Puff, the Magic Settlement.

• Author: Olson, Walter
• Position: Tobacco settlement between 46 states and major cigarette companies

The joy of enormous tobacco fees

By now millions of words have been spilled on the $206 billion tobacco settlement engineered in late 1998 between 46 states and the major cigarette companies. The deal, which followed settlements with four other states totaling $40 billion, has been called the biggest privately handled redistribution of wealth in world history. It has simultaneously served as a rich source of funds for new state spending programs and as a confirmation of the newly emerging role of entrepreneurial private litigators as a fourth branch of government.

At the same time, many of the tobacco settlement's most curious features have received little public recognition. This was perhaps understandable at the time of the announcement a year ago, when most outsiders still found the settlement's terms sketchy and confusing. Since then, however, a wealth of details has emerged about how the settlement was meant to work, and does work, in practice. These details deserve a close look, if only because it's likely that the "tobacco model" will be replicated in other cases where government eyes some line of business as a source of revenue.

Start, then, with a basic question: Are the payments required by the settlement really an assessment of damages for past misconduct, or are they a tax in disguise? (Cigarette prices jumped by 45 cents a pack almost as soon as the ink was dry on the agreement and have risen again since.) "There'll be adjustments each year based on inflation," an Idaho official told the Spokane Spokesman-Review, referring to the state's take. "If cigarette volume goes down, our payments will go down. If volume goes up, our payments will go up even more.

That sure doesn't sound like a damage settlement. Yet the attorneys general take pains not to call what's happening a tax increase, and they have good reasons to maintain this view, one being that they plainly lacked the authority to negotiate an extra-legislative infliction of new taxes on their states' populations. So it's worth looking more closely into the question.

By its nature, a damage settlement for past misconduct could apply only to companies that did business in the past. A startup tobacco company, or a foreign maker tackling the U.S. market for the first time, couldn't be made to pay based on the failure of U.S. companies to warn of their products' dangers in 1965 or 1980. Likewise, in a damage settlement, a company that was tiny in years past but has lately expanded could be made to pay based only on its old sales, not on any new market success it might enjoy.

But in fact the settlement contains a series of provisions designed to make sure that companies chip in proportionally to their new, and...