’ – which removed all restrictions on trade in goods between member countries – has meant that the UK government has not been able to raise alcohol and tobacco duty as much as it might like – according to research by Dr Giuseppe Migali from Lancaster University and Professor Ben Lockwood ( Warwick).

The research, published in the Economic Journal, shows that although the single market benefited smokers and drinkers who were able to go to France and take advantage of lower taxes, even those who did not travel benefited. This is because the government could not raise taxes without encouraging more people to shop – or shop more frequently – abroad. So duty is lower than it might be otherwise, which benefits all smokers and drinkers.

The single market may also explain why alcohol taxes in particular have failed to keep pace with inflation since the introduction of the single market. If so, the single market has reduced the government’s ability to tackle binge drinking through higher taxes.

Dr MigaIi from Lancaster University’s Management School believes that the reluctance to increase duties on commodities such as alcohol and tobacco can be certainly related to the creation of the Single Market.

He explained: “ Increasing taxes in one country might not raise as much money, or deter as much consumption as they did before as shoppers could simply shop abroad. It’s evident that there was increased loss of revenue in the UK after the start of the Single Market, caused by cross-border shopping and smuggling of cigarettes and alcohol.

“A further increase of taxes on portable commodities should only raise the cross-border shopping towards nearest neighbour countries, with the consequence of a strong negative impact in terms of domestic politics due to a further tax raise, and relatively small gains in revenues. “

The completion of the EU’s single market in 1993 resulted in the removal of trade barriers between member states. It also meant a change in commodity taxation. Specifically, EU residents buying goods in another EU country were now taxed at the rate of the country of purchase, not where they resided.

This change allowed cross-border shopping. High taxes on portable goods in one country might not raise as much money, or deter as much consumption as they did before as shoppers could simply shop abroad. Many UK smokers and drinkers took advantage of the opportunity to buy alcohol and tobacco in France, which has much lower taxes on these products than the UK.

Five years after the start of the single market, the estimated loss of revenue to the UK government from legal cross-border shopping was around £375 million a year. In 2003/04, 10.5 billion cigarettes were successfully smuggled and a further 6.5 billion were purchased across a border with a loss of £3.1 billion to the UK Treasury.

There is concern that governments have been cutting rates of excise tax – or at least not raising them in line with inflation – in response to such behaviour. The authors studied the setting of excise taxes on still and sparkling wine, beer, spirits and cigarettes by 12 EU member countries over the period 1997 to 2004 and investigated whether the way a particular country responded to the excise taxes set in other EU countries differed before and after the single market.

The report finds little evidence that governments were concerned with taxes in their neighbours before the creation of the single market in 1993. Indeed, it finds that there is evidence of this only for the tax on cigarettes.

‘Did the Single Market Cause Competition in Excise Taxes? Evidence from EU Countries’ by Ben Lockwood and Giuseppe Migali is published in the March 2009 issue of the Economic Journal.