We examine how market structure and enforcement affect smuggling and welfare in a model where smuggling is camoflaged by legal sales. Conditions are given for when some, but not necessarily all, firms smuggle. With camouflaging, the market price is below the price when all sales are legal, so smuggling improves welfare if the price effect outweighs excess smuggling cost. This welfare effect is directly related to the degree of competition. Increased enforcement in this model potentially reduces welfare. The model is shown to be consistent with evidence on cigarette smuggling in the United States for 1975-1982.
Research Seminar in International Economics, Department of Economics, University of Michigan
http://deepblue.lib.umich.edu/bitstream/2027.42/100799/1/ECON259.pdf