This article analyses the effects of legalising cannabis on the state of Colorado. I would like to extend these effects to the entire U.S.A. to answer the question: is legalising cannabis on a federal level a market failure or a powerful tool to boost America’s economy?
Market failures occur when there is welfare loss in an economy, or when marginal private cost/benefit isn’t equal to marginal social cost/benefit. Legalising cannabis would be a market failure by allowing an oversupply of demerit goods, creating a negative externality of consumption.
On the other hand, cannabis could be a powerful tool to boost America’s economy. For this to happen, the legalisation of cannabis would have to increase marginal social benefit rather than decreasing it. Therefore it is necessary to explore the effects of legalising cannabis through the implications of cannabis sales on the economy, and the effects of cannabis’ highly inelastic demand.
Implications on the economy
Cannabis could have a positive effect on the economy by decreasing crime rates. Per annum, maintaining a single inmate costs $31,000-$60,000. In 2018, 1,429,299 Americans were incarcerated for drug possession in the U.S., and around 40% of crimes in America are drug-related. Overall, the country could therefore save at least $44,000,000 by federally legalising cannabis. As of now, the opportunity-cost of maintaining inmates arrested for possession of drugs is that the money can no longer be reinvested into healthcare and education; legalising marijuana could therefore allow the government to spend said money on the next-best alternative foregone.
The cannabis industry also creates new jobs, with ‘41,076 individuals licensed to work in the industry’ solely in Colorado. With 300 stores now selling cannabis, and a total revenue of $35,000,000, it is clear that this new job market is generating a lot of income, income that can then be reinvested in the economy as a whole if the industry were created at a federal level.
On the other hand, cannabis has been proven to have adverse effects on users’ IQ’s, decreasing them by 10 to 15 points. This has a negative effect on the job market, making workers less enterprising and intelligent, and therefore decreases the MSB curve. Furthermore, 68,000 people die from drug overdose per year, creating a negative externality on the economy due to less available workers and consequently a smaller workforce. This moves the country’s production possibility curve inwards due to a smaller supply of factors of production.
Legalising cannabis could also increase the amount of money traded on the black market. According to this article, “[more retail licenses being sold on the market] caused a major oversupply of pot, with excess cannabis reportedly being sold to the black market.” This overspill causes more money to go towards criminals that are likely to use the profit at a disadvantage to society, decreasing MSB.
Implications of cannabis’ highly inelastic demand
Cannabis has a highly inelastic demand (a certain % change in price will result in a smaller % change in quantity demanded) due to its addictive characteristics, making it harder for people to stop using it. This means a change in price is not likely to deter people from purchasing it. This highly inelastic demand means that the government could place high taxes on cannabis without greatly affecting firms’ profits, which prevents unemployment and a dip in economic growth. This high tax rate brings in large profits for the government, allowing them to lower the U.S.A.’s billion-dollar deficit as well as invest in education and healthcare.
On the other hand, the article talks about Colorado’s first-mover advantage in growing cannabis. This first-mover advantage, coupled with the high costs of starting a cannabis plant and the highly regulated nature of the industry, creates large barriers to entry and prevents smaller firms from holding a substantial amount of market share. This creates a near-monopoly in the cannabis market, with one price leader and many price followers. The inelastic demand for cannabis may allow Colorado to take advantage of the vulnerability of its consumers - as well as its firm hold on the market - and increase prices above market equilibrium. Considering the addictive nature of cannabis, consumers may continue to buy the product despite this exploitation, causing x-inefficiency throughout the industry and increasing MSC. This is caused when the firm knows that no matter its inefficiency or the quality of its product, consumers will continue to buy the product and other firms will not be able to penetrate the market. This knowledge removes profit incentive and the firms become inefficient (X-inefficiency).
In conclusion, federally legalising cannabis could be a huge tool to boost the American economy: however, if not treated with caution, legalising cannabis could result in market failure from oversupplying a demerit good. Some ways to ensure that cannabis is being used responsibly is by regulating Colorado’s cannabis industry and breaking them up into smaller firms if necessary, as well as allowing firms to sell cannabis back to the government at a low price. This should prevent spillover into the black market by incentivising firms to sell cannabis to the government instead: Although they would be making less money from the sale, they would still be making slight profit and would not have the danger of being arrested if discovered selling to the black market. Advertising campaigns could be run to ensure people are made aware of the adverse effects of using cannabis, and there should be a cap on how many grams one person could purchase in a year. The amount of cannabis one person has purchased could be recorded on a governmental database using the buyer’s ID. After the set amount of grams per person has been purchased, the government database could blacklist the ID to warn vendors they are no longer allowed to sell cannabis to the person.
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