Second Order Effects Premise of Article:
The City Counsel of Philadelphia just doesn’t seem understand second order effects or think that people are smart enough to do math. This article is designed to show that economic and tax policy second order effects are easy to predict and avoid if one simply applies basic economic principles.
Facts:
- On January 1, 2017, Philadelphia’s beverage tax went into effect.
- The tax is 1.5 cents per ounce of drink.
- The tax has doubled the price of some drinks.
- The City Counsel placed the tax on items at the distribution level.
- Many of the retailers are passing the costs directly to consumers and are displaying the cost increase due to the tax.
What the City Counsel wanted to do:
The City Counsel had a couple of opposing goals:
- To reduce consumption of sugary drinks because of the effects that they have on Obesity;
- Raise $90 Million to pay for prekindergarten community schools and recreation centers. ($7.5 Million Per Month)
The City Counsel apparently hope that the wholesalers and retailers would eat the cost of the tax, by placing the tax at the distribution level. The Mayor stated that retailers “don’t have to pass the costs to consumers because the tax is not a sales tax”.
Predictable Second Order Effect:
- If the cost to produce or deliver a product goes up, the price of the product will go up. Econ 101.
- If the price of product or commodity goes up, the demand will go down. Econ 101 supply and demand.
One can see these predictions from the beverage bottling businessman Harold Honickman saying the tax would mean sales will go down and jobs will be lost. Some predictions are less obvious like: “If this tax is passed, Philadelphia would create the worst black market for nonalcoholic beverages since prohibition, which was back in the 1920s and 30s. Let’s not go back in history,” said Chris Hunter, an employee of Coca-Cola. We are not sure one is going to create Coca-Cola speakeasy’s, but one can predict other behavior changes. Individuals that drink a lot of soft drinks and live near the edge of town will likely change their shopping habits and go out of town for all of the grocery needs. People develop habits and will not think to shop in the city after awhile. This will cause real issues for retailers that are near the Philly city limits. The number of individuals per-capita that will be willing to go out of town will become smaller as one looks closer to the center of town. Near the center of town, individuals will develop habits where they go out of town to purchase soda if they are addicted consumers. Others will change their habits and stop drinking sodas. One can easily predict the following:
- All of these actions will result in lower then predicted tax revenue from the soda tax and may effect other taxes as well
- Loss of retail businesses and jobs near the edges of Philadelphia — Loss of tax revenue
- Some retail stores near the city limits will not survive — The retail business doesn’t have much room for losses and this will cause some failures
- Loss of jobs at the distribution level in Philadelphia — Loss of other tax revenue
- It will be much harder to determine if this has any effect on obesity, it is likely that it will effect consumption of sodas from Philadelphia retailers.
Current Outcomes:
On February 22, Philly officials predicted that they would collect $2.3M in January. This is a far cry from the $7.5M that they need to average per month to meet the $90M goal that was set when they passed the law. On February 23 Philly officials announced that they had collected $5.7M from the tax. It is likely that they released the $2.3M projection so that the tax would look like a winner the next day, even though it missed the budgeted number by almost $2M per month, or a 30% short fall. It will be interesting to see how the tax receipts trend over the next few months.