Legal marijuana markets

Business Insider has a great write-up on Colorado's legalised marijuana markets. Currently restricted to medical marijuana sold through dispensaries, recreational use without prescription will be legal and anyone will be able to purchase from the dispensaries. They're expecting to raise $130m in taxes, although the tax mechanism is rather opaque. IRS won't let you take business deductions on things it deems illegal, even if the State is cool with it.

I read the story through an Austrian entrepreneurial-discovery lens. We always have a path to some new equilibrium rather than simple blackboard comparative statics. Business Insider details the mistakes made along the way. Because the regulations effectively required vertical integration of dispensaries with growers, businesses needed a combination of a business-type to provide financing and run retail, and a former basement grower who knew how to grow.

Often, the grower and the retail entrepreneur viewed their entities as entirely different organisations. This would prove to be an issue when it came to pricing the product.
The basement growers entered the formal industry assuming that the price of marijuana would hold steady with the black market price. The initial offer they made to the retail entrepreneurs — $US4,000 worth of marijuana for a $US3,500 wholesale price — was based on that assumption.
The risk of growing marijuana in a basement when it wasn’t legal was priced into that high wholesale cost: The idea was that when the industry transitioned to the legal medical market, the portion of the price that went to cover the risk would instead cover new expenditures like rents on warehouses and retail facilities.
But those initial price estimates did not hold, and that’s when people began to panic.

Then follows a story of price discovery, time-to-build problems, price and quality competition, and problems where you can't sell surplus product on to other markets. And more changes are to come when customers no longer need a prescription, effectively allowing a tourist market to emerge. 

I also love that the story provides us with some benchmark market prices for lower and higher grade product: retail price of $25 to $50 per quarter ounce. Now this is still in a not-quite-free market: the growers have to be vertically integrated with the dispensaries, so this limits the economies of scale that could obtain in a fully legal market. But it suggests that USD $100-$200/oz would be a ballpark price to consumers.

I'd guessed NZD$100/ounce as baseline costs in a legal NZ market. If Colorado's cost structure approximates that which would here obtain and we reckoned NZ prices of NZD$100-200,* and if excise were set to keep selling price to consumers constant at $300/oz, then we'd be setting excise and GST revenues at about $150/oz rather than the $200/oz I had expected. So excise would be closer to $125 million than to the $167 million I'd expected. That back of the envelope reckoning wasn't far from this one though.

Dr Eric Crampton is a senior lecturer in economics at the University of Canterbury. He blogs at Offsetting Behaviour.


* Power's more expensive (by lots) but the weather's also much better than Colorado. I'm guessing that further economies of scale in growing approximate the exchange rate difference, but I still have low confidence in the point estimate. I've updated my range to (very rough ballpark) of $75m - $200m. No numerical magic went into that estimate; it just gives the range of figures I wouldn't bet against at reasonable odds.

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