24 Feb 2016

The sugary sweet demand for soft drinks

Isabel writes*

What do cardiovascular disease, cancer and respiratory disease have in common? In addition to them accounting for most non-communicable disease related death globally, they share a common major risk factor: obesity. Obesity is caused by an energy imbalance in which more energy is consumed than burned. Globally people are physically inactive, and consume highly processed foods containing lots of fat and sugar. A major contributor to this are sugary, artificially sweetened drinks. In the US only, half of the population consumes these drinks daily, ranging from daily intake of 250-600 calories. For US teens soft drinks make up over 11% of their diets, making them the top calorie source for them. Consequently, I believe if we want to fight this obesity epidemic, a major cutback in soda drinking has to become a priority in government policy globally. Elasticity of demand for these drinks can be a useful tool to judge upon the possible approaches that can be taken towards reducing the consumption of sugary beverages. A recent study on the elasticity of major food groups has concluded the mean elasticity of demand for soft drinks to be 0.79. This makes soda an inelastic good, and its demand is thus not much affected by price changes. Hence, if a 1% tax would be implemented on soft drinks, a 0.79% decrease in the demand of the good could be expected. As the mean taxation rate is at 3.549% across the US, a 2.8 % reduction in the demand of soft drinks can on average be expected. Although I believe little decrease in demand is better than no reduction at all, tax rates are too low to have a significant effect on the demand of soft drinks.

Therefore, Mexico should be taken as an example. The Mexican government has implemented a 10% tax on soft drinks in 2014, and as a result sales declined almost 12%. This number was as high as 17% among low-income families. It appears that if the tax is of a sufficient magnitude, and assuming the elasticity of demand for sugary drinks is indeed somewhere near 0.79, taxation of these beverages can be an effective tool to lower the consumption of them. As to the US, a 10% tax rate on sodas can lead to a 7.9% decrease in the demand of the good. Consequently this could be the start of restoring energy imbalances, and obesity rates can be reduced among both teens and adults.

Bottom Line The elasticity of demand for soft drinks in the US tells us that the product is not very response to price changes. However, the average soda tax across the US is only 3.55%, which is too low to have a substantial impact. Therefore, taking Mexico as an example, increasing the tax rate to at least 10% would be an effective way of lowering the consumption of artificially sweetened beverages. This in turn could possibly serve as a mean to lower obesity rates among both teens and adults.

* Please comment on these posts from my microeconomics students, to help them with unclear analysis, other perspectives, data sources, etc.


M De Zeeuw said...

You raise some interesting points in your blog post.

In your blog post you argue that the elasticity of demand of soft drinks is 0.79, which indeed is inelastic. My worry is that at the lower part of the demand line this elasticity is even more inelastic. This would mean that the consumers reaction to the change of price would be even less then expected. Especially for the US and other Western nations were the mean incomes of households is much higher then the mean Mexican income of households. This might signify that the estimations of how successful the tax might be an overestimation.

Furthermore, we must not forget the enormous amount capital spend on advertising soft drinks and junk food. Therefore a large campaign to reduce the total consumption of soft drinks would also need to spend capital on advertising. This alone might raise some worries in Parliaments debating the issue. This is without even mentioning the huge amount of capital spend on lobbying against a soft drink tax.

However, as you stated, obesity is a big problem at the moment. One thing that you did not mention was the economic cost of obesity. This would mean that more money has to be spend on healthcare and automatically health insurance for all would go up as more and more people have to be treated for problems that have to do with obesity.

Therefore the only thing that would really work, would be a large tax ( maybe 10 to 20%) of the normal product price. This tax would have to be visible for consumers, not gulped away by the producers making the products as well as needing large capital sums to raise public awareness of the dangers of soft drinks (maybe even limiting the amount of soft drink advertisements that is allowed on media).

NM said...

I would like Isobel to think about other forms of addressing the sugar externality. How about:

1. taxing raw sugar at source. There are fewer sugar producers, so administration of that part would be easier. It may require some border taxation regimes, which is expensive assessing the deemed sugar content of imports. It addresses a wider range of calorie sources, so could be more effective. It likely addresses a range of products with different elasticities, so may get more bang per tax buck;

2. taxing sugar producers, or soft drink producers, on the basis of health costs of obesity i.e. the cost to society which concerns us. Then there would be an incentive on the producers to encourage healthier living while still drinking fizzy drinks, or more efficient treatment of obesity related diseases, rather than just a restriction on the quantity of one food. Taxing one food provides an incentive to producers to invent, or market, non-taxed substitutes such as fruit juices, or lobby for some types of fizzy drinks to be exempt, like sports drinks.

However, fizzy drinks have been sufficiently demonised recently in the media that a tax on them may be politically feasible, whereas a general sugar tax may not.

D Metz said...

I like your post, but there are 2 points I would like to raise.

First of all, an elasticity of 0.79 means that when the price increases with 1%, the demand drops with 0.79%. A 1% tax increase does however not equal a price increase of 1%, because not all of the tax will be passed on to the consumer. The producer will pay part of the tax as well, which means that the price will increase with less than 1% and thus the demand will drop with less than 0.79%, which starts to beg the question to what extent taxation is the best approach to decrease demand for an inelastic good like this. Perhaps it would be better to try and increase the elasticity, for example by investing in better substitutes and/or informing people better about the risks of soft drinks.

But secondly, I am unsure to what extent the government should want to decrease demand for goods like these. People generally seem to know that soft drinks are unhealthy, but still choose to consume them because for them the benefits outweigh the costs. That means that it is better for them to have soft drinks than not to have them. Should the government really artificially change this utility calculation? People seem to do things that might harm them all the time, such as climbing mountains or not exercising, should the government always intervene in these kinds of decisions? It seems like it makes people happy.

Post a Comment

Note: only a member of this blog may post a comment.