Would Legalizing Marijuana Increase Revenue?

This morning’s Chron includes a story about a recently-completed RAND study on the expected fiscal effects of legalizing marijuana.

The upshot of the six-month study by the nonpartisan Rand Drug Policy Research Center is this: It’s anybody’s guess as to whether the state will suffer or prosper if voters approve Proposition 19 on the November ballot. The measure would allow local governments to regulate and tax pot sales and controlled cultivation, and to let adults over 21 possess as much as an ounce.

“There is just so much uncertainty, that while we could look at the data and create a scenario that could be very good from an economic standpoint, we could also create a very bad one,” said Rosalie Liccardo Pacula, co-director of the Rand center in Santa Monica. “The overall effect is a bit of a mystery.”

More information, directly from RAND:

While the state Board of Equalization has estimated taxing legal marijuana could raise more than $1 billion in revenue, the RAND study cautions that any potential revenue could be dramatically higher or lower based on a number of factors, including the level of taxation, the amount of tax evasion and the response by the federal government.

Past research provides solid evidence that marijuana consumption goes up when prices go down, but the magnitude of the consumption increase cannot be predicted because prices will fall to levels below those ever studied, researchers say. Consumption also might rise because of non-price effects such as advertising or a reduction in stigma, researchers say.

In addition to uncertainty about the taxes levied and evaded, researchers do not know how users will respond to such a large drop in price. Even under a scenario with high taxes ($50 per ounce) and a moderate rate of tax evasion (25 percent), researchers cannot rule out consumption increases of 50 percent to 100 percent, and possibly even larger. If prevalence increased by 100 percent, marijuana use in California would be close to the prevalence levels recorded in the late 1970s.

The full RAND report, which can be downloaded here, reaches the following conclusions:

• The pretax retail price of marijuana will substantially decline, likely by more than 80 percent. The price that consumers face will depend heavily on taxes, the structure of the regulatory regime, and how taxes and regulations are enforced.
• Consumption will increase, but it is unclear how much because we know neither the shape of the demand curve nor the level of tax evasion (which reduces revenues and the prices that consumers face).
• Tax revenues could be dramatically lower or higher than the $1.4 billion estimate; for example, there is uncertainty about potential tax revenues that California might derive from taxing marijuana used by residents of other states (e.g., from “drug tourism”).
• Previous studies find that the annual costs of enforcing marijuana laws range from around $200 million to nearly $1.9 billion; our estimates show that the costs are probably less than $300 million.
• There is considerable uncertainty about the impact of legalizing marijuana in California on public budgets and consumption, with even minor changes in assumptions leading to major differences in outcomes.
• Much of the research used to inform this debate is based on insights from studies that examine small changes in either marijuana prices or the risk of being sanctioned for possession. The proposed legislation in California would create a large change in policy. As a result, it is uncertain how useful these studies are for making projections about marijuana legalization.

The predictive model adopted by the paper considers a possible scenario: a $50 per-ounce tax (they do consider some alternative scenarios and intervening factors). The researchers find that, in this situation, marijuana consumption is elastic and might increase. This prediction is based on levels of usage in the past. Part of the challenge, as researchers admit, is that predicting changes in consumption is a difficult thing to do; it is difficult to tell how much of the usage level has to do with changes in price or regulatory regime (and, of course, whether changes in usage are going to be short-term or long-term.)

This is an interesting development. Before formulating the proposal, Tom Ammiano’s office had done some public polling, which suggested that the public was much more likely to support a legalization bill if it were marketed as a revenue enhancing measure (“tax and regulate” rather than “legalize”). This plan, however, might backfire in light of the results of the RAND report. However, it is important to keep in mind, when considering whether to vote for this proposition, whether there are not other reasons for legalization.