Moral Hazard and Optimal Cigarette Taxation

Gerard Russo ()
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Gerard Russo: Department of Economics, University of Hawaii at Manoa

No 198918, Working Papers from University of Hawaii at Manoa, Department of Economics

Abstract: This paper views cigarette taxation as a correction for health insurance distortions (an efficiency tax). The theoretical framework utilizes an individual expected utility maximizing consumer-optimal social planner model. From the model an optimal tax formula is derived. There are two main results. First, when indemnification is prohibitive, a subsidy to medical care (reimbursement insurance) may be optimal. Second, when reimbursement is optimal, the optimal cigarette tax (subsidy) depends on the complementarity (substitutability) between medical care and cigarettes as well as moral hazard.

Date: 1989
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