Thinking about alcohol policy

I've taken a bit of flak for what are claimed to be my illiberal, paternalistic views on drugs policy. Last October I presented a paper to the Australian Professional Society on Alcohol and Other Drugs Annual Conference in Cairns. This provides what I think is a fairly liberal position that pretty much reflects my views. Comments are very welcome.

Abstract: A liberal economic perspective for thinking about alcohol policy is provided. This is based on ideas of market failure rather than on paternalistic public health approaches of minimizing the gross costs of alcohol consumption. Apart from avoiding paternalism, the liberal approach helps to design effective alcohol regulatory policies. It emphases information, self-control and externality motivations for policy. Proposals to levy taxes in this setting, based on alcohol content rather than value, face limitations when there are possibilities to substitute other intoxicants. There are also equity issues that reflect the fact that it may be poor people with alcohol dependencies and inelastic demands who purchase low-value, high-alcohol content beverages.

Introduction

This paper examines the policy case for intervening in alcoholic drink markets. It also analyses the form that interventions should take. The perspective rejects paternalistic wowserism which opposes drinking alcohol because of its claimed high gross costs. To the contrary, the liberal approach adopted supposes that alcohol yields consumption benefits in terms of its taste and effects, as well as costs, and that society’s objective is to maximize the difference between all benefits and all costs. Consuming alcohol is, for the most part, assumed to be a social, recreational activity - one way of dealing with the pressures of the day and of enhancing the enjoyment of life. The presumption is that, for most people, using alcohol is an informed, rational individual choice. In most cases this choice has relatively harmless implications for the consumer but, even if substantial harm is caused, that is not in itself taken as a necessary indication that use of alcohol should be restricted. The presumption is that individuals are generally the best judges of their own welfares. Thus, provided the potential for harm is recognized by users, and costs of such harms are borne by consumers themselves and assessed rationally by comparing benefits obtained to costs at the margin, restrictions are redundant. In short, the analysis starts from the presumption that alcohol consumption provides net benefits to most adults who drink based on informed individual choices.

Moreover, alcohol is a drug that, for most adults, is both legal to consume and socially accepted. It is also consumed by a significant proportion of the population in diverse settings.

The analysis recognizes that the consumption of alcohol has important costs, particularly when consumed at high levels or when consumed in a risky way. Alcohol consumption has seriously harmful physical and mental health effects, can lead to anti-social and even dangerous behavior such as drink-driving and violence, particularly within the family unit. These costs become important to an economic liberal if they are not borne by the individual alcohol consumer.

There are numerous government policies devised to regulate and restrict the terms under which alcohol is purchased and consumed. This paper provides a framework where such restrictions can be assessed in a consistent setting.

Medical and Non-Economic Approaches to Policy

Much of the community’s focus on alcohol consumption looks at the adverse health and neuro-psychiatric consequences of drinking alcohol. This is the gross ‘cost of illness’ approach to estimating the costs of alcohol consumption: see Godfrey (2004). There is concern with the health costs of excessive drinking either when this occurs on a regular basis or episodically and with alcoholic dependence. There is also concern with social problems associated with drinking, in the workplace and in the home, with violent crime and intentional cause of injuries associated with drinking and with drinking on inappropriate occasions such as immediately prior to driving a vehicle. Particular interest is directed at drinking among youth: see e.g. RACP (2005), WHO (2004).

This work is valuable in articulating health cost implications of alcohol consumption and is often used to support a dramatic headline that points to the costly consequences of drinking alcohol. But this recognition does not help much in designing policy. To what extent should alcohol consumption be restricted? What are the costs, in terms of foregone benefits, of restricting consumption?

That drinking alcohol is risky behavior does not in itself suggest much about the desirability of drinking or the extent to which it should be restricted. This involves assessing the costs and benefits of alcohol consumption and making an evaluation of the case for restrictions based on these. The question is how to value the costs and benefits. Economics does this by assigning monetary values to the costs and benefits individual consumers experience through alcohol consumption as well as any costs and benefits that spillover to society as externalities because of this consumption. Policy analysis then seeks regulations and interventions which maximizes the difference between social benefits and costs.

Free market exchange by rational private consumers will maximize this difference between social benefits and costs if there are no external costs or benefits. Rational individuals then choose to consume whatever maximizes their welfare and advance society’s welfare. If there is a net external cost, however, free market exchange will not achieve this maximization since rational individuals, in making their consumption decisions, consider only the private costs they face. A restriction to reduce consumption to the point where net social benefits are maximized then makes sense provided the cost of the policy restriction is less that the net benefits lost by not employing it. This establishes a case for policy activism with respect to alcohol consumption. Moreover, looking at things in this way provides a conceptual and quantitative guide to the desired extent of the restriction.

From a liberal perspective, if consumers are aware of risks and costs of activities (whether they are drinking alcohol, smoking cigarettes, driving a car or bungy-jumping) there is no a priori case for restricting an activity unless there are net external costs. Simply identifying that costs and risks are associated with the consumption of alcohol does not suggest anything about the case for restrictions if one assumes that individuals are best equipped to make the choices which drive their welfare. Focusing on gross costs suggests only extreme, prohibitive policies.

One can reject the hypothesis that people make their consumption choices rationally on the basis of good information. Indeed some people may be viewed as having self-control problems in relation to alcohol consumption and may fail to identify harmful consequences of consumption. In part these are arguments for providing people with better decision-making skills and with access to better information.

Use of economics can help with policy design. Simply to recognize that consumption of a substance causes social harms does not in itself suggest efficient ways of addressing or reducing such harms.

Rationale for Intervention

There are three main market imperfections that create a case for restricting alcohol consumption. A fourth motivation for policy, paternalism, is a real-politic reason.

1. Information. Efficiency in market exchange requires that the purchaser of a product understands fully the characteristics of that product. With respect to alcohol an issue is whether consumers understand that ethyl alcohol is a neurotoxin - it destroys brain cells – with, in fact, very few health benefits, see Fillmore et al. (2006). It is also unclear whether consumers understand the genetic basis for alcohol self-control problems.

The information difficulties are compounded by advertising and promotion of alcohol which links consumption to sporting and social prowess. There is strong evidence that such advertising has strong effects on consumption, particularly for youth (Saffer and Dave (2003)).

Finally, there might be particular age, ethnic or socio-economic groups in the community that have poorer information than other groups.

The failure to provide good information about the negative consequences of drinking alcohol is a market failure since information is a public good. Markets will develop to promote alcohol consumption since this benefits particular industry groups but there are no such private incentives to provide information that presents the negative consequences of consumption.

On the other hand there is some evidence that some young people overestimate some risks associated with alcohol consumption – particularly the risks of becoming alcoholic. This overestimation leads to less drinking than would occur were the risks accurately perceived: See Lundborg and Lindgren (2002). The same result has been observed with respect to smoking – smokers tend to overestimate the adverse health consequences of smoking: See Viscusi (2002). To the extent this is true public information campaigns that seek to encourage accurate perceptions of health costs should be oriented towards calming people’s fears of the consequences of drinking rather than attempting to heighten their awareness of health risks.

2. Self-control issues. Alcohol consumption can be addictive and people may have problems curtailing their consumption. There are high levels of alcoholism in the community and evidence that people take efforts and expend resources trying to control their alcohol consumption.

Self-control problems can be triggered or initiated by impulsive behavior and those who do have persistent problems controlling their alcohol consumption may have demands reignited by advertising and other cues.

There are particular issues of self-control among young drinkers who have high impulsiveness and those who have particular genetic predispositions to smoke.

3. Externalities. Alcohol consumption creates private costs for individuals and more general social costs for those close to alcohol consumers and the broader community. Drink driving is a serious cause of traffic accidents (a good discussion is Phelps (1997, chapter 15)) and violent behavior by those intoxicated is a serious issue in the broader community.

Other alcohol-linked externalities include fetal alcohol syndrome and generally the damages caused by a drinker to family members. In some situations economists ignore intra-family costs on the basis that family units are regarded as making consumption decisions. This is clearly not the case with most alcohol consumption so family costs should be regarded as a third-party impact.

In addition, in countries like Australia with a publicly-funded national health scheme the medical costs of alcohol consumption are nor borne only privately by the individual. Above-average medical costs will be met partly from the public purse. For this reason alone there can be a public interest in restricting use of alcohol.

4. Paternalism. Finally, although it does not at all fit into the liberal, ‘market failure’ category of reasons for intervention in alcoholic beverage markets, it must be admitted that there are strong moral and emotional arguments against excessive alcohol consumption. Some would oppose certain levels of alcohol consumption even if well-informed consumers, without self-control problems, did bear all the costs of their consumption.

This could result in alcohol taxes being set above their externality-correcting levels to reduce alcohol consumption. It could also motivate public health campaigns to be launched to decrease alcohol consumption not because external costs are being generated but simply because reduced alcohol consumption is a social objective.

For policy design purposes such arguments do not help. They do not take one far in considering a rationale for policy. On the basis of paternalism, alcohol consumption is opposed because one group in the community – doctors, scientists, religious leaders - assesses it to be undesirable. On the other hand considering paternalism might be a useful descriptive way of understanding some actual government regulatory policies – perhaps inefficient policies - that do operate.

Policy Interventions

Given the ‘market-failure’ reasons for seeking to restrict alcohol consumption what are the policy options for regulating alcohol use?

1. Information-related policies. The public sector may need to intervene to provide accurate information about the negative consequences of consuming alcohol and to restrict advertising that emphasizes inaccurately optimistic positive consequences of consumption.

The negative consequences of alcohol consumption include information on self-control issues and on genetic information that might suggest possible future problems.

A difficulty here is that there might be disagreement about the health consequences of consuming alcohol. The debate over the possible health benefits of consuming alcohol in reducing heart disease is a case in point: see Fillmore (2006a). Apart from providing accurate information on health consequences there is also then a case for investing in the provision of improved knowledge on the health consequences of consumption.

In addition, as already mentioned, the case for warning people of the health risks of alcohol consumption is weakened if people already exaggerate the risks. If particular at risk groups or particular health concerns arise then these should be targeted rather than general alcohol health warnings given.

2. Self-control policies. Policies for improving self-control include helping to demonstrate that alcoholism can be a consequence of recurrent drinking. There can also be provision of means for individuals to improve their self-control by promoting such things as personal rules or heuristics that consumers can use to control their drinking behavior. In particular, since problems with alcohol consumption primarily stem from excessive consumption, personal rules relating to the number of ‘standard drinks’ one consumes per week, numbers of alcohol-free days that should be pursued per week or, in some cases, the pursuit of total abstinence can be useful. These are primarily information policy issues.

Self-control can also be improved by restricting the availability of alcohol in various ways – by limiting the availability of alcohol outlets, by restricting trading hours and by limiting the promotion of advertising that might trigger cues to drink. Such policies also increase the non-price user costs of consuming alcohol.

For particular age groups who are prone to excessive alcohol consumption there can be a case for outright bans on consumption. Minimum age laws or restriction of the availability of alcohol to people with particular ethnicities such as Australian aborigines in particular locations are candidate policies.

With respect to drink-driving issues the installation of ignition interlock devices can be understood as a technique improving the judgment and self-control of drinkers in their ability to safely drive after consuming alcohol.

Finally, those with self-control problems should be made aware of the existence of treatment options and of self-help groups such as Alcoholics Anonymous.

3. Externality policies. Economists focus on externalities as a primary source of social costs in relation to substance abuse. The most standard economic prescription is to levy a tax which internalizes these external costs.

Externalities such as drink-driving induced accidents cannot be dealt with by a simple tax directed toward alcohol consumption since the externality here stems from the combined activities of drinking and driving. Moreover, we know that the probability of an accident, given a certain level of alcohol consumption, increases with age: see Phelps (1997, p. 516). Inevitably highway patrols and booze buses are used to detect drink driving with alcohol-involved driving being penalized by fines and penalties rather than taxes on alcohol consumption.

It is only if alcohol-related externalities are related to the overall level of a population’s alcohol consumption (the ‘populational health’ view, see Young (1998, p.115) that simple uniform tax policies make sense. The theory is described in the graph below.



Here the market demand for alcohol q is illustrated along with the private marginal costs of consuming different amounts of alcohol. The demand curve measures the marginal benefits from alcohol consumption for all alcohol consumers. The private marginal cost curve c(q) includes the internalized private health costs, the costs of traffic accidents borne by the drinker, the alcohol purchase costs and so on. The social marginal costs of consumption are also illustrated. These comprise both the private marginal costs borne by consumers and the external social costs generated including the health costs borne by other people, the traffic accident costs born by others and the cost (in dollar terms) of violence and anti-social behavior to others. With a free market operating consumers will consume to the point where their private marginal benefits equal their private marginal costs – they operate at q2 and pay price p2 for their consumption. Because social costs exceed marginal benefits over the range q1 to q2 consumption this imposes net social costs or deadweight losses (DWLs) to the community from drinking equal to the dollar value of the area ABC.

The standard economic prescription in this situation to remove these costs is to levy a Pigovian tax t which raises the price of alcohol consumption to p1 and leaves alcohol consumption where marginal private benefits equal marginal social costs.

Determining the size of this tax depends on assessing the scale of the unpaid for social costs and how these are linked to consumption at the margin. It also depends on the elasticity of demand of consuming alcohol – the more responsive demand is to the tax the smaller the tax can be. Selvanathan et al. (2004) provide price elasticity estimates of -0.3, -0.4 and -1.3 for Australian beer, wine and spirit consumption respectively. For alcoholic beverages as a whole the estimated price elasticity is -0.6 suggesting that a 10% increase in price would cause a 6% reduction in consumption.

Clearly if the social costs are related to the alcohol content of drinks then it should be designed to reflect this fact – it should be a volumetric tax related to the alcohol content of particular types of alcoholic beverage and not an ad valorem excise levied on the value of the alcoholic products sold. Light beer in Australia is already taxed at a lower rate that full-alcohol-strength beer in accord with volumetric principles (Commonwealth of Australia (2005, chapter 5)).

The distinctive feature of this economic approach is that it does not focus on the gross costs of consumption, GC. Thus it does not focus on the total medical, road accident costs and so on that can be attributed to alcohol consumption. In the figure these would be represented as the area 0q2BE. Nor does it focus solely on the non-internalized net costs less benefits (NC) of alcohol use – the medical or road accident costs not borne by alcohol consumers less consumption benefits as given by the area ECB. Instead the economic approach recognizes that alcohol consumption yields benefits to consumers that are given by the area under the demand curve.

The approach seeks to enforce a tax-inclusive price and a level of alcohol consumption that maximizes the net social advantage here the value of the benefits consumers derive from alcohol consumption less all the costs consumers impose irrespective of whether they are internalized or not.

Conclusions and Final Remarks

The economic approach to the costs of alcohol use focuses on the external costs of consuming alcohol not gross costs. The approach recognizes that alcohol provides benefits to consumers and that those costs of consuming alcohol borne by consumers themselves are irrelevant from the viewpoint of society. The economic approach to alcohol policy is based on the utilitarian precept that alcohol consumers should bear the full costs of their consumption and, given this, that society should then maximize net social benefits from consumption.

The advantages of this approach are that it implies a clear guide to policy design. Information should be provided to consumers so they correctly assess the costs and benefits of alcohol consumption including the self-control problems that can develop with alcohol consumption. Self-control difficulties themselves can be addressed with appropriate policies for treating such difficulties and by adjusting measures of the benefits from alcohol consumption. With such adjustments alcohol pricing can force the price of alcohol towards its full social cost (Godrey (2004)).

Despite the strong theoretical reasons for adopting the economic approach it has, in fact, only rather seldom been applied. The main studies are for the United States (Manning et al. (1989), Pogue & Sgontz (1989), Heien & Pittman (1993)) and New Zealand (Barker (2002)). Anderson and Braumberg (2006, p. 68-69) in reviewing these studies comment on the difficulties of implementing them given the problems of defining what are external costs and particularly in recognizing the private component of health costs in a country with a public health system:

‘…externality studies …evidently omit any consideration of the broad range of costs borne by the individual drinker, and are more useful when conducted alongside rather than in place of more common social cost studies. This is particularly true given two contentious results of the assumptions in many externality studies – first, that any harm within the household (such as to the drinker’s partner, or children) is counted as a private cost; and second, that drinkers are both fully rational and fully informed of the risks when they decide to drink’.

This is a political criticism that rejects the liberal ethic underlying the economic approach. The claim that harm within the family needs to be included as a private cost is rejected in this paper as families don’t make drinking decisions, individual consumers do, so there is no reason to treat such costs as private. The second point suggests that a group of non-drinkers can better judge what a consumer wishes to consume than the consumer themselves. This might sometimes be so but clearly not always. To a liberal it is a questionable basis for public policy.

References

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F. Barker, ‘Consumption Externalities and the Role of Government: The Case of Alcohol’, Working Paper 02/25, 2002, New Zealand Treasury, http://www.treasury.govt.nz/workingpapers/2002/twp02-25.pdf

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