Market Structure and Market Failures in Sri Lankan Tobacco Industry

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Table of Contents
1.0INTRODUCTION TO TOBACCO CURRENT MARKET IN SRI LANKA2
2.0SRI LANKAN TOBACCO MARKET STRUCTURE ANALYSIS3
2.1THE PRIVATE AND SOCIAL COSTS OF SMOKING5
2.1.1Private Costs and Social Costs of Smoking5
2.1.2Explaining the Market Failure5
3.0TAXATION AND REGULATIONS7
3.1COMMAND AND CONTROL OF THE INDUSTRY7
3.2INDIRECT TAXES AND PRICE ELASTICITY OF DEMAND9
4.0PROBLEMS AND FUTURE FORECAST10
4.1PROBLEMS10
4.2FUTURE FORECAST11
5.0RECOMMENDATIONS12
REFERENCES14

1.0Introduction to Tobacco Current Market in Sri Lanka

Farming: The number of registered tobacco growers rose during the 1980s and most of the 1990s, but fell sharply in 1998 and 1999. It is estimated that tobacco growing provides between 5,355 and 16,580 full-time equivalent jobs (the range depends on the labor requirements per hectare), which is just a fraction of one percent of the total labor force (0.08-0.25%).

Employment in tobacco manufacturing has fallen since 1990, from 6-7% of all manufacturing employment to 4-5% (the lower number refers to employment, the higher number also includes others engaged in the sector). Production volumes were fairly steady averaging around 5.2 billion sticks between 1995 and 1999, with a marked fall to 4.6 billion in 2000. An estimated approximately 3 billion bidis are produced annually as well. There is no information on illegal production of so-called "white cigarettes”. Average salaries and wages in the tobacco industry are about half the level for all manufacturing, and have fallen slightly in real terms during the 1990s. Manufacturing sector indirect tobacco employment is estimated to be small, of the order of 150 people. There are about 41,000 retailers that sell tobacco products, which typically account for only a small part of their total turnover. The Sri Lankan tobacco industry is dominated by the Ceylon Tobacco Company (CTC). The holding company of CTC is the British American Tobacco Company (BAT). BAT is the second largest tobacco company in the world. That is more or less a monopolistic situation in the island by the CTC.

CTC contributed Rs.31.9 billion to the national economy of Sri Lanka in 2005. The increase of 14% over 2004 is mainly attributed to the increased excise rates on cigarettes and raids carried out by law enforcement authorities to minimize the presence of smuggled and illicit cigarettes in the market. The Company’s contribution totals 9.5% of the country’s total revenue and 1.49% of GDP. Sri Lanka continues to have the highest rate of taxation in the world on cigarettes at 80%. Export values of raw and manufactured tobacco have fallen, making Sri Lanka a net importer in tobacco trade, with a corresponding outflow of foreign exchange.

2.0Sri Lankan Tobacco Market Structure Analysis

Porter’s five forces model has been used to analyze the Sri Lankan tobacco market structure.

Potential entrances
High due to high economies of scale. CTC produces in large scale of cigarettes where unit cost per stick has dramatically reduced. So new entrance cannot afford to offer this low price as CTC. •High product differentiation due to product branding. CTC offers various world class products such as Dunhill, John Player Gold Leaf and Benson & Hedges. •Legal & regularity government barriers. Banning of smoking in public places such as pubs, restaurants, public transports and all enclosed work places. Banned advertisement on television, radio, news papers and bill boards. High tax imposed by government that is more than 80% per stick. Furthermore the government policies such as “Mahinda Chinthanaya” are enforced to reduce the consumption of cigarettes.

Bargaining power of buyers
Bargaining power buyers are more less reason being because it is a habitual product and more addictive. •On the other hand consumers show high brand loyalty. For example Gold Leaf smokers would consume same brand only. •Although the increase in taxes was...
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