The visible hand in economics

Fat tax?

Posted on: December 2, 2007

Following the discuss on lower GST for healthy foods I feel it is appropriate to discuss the other side of the coin, a tax on inherently unhealthy food, a fat tax.

You know the type of foods I’m talking about, chocolate bars, chips, V’s (I can see all this on my desk, looks like this tax will hit me pretty hard :) ). If there is a social cost to the consumption of these types of goods we should tax them, and send the funds to the place where the externality will fall.

In this case, drinking too much V will lead to me needing to use health services more than I would have with no V. In order to ensure a socially efficient outcome, V needs to be taxed, and the money needs to be sent to the hospital. This will lead to me reducing my consumption of V (not likely) or paying the value of the negative externality I impose on society (my health care bill) or a mix.

Now this tax is on the consumption decisions of people, so the level of the tax will depend on how much we believe the consumption of V’s adds to the cost of running health care in NZ (or any other externalities it may cause). If we are so keen on taxing smoking, fuel, and alcohol, then why aren’t we taxing Moro bars and V’s?

Update:  Here is an article that goes into (marginally) more detail about a fat tax.

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20 Responses to "Fat tax?"

Consumption of fatty foods can be offset by an increase in exercise. In fact such foods may even provide energy needed for such exercise.

By disincentivising fatty foods you are also encouraging currently active people to sit on the couch and watch TV instead, both because they will lack energy they would have obtained from the food and because the exercise may have been motivated by a desire to burn off the fat from the foods they are now not consuming.

To avoid this problem, the taxes taken from the food need to be paid out to people who exercise. Which is, in practice, impossible.

The best action is to do nothing. The second-best action is to tax fat people and leave thin people alone. A direct tax might be oppressive but fat people can always be taxed indirectly by making them pay for health services or dropping them down the waiting lists so they either don’t get treatment or have to pay to go private.

“Consumption of fatty foods can be offset by an increase in exercise. In fact such foods may even provide energy needed for such exercise.”

Interesting. So you are saying there is a complementarity between eating chocolate bars and exercising. There may be for some people, but I’m not convinced that the net effect will be to make these people ‘healthier’.

The ‘best’ outcome will depend on what you believe is socially optimal. The purpose of a ‘fat’ tax is to make people pay for from how their consumption decision may impact on other people. It does not attack people who are just genetically over-weight, as that is an endowment problem and many people would view it as un-equitable to punish those who can’t help it.

Ultimately this tax is exactly the same as a tobacco or alcohol tax. By taking the commodity that provides a given negative externality we are forcing those who create the externality to pay a greater proportion of it than the rest of society. This is bound to be more efficient than funding it from the general fund, and on equity grounds it differentiates between those who have become ‘over-weight by choice’ compared to those who are ‘over-weight as a result of genetic factors’.

I agree with Matt: the suggestion that eating unhealthily increases the amount of exercise people do, to the point that they become healthier, is highly implausible. Most people who exercise because they care about their health also try to eat healthily. They don’t tend to consume a lot of simple sugars such as those found in Moro bars and V cans. I’m not persuaded that their consumption patterns will be significantly altered by the imposition of a tax.

I agree with nigel, the fact that fatty foods can be offset by excercise sets them apart from other vices. Smoking and drinking cannot be offset at the individual level.

“fatty foods can be offset by excercise”

Ok, but this doesn’t change too much about the negative externality associated with fatty foods.

Heres how I see it. The consumption of fatty foods could increase exercise if it increases the marginal benefit or decreases the marginal cost of exercise. It increases in both cases so we need to assume that the marginal benefit affect is greater. I find it unlikely that an increase in the consumption of fatty foods will cause people to increase their exercise so much that they end up healthier than they would of without the unhealthy food.

Now, I think both Kimble and Nigel have a point when they say that someone that eats junk and goes for a run will create a lower social cost then someone that just eats rubbish. The reason for this is the positive externality associated with exercise, it has nothing to do with the junk food. By saying that fatty foods make you exercise your trying to say that fatty foods have a positive externality on health by association, which is a bit of a stretch :)

As Nigel says you can’t clearly subsidise exercise (although the government does attempt to reduce the cost associated with getting involved), so their will be a market failure. However, that does not take away the point that there is a negative externality associated with consuming fatty food, which is what we are correcting.

>Now, I think both Kimble and Nigel have a point when they say that someone
>that eats junk and goes for a run will create a lower social cost then someone
>that just eats rubbish.

There is no social cost created at all if the fat burned by exercise cancels out the fat gained from eating. Social costs come from people consuming more fat than they burn off. And the correct way to measure that is based on how much fat people are carrying around, not how much they consume.

Smoking is a shocking bad analogy for the reason Kimble gave. Drinking is closer, but the reason to tax all alcohol is that there’s no way to measure excessive drinking. With fat, there is. It’s the body mass index.

If the BMI gave you all the information you needed then I would agree in principal, but I’m not sure that it does. Don’t people have different optimal BMI readings? As it would be relatively labour intensive to work out an optimal scheme of funds based on the difference between someones BMI and their own optimal BMI level I’m not sure it would be practical.

Even if we did have a flat BMI measure, which would miss out on this difference, the compliance and administration costs from this form of tax would be much greater than a tax on twinkies :)

You bring up a very valid point though Nigel in as far as we need to be careful to punish the activity that is creating the externality, on that point I completely agree with you. Furthermore you are completely right that a linear tax would not be efficient, as the cost does not rise linearly in the consumption of the product (the same argument can be used for tobacco and alcohol taxes of course). However, such a tax would still be an improvement on the current system as it shifts a greater proportion of the health care bill for obesity onto those who ‘create’ the externality.

Ultimately, it would be easier if we had more of a user pays streak in health, specifically for things that are somewhat self-inflicted. However, the tax will do as a second best instrument for me for now ;)

Anyone else surprised that the macro guy insists on using a mallet to crack open a peanut? :)

Using income taxes to fund health care is far more blunt than taxing unhealthy food subject to some type of objective scale. The health externality from obesity was $303m in 2003, while the total externality from alcohol was $580m in 2002. As long as we can justify a tax on alcohol and other goods that produce externalities, I can’t see why we shouldn’t tax food types that create negative externalities.

I’ve never been called a macro guy before, I’m not sure how to take it, I’ll try not to cry ;)

I don’t think your reasoning is entirely consistent Matt. If obesity-related health issues are a genetic (endowment) issue, we should be taxing the whole population to pay for it. If obesity is a self-control issue, we should be charging extra for the health services consumed (or at least an extra insurance premium). Sure it’s an extra distortion but only one that arises from a health system that cannot discriminate for individual risk factors in charging in the first place.

We can make a distinction for cigarettes because consumers of cigarettes have no way of knowing whether cigarettes will prove detrimental to their health (specifically), so we pool the risk of smoking over the smoking population. Whereas consumers of food should have an excellent idea of the likely impact on their health.

In this case, I think we be introducing a large distortion for the majority of non-obese food consumers and a less than optimal distortion for a minority of food consumers. I don’t think that would be welfare-enhancing overall.

I would be careful of quantifying the health externality unless you can apportion that between genetic and “voluntary” obesity. Plus I’ve heard that the links between body-weight and health are not particularly robust in empirical studies, nor is there the link between junk food consumption and obesity iron-clad.

Existing taxes on alcohol and tobacco reflect inelasticity of demand and moral issues, so what we do currently isn’t always an appropriate guideline to what we should do.

Very good points, I’ll just try to list down how I would attempt to answer them:

“If obesity-related health issues are a genetic (endowment) issue, we should be taxing the whole population to pay for it. If obesity is a self-control issue, we should be charging extra for the health services consumed”

Yes, definitely, that is the exact normative judgment I’m aiming for. However, at the health level you can’t easily distinguish between those who naturally suffer from obesity and those who choose to be obese. By taking consumption of unhealthy foods you are specifically targeting the means that people use to become obese, thereby extracting the tax from the correct group.

“We can make a distinction for cigarettes because consumers of cigarettes have no way of knowing whether cigarettes will prove detrimental to their health (specifically), so we pool the risk of smoking over the smoking population. Whereas consumers of food should have an excellent idea of the likely impact on their health.”

I disagree, I think that people have equal information about how cigarettes and food will negatively impact on their health.

“In this case, I think we be introducing a large distortion for the majority of non-obese food consumers and a less than optimal distortion for a minority of food consumers.”

The tax would slightly increase the cost of these goods and would allow us to offer a slight income tax cut (as the new tax money can be used to fund the obesity related part of health care). As a result, we have to weight up the efficiency losses and gains from this change in tax structure – gains (lower dwl of income tax, increased efficiency for those who eat to the point that it costs society) vs losses (the loss of surplus from those who do not over-eat).

Now if we believe the loss is greater, then surely we also have an issue with other taxes where there is some ‘tipping point’ where the good becomes evil, eg alcohol and tobacco. Those that do not drink much are made worse off by a tax on alcohol, but we don’t term an alcohol tax inefficient because of it. Our problem here is the externality is exponential in an individuals consumption, but our tax is linear.

“I would be careful of quantifying the health externality unless you can apportion that between genetic and “voluntary” obesity. Plus I’ve heard that the links between body-weight and health are not particularly robust in empirical studies, nor is there the link between junk food consumption and obesity iron-clad.”

I completely agree with all those points, they are issues you would have to take into account when forming any sort of scheme. Focusing on the body-weight to health thing, it is true that they are not necessarily strongly related, the relationship probably has more to do with consumption to health. The more rubbish that you consume, the more unhealthy you will be, ceteris paribus. This seems like a reason to introduce the tax.

“Existing taxes on alcohol and tobacco reflect inelasticity of demand and moral issues, so what we do currently isn’t always an appropriate guideline to what we should do.”

Well, the demand for unhealthy food is inelastic, and judging by current government policy it is seen as immoral (damn them!). As an economist all you can ask is whether there is an externality, if so how can we solve it, given that people are heterogeneous and our tools are linear. If I accept that alcohol and cigarette taxes are right, then I can buy the case for unhealthy food taxes (the type Oxford University and WHO support, not a random tax on things the government feels like taxing).

Obesity isn’t the only health cost of a high sugar, high fat diet: there are also costs from tooth decay, high cholesterol and probably others that I’m not aware of. So we want to tax the ‘root’ of the problem? Well, the root of the problem is that we’ve evolved to enjoy sugary, fatty foods because they are high in calories. In a modern society where there is no shortage of those foods we now tend to over-consume them relative to a healthy diet. Evidently there are a multitude of health costs that arise from this, now obsolete, evolutionary adaptation. We know the cause, we can see the costs, why do we need more before we tax such foods to discourage overconsumption? I’m going to dub this an intertemporal evolutionary externality :)

As for the exercise thing: if people don’t over-consume unhealthy foods then we don’t need to worry about whether they’re exercising enough to burn off the extra calories. If they’re not going to exercise otherwise then they’ll have more time to be hard working, productive members of society ;)

Just on this point Matt: “I think that people have equal information about how cigarettes and food will negatively impact on their health.” – I see a big difference. No one can work out how much their risk of cancer increases with another packet of cigarettes, but everyone has a fairly good idea of how their diet influences their weight.

If we are going to analogize to alcohol, which is similar in terms of the troublemakers being easy to identify in the larger population, I would go the other way and say we probably tax the basic product too much. It would be more efficient to impose larger penalties on the crimes committed under the influence (although perhaps alcohol is slightly different in that we can’t assume rational behaviour to begin with).

I’m certainly not denying that the basic principle of taxing externalities could be applicable to junk food. But my model of society here is basically a small group of people who consume no junk food, a large group who consume in moderation and create no externality, and a small group that consumes in excess leading to health problems. The Junk food tax gets you more efficiency for the final group but you’re losing efficiency by having a less diverse tax base and hence higher tax rates, and creating a dead-weight loss in the group that consumes junk food with no externality. So in practical terms I think this is a bad idea, and I’ll stress again that the links between junk food and weight gain, and weight gain and poor health, are not nearly as strong as commonly believed.

On practicality grounds I’d make another objection – implementing a junk food tax would be difficult, and over-eating is probably the larger problem. You’d really need a blanket tax on food, but that would be awfully regressive.

Again, from a wider view point does it makes sense to try and stick an externality tax on any kind of behavior that leads to public health costs, or just to implement a health insurance system that can discriminate on risk in the first place?

“I’m going to dub this an intertemporal evolutionary externality :)”

Thats a hot term :)

CPW, if you believe that a tax on alcohol is inappropriate, then it makes sense that you may think such a tax on junk food is inappropriate. I agree that the link between junk-weight-health is not clear, however the link from junk-health is a bit clearer, as rauparaha said, the obesity externality on health is only one of the externalities associated with this sort of food.

In the UK researchers classified the types of goods that would be taxed based on some GE modelling and a ‘SSCg3d’ index. Foods that received a score on this index that were sufficiently low could be taxed and it would lead to a net improvement in the economy. Foods that fall into this category are the type I’m talking about when I talk about junk, and so a tax seems as appropriate as a tax on alcohol and tobacco (although I still think petrol taxes are more appropriate :) )

Ultimately, there are two potential issues I could have with this tax:

1) What happens if the science is wrong
2) The compliance and administration costs might be too high.

The answer to 1 is a so what answer, we are making policies that are optimal ex-ante, if they don’t happen to be ex-post that is unfortunate. Lets hope the science is good.

The answer to 2 is that we should do a costing, if the cost of implementing it is better than the efficiency gains we shouldn’t do it. However, that does not mean that there is not merit in the policy.

[…] Yes. However, people in society may not understand the full cost associated with a given policy. If economists can frame an issue in general externality associated terms, and then do a cost-benefit analysis, we can derive whether a policy is worth-while. The fact that some externalities may not be efficient does not mean we are wrong to ask about them (eg fat tax) […]

If we do get this “fat-tax” specifically what would be taxed? who would be taxed? and where would the money go, other than the “fat cats” in government?

“If we do get this “fat-tax” specifically what would be taxed?”

That is something that would have to be sorted out – which is why the SSCg3d index is measured.

“and where would the money go, other than the “fat cats” in government?”

The money should be used to provide the relevant health care services – as a result it should lead to a corresponding reduction in, say, income taxes.

i believe that there would be more benefits from taxing the source rather than the consumer. Make the cola companies cut down on production and the fast food joints stop the production of new restaurants and tear down a few of the ones that are in place already. Like we need two of the same burger spots on the same block. Why tax the poor to help the rich get richer, when taxing the rich would be easier?

“i believe that there would be more benefits from taxing the source rather than the consumer. Make the cola companies cut down on production and the fast food joints stop the production of new restaurants and tear down a few of the ones that are in place already. Like we need two of the same burger spots on the same block. Why tax the poor to help the rich get richer, when taxing the rich would be easier?”

It doesn’t matter which side you tax – the cost of the tax will fall on the same people. It depends on the incidence of tax:

http://en.wikipedia.org/wiki/Tax_incidence

The reason we want to charge a tax on consumption is because the externality itself is on consumption – so it is easier and more transparent to implement.

[…] (Fat tax), (cut GST on fruit/veg), (overestimation), (bridge too […]

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