When the finance minister, Enoch Godongwana, tried to raise the value-added tax rate by 2%, much of the focus was on the unconscionable idea that a government riddled with waste and corruption could lean even harder on even the poorest people to finance itself.

Raising excise taxes on tobacco products, however, has never faced much, or indeed any, opposition. Yet it has consequences, and they are not limited to lower consumption of legal cigarettes.

In the 2024 financial year, tax revenue on cigarettes fell by 8.4%.

South Africa had long had a policy of taxing cigarettes at a rate of 50% of the price of the most popular brand in the market. For their part, tobacco companies were free to raise cigarette prices to maintain profits despite declining consumption.

That began to change in the early 2010s, when domestic manufacturers took the opportunity to enter the market with budget-priced products that undercut the established industry.

These companies began to eat into the market, primarily through informal sector sellers and independent retailers who, unlike the major chains, did not have established relationships with the incumbent tobacco companies.

The incumbents responded to the price competition as one would expect by reducing the prices of their own products to keep them competitive.

This presented a dilemma for the South African Revenue Service (SARS), since the “sin tax” on tobacco products was tied to their price. The response was to begin raising the excise tax on tobacco products to at least keep up with inflation. As a result, the tax on cigarettes today is up to 65% of the pre-tax price of representative brands.

While SARS was keeping the price of cigarettes high, the domestic market, much of which was selling cigarettes at prices so low that they could not possibly have paid the required excise tax, continued to grow, to a peak market share of about 35% in 2017.

By the time the pandemic happened in 2020, SARS had had some success in curbing the illegal, non-tax-paying trade, which then represented 22% of the total market.

The pandemic response, however, which included an ill-conceived and unscientific ban on all tobacco products, turned over the apple cart. Within weeks, while the legal market was shut down, the illicit market took over.

According to a survey taken at the time, 90% of tobacco smokers continued to have access to cigarettes, albeit not their usual legal brands.

Once the ban was finally lifted, and legal cigarettes were again available, illicit tobacco accounted for about 75% of the market.

This demonstrated in dramatic fashion that prohibition rarely reduces demand by much and only serves to drive a business underground. Markets find a way to satisfy demand, no matter the hurdles placed in their way.

The harder it is to supply a market legally, the bigger the incentive becomes for both buyers and sellers to trade under the counter. And once consumers are introduced to the lower prices that can be achieved by evading excise tax, most never look back.

The legal market never recaptured its dominance. According to Johnny Moloto, head of corporate and regulatory affairs at South Africa’s largest tobacco company, BAT South Africa, illicit trade continues to account for about 70% of all cigarette sales in South Africa.

This, the company estimates, costs the country about R28 billion in lost tax revenue every year, or R100 million per day. Another estimate, published by Nicole Vellios and Corné van Walbeek in BMJ Open in 2024, said that the government lost R18 billion in excise and value-added tax to illicit cigarettes in 2022.

The government could employ 100 000 teachers, nurses or police officers for R28 billion. For that money, it could build 30 000 small prefabricated clinics or 20 large hospitals.

It is almost equal to the Department of Human Settlements’ entire budget for building houses and could cover its expected budget cuts for the next three years twice over.

The market will always provide. If the government makes it difficult or expensive for producers to supply demand legally, informal sector actors will emerge that bypass the red tape and taxation. That is how free markets work.

The government faces a choice sustain its tobacco tax revenue and maintain its taxation-based anti-smoking policies by investing heavily in on-site monitoring, tracking and tracing to suppress the illicit market.

The alternative is to give up, recognise that the illicit market has gone underground for good, and that it is unfair to burden the law-abiding companies now representing a minority share of the market with excise taxes that their commercial rivals do not pay.

Ivo Vegter writes in defence of free markets and individual liberty and is a Senior Associate of the Free Market Foundation (FMF).