Raising tobacco tax may deter smoking but it's not as simple as that. Mark Crail reports on a Budget dilemma

By raising the duty on tobacco products, the chancellor enters a golden area of tax policy: one which allows him to fill the Treasury's coffers while claiming credit for lessening ill-health and penalising an unpopular industry.

But just how much does an above-inflation increase in tobacco duties serve to dissuade smokers from their habit, and at what point do swingeing tax rises deter people so much that revenues start to fall?

According to the Tobacco Manufacturers Association, about pounds10bn of the pounds12bn spent on tobacco products each year is sliced off the industry's income by the Treasury: it is a sum equivalent to 6p on the basic rate of income tax.

At pre-Budget prices, that means that, for most popular brands of cigarette, the Treasury takes pounds2.80 on every pounds3.36 packet of 20 sold over the counter.

Action on Smoking and Health, which wants to see the price rise to pounds5 a pack within five years, says that at low rates of increase in the price of tobacco, the effect on consumption is relatively small: that is to say, demand is inelastic.

It argues that a 24p increase this week would prevent 2,700 premature deaths a year in the long run, but would also increase revenues by pounds500m.

In other words, though consumption would fall, it would do so at a lower rate than the increase in price. And one thing on which the anti-smoking lobby and the tobacco industry are agreed is that this hits poorer households hardest.

In its pre-Budget submission, ASH says it is increasingly concerned that tobacco taxes are 'creating additional health inequalities'. It points out that pounds1,200 a year spent on smoking 20 cigarettes a day amounts to 'a very substantial part of the budget of a low-income family'.

ASH argues for a major anti-smoking programme aimed specifically at those on low incomes to 'mitigate the ethical difficulties of raising the price of an addictive product' and to offset the regressive effects of tobacco taxation.

Demand for cigarettes is not affected by tobacco taxes alone.

A report on alcohol taxes by the Institute for Fiscal Studies in 1990 looked at the effect of tax rises affecting beer, wine, spirits and tobacco, and concluded that raising the price of one could even increase the consumption of others. The IFS calculated that a 10 per cent increase in the price of wine would lead to a fall in wine consumption of 14 per cent and a fall in spirits consumption of 4 per cent, but would actually lead to a small rise in the amount of beer drunk.

And it showed that a 10 per cent rise in the price of tobacco would mean a small drop in the amount of beer and spirits drunk, but an increase - albeit tiny - in the amount of wine consumed.

A further risk is that smokers will turn to other sources of supply. The black market in alcohol and rolling tobacco imported from lower-taxed countries is already thriving.

So while the chancellor can win plaudits for raising the tax on cigarettes, he also risks widening inequalities in wealth and health; and by tinkering with other tax rates, could inadvertently encourage people to smoke more.