The Economics of Marijuana 1

The Economics of Marijuana: Supply, Demand and Associated Laws

Katherine Baer, Max Burke, Alex Hetherington, Brian Lam

December 19, 2008

Professor Ong

Introductory Microeconomics

The Economics of Marijuana 2

A huge black market commodity, it has become the most widely used illegal drug

in the world. Americans, college students included, are no strangers to it, consuming

more than any other country each year. Marijuana is a multi-billion dollar industry that

operates in nearly every country, regardless of the law. In spite of its illegal status in the

United States, millions of dollars exchange hands across state and country borders every

day, from growers to consumers and every dealer in between. Marijuana may commonly

be a black market good, but significant research exists to prove that the economics

involved in its supply and demand are not unlike many other legal substances. Demand

for marijuana has increased significantly since the 1990’s, affecting smaller markets for

individual types of marijuana and complementary goods like smoking paraphernalia.

Similarly, America’s domestic and foreign supplies of marijuana vary greatly by region

and are affected most by the laws surrounding its production and distribution. These laws

have become a topic of great controversy in recent years, as many arguments in favor of

legalizing, and therefore taxing, marijuana gain attention. Evidence suggests that the

economics of marijuana maintain relative normality through the legal regulations against

its production and sale in the United States, a testament to its remarkable staying power

and devoted consumers.

Bill Clinton once claimed “When I was in England, I experimented with

marijuana a time or two, and I didn't like it, and I didn't inhale, and I never tried again

(Brainy Quotes).” The demand for marijuana in America has been dramatically growing

throughout recent years. The economics of marijuana have typically been explored for

the purpose of legalizing it. This issue is highly publicized in America and it all starts

The Economics of Marijuana 3

with the demand for marijuana. The demand curve is determined by a variety of factors.

Shifts in demand, product variety, and even smoking paraphernalia to use are all

significant factors in marijuana’s demand in the United States.

According to Brian J. Ostrom in “Potential Tax Revenue from a Regulated

Marijuana Market,” marijuana is a very lucrative market. “The marijuana industry is

estimated to generate 5.09 to 9.09 billion dollars annually” (2008). As a result, many

have a large amount of incentive to get into the industry. However, when many new

dealers enter the market, it is often difficult for them to make significant profits. Shifts in

the demand curve occur when more product enters circulation. This will cause individual

demands within the blanket title of “marijuana” to shift as buyers grow more particular in

their tastes. However, in the general market, the demand for marijuana remains high.

Because more than sixty-eight different strains of marijuana commonly circulate

American marijuana markets, people constantly demand more potent supplies, which are

only available at much higher costs to consumers. However, cost fluctuations are not

commonly a factor for regular users whose demand is relatively inelastic. According to

“The Rising Prices of Marijuana”, the government estimates that nearly twenty billion

dollars will be spent on marijuana in America this year. (Marijuana Seeds, 2008).

Similarly, the average price of marijuana varies from about fifty dollars for 1/8 of an

ounce to over three hundred dollars for a complete ounce(drugscience.org). This indicates

that in the marijuana market, as with most markets, “buying in bulk” is significantly more

cost-effective. Though there are many types of marijuana with a variety of prices, each

has essentially same effects when used. Only consistent users can detect slight nuances

and will regularly demand particular variety. The most popular strains of marijuana are

The Economics of Marijuana 4

White Widow, Big Bud, and Master Kush. The demand for marijuana is now so intense

that its price greatly exceeds the marginal cost to producers. According to Moffatt (2007),

“the average price of 0.5 grams of marijuana is sold for $8.60 on the street, while its cost

of production was only $1.70. In a free market, a $6.90 profit for a unit of marijuana.”

The price of marijuana has steadily increased since in the last two decades, which means

that the demand curve has shifted significantly to the right. As demand increases, the

containment of marijuana in America will continue to be a difficult project for the War

on Drugs.

Another notable aspect in the demand for marijuana is the many methods of

consumption. There are five main ways of consumption: smoking, eating, teas, blends

with vodka, and in cold compresses for pain. The most common use, smoking, brings a

new industry into the picture. It is illegal to purchase devices for smoking, but

paraphernalia designated for use with tobacco is legal. These bongs, pipes, and vaporizers

are deemed for tobacco use only, but consumers often purchase the items for marijuana

use. The government cannot punish these suppliers because suppliers have signs and a

disclaimer stating the inventory is tobacco paraphernalia. Consequently, the demand for

these items continues to grow because, as a complement to marijuana, it experiences

similar demand changes.

An important factor in determining the price of marijuana in a particular region of

the United States is the supply of the market. The market in any given location can have a

large amount of variability because of availability from outside sources, state laws

(including medical legalization), and the amount of marijuana grown inside the state.

The Economics of Marijuana 5

According to the Drug Enforcement Administration (2008), Marijuana is most

commonly imported from Mexico and Southwestern United States. There is also a large

amount smuggled from Canada and some states import marijuana from Jamaica, the

Bahamas, and other Central and South American nations. Even though America has a

strong police force, the Library of Congress reports that “there seems to be general

agreement among law enforcement officials that only a maximum of 10 percent of the

marijuana being smuggled into the United States is intercepted” (as cited in Gettman,

2007). When one takes into account that “an estimated 50 percent of the marijuana

available in the United States is imported,” the picture of a very large underground

market with only minimal effective regulation is painted (Gettman, 2007). The supply

curve would then depend on the ease of growing marijuana in Mexico or other countries

and the amount the DEA can seize as it crosses the border into America. Yet another

difficulty in supplying marijuana to the America is trafficking marijuana from port cities

to states. It is easier to bring Mexican marijuana to states such as California, Arizona,

New Mexico, and Texas and to smuggle Canadian marijuana on the Northern border. The

price goes up as marijuana is transported to places such Midwestern and eastern states

because much of it comes from Mexico and must make the trip inward in a safe and cost-

effective manner.

Other factors that contribute to the supply of marijuana in different states are the

penalty of crime, along with medicinal use, and the amount grown inside the state. There

are currently twelve states with medical marijuana programs in effect. The eight states

with the highest percentage of frequent users and five of the ten states with the highest

percentage of youth marijuana users are states that contain medical marijuana programs

The Economics of Marijuana 6

(2008 Marijuana Sourcebook). This suggests that if more states begin to adopt medical

marijuana programs, rates of marijuana use will increase. However, this correlation is

most likely due to larger amounts of advocates for medical marijuana programs

inhabiting these states. The supply curve’s shift due to medical marijuana programs

would only be minimal. Most dealers who receive a card permitting possession of

marijuana for “medical purposes” use it to distribute. It seems more so, that the supply

curve is affected by the penalties associated with possessing marijuana.

In areas such as California and Oregon, where penalties are minor for marijuana-

related offenses, there are many more eradications and discoveries of grow operations

(“State by State Laws.”). However, in neighboring states such as Utah, Nevada, and

Arizona where there are harsher regulations such as particular laws regarding DUID

(driving under the influence of drugs), marijuana growing and harvest operations are

much less common. When observing the amount of plants eradicated in the United States

in 2007, [Appendix 1.1] one can see a clearly higher ratio of marijuana plants eradicated

on the west coast. In these states, prices are typically low because the frequency of

marijuana eradications indicates a very large supply. Supply also increases with an

increase in sellers. In places that produce more or are more accepting of marijuana, there

are commonly more sellers which will compete and lower the price as well.

In today’s world, the legalization of marijuana for medicinal use is a practice that

is rapidly increasing. Marijuana is classified as a Schedule I controlled substance: it has a

high potential for abuse, no officially accepted medicinal uses, and no safe level of use

under medicinal supervision. However, the use of marijuana as a legal medical substance

was approved by the federal government in a 1978 lawsuit. The program born of this

The Economics of Marijuana 7

case was called the Investigational New Drug Compassionate Access Program. It allowed

for its members to receive medical marijuana from the federal government. This program

ran until President George H. W. Bush had the program shut down in 1992. Only a few

patients receiving medical marijuana were allowed to remain in the program. These

patients are the only ones that have ever been given access to marijuana by the federal

government. In fact, in spite of a small variety of state programs permitting medical

marijuana, the federal government maintains the right to prosecute medical marijuana

patients because of the outcome of Raich v. Gonzales in 2005.

This opposition to legalization from federal government has not stopped the

legalization of marijuana for medicinal purposes by a growing number of states. As stated

earlier, there are now twelve states that allow marijuana to be sold, possessed, and grown

so long with the right medical approval from the state. California holds the largest

amount of registered medical marijuana users with almost 27,000 registered individuals.

However, the true number of medical marijuana cardholders is estimated to be much

larger since the cards do not need to be registered for holders to receive benefits. This has

led to a proliferation of medical marijuana clubs in some metropolitan areas. There are

currently twenty-nine medical marijuana dispensaries in the San Francisco County alone.

These medical marijuana clubs sell, on average, between 1-2 pounds of marijuana per

day. The marijuana is sold in varying denominations, but usually averages at least 80

dollars for a quarter of an ounce. There are 16 ounces in a pound, so nearly 120 quarter-

ounce packages can be sold in a typical day. This multiplied by the average price for a

quarter ounce, which is around 85 dollars, means that these dispensaries collect as much

as ten thousand dollars daily. The state of California’s medical marijuana patients

The Economics of Marijuana 8

contribute more than 100 million dollars a year on taxes paid for consumption of medical

marijuana. If the federal government were to make marijuana a legal substance, the

subsequent cash flow from the taxes alone would be enough to give America’s economy

a substantial boost. Corn, which is America’s current greatest cash crop, yields an

average of 19 billion dollars a year. Marijuana grown in America is estimated to reach

values of 25 billion dollars a year (Schlosser, 2003). The average income tax was 18%

this last year, which would have meant $810,000,000 in marijuana-related taxes. More

than 20 million Americans smoke marijuana every year and more than 2 million smoke it

every day. If marijuana were to be legalized, the cash flow would be outstanding. The

Cannabis plant’s fibers are what make up hemp cloth, an extremely durable fabric. This

would cause benefits for other industries, such as the textile industry, in addition to the

sheer revenue collected from the marijuana itself. In addition, it would save the American

taxpayers roughly 4 billion dollars a year we currently spend regulating marijuana in the

War on Drugs. With marijuana already estimated to be America’s number one cash crop,

it makes sense for government to permit private ownership and distribution and to collect

revenue from such a lucrative industry.

Marijuana markets operate alongside those for legal goods and bear striking

resemblances to these legal markets. This market’s supply and demand are affected by a

variety of factors, including government regulation. Its legalization may cause small

shifts in the supply and demand curves as taxes and government bodies intervened, but

many defend that this shift is desirable because of the significant amount of revenue that

would go in to the federal budget as a result. Regardless of its legality, it can be agreed

The Economics of Marijuana 9

that the market for marijuana is a fascinating one with many determining factors and

strong following that only seems to grow as the years pass.

The Economics of Marijuana 10

References

“2008 Marijuana Sourcebook.” Office of National Drug Control Policy. Jul 2008

Belenko, S. (2006). Drugs and Drug Policy in America. New York: Greenwood Press.

Drug Enforcement Administration. (2008). Marijuana. Retrieved December 2, 2008,

from cccccchttp://www.usdoj.gov/dea/concern/marijuana.html

Gettman, J. “Lost Taxes and Other Costs of Marijuana Laws.” (2007) Drug Science.

Retrieved

November 28, 2008, from

http://www.drugscience.org/Archive/bcr4/5Supply.html

Goodnough, A. (2008, December 18). Relaxing Marijuana Law Has Some Nervous. The

New ccccccYork Times. p. A24

Marijuana Seeds. (2008). Retrieved December 4, 2008, from

http://www.marijuanaseeds.com/ cccccchome.html

Moffatt, Mike. (2007). Should Governments Legalize and Tax Marijuana? About

Economics. ccccccRetrieved December 4, 2008, from

http://economics.about.com/od/incometaxestaxcuts/ cccccca/marijuana.htm

Ostrom, B. (2008). Potential Tax Revenue from a Regulated Marijuana Market.

Retrieved ccccccDecember 11, 2008, from

http://www.uvm.edu/~vlrs/Agriculture/marijuanatax.pdf

The Oyez Project, Raich v. Gonzales, 549 U.S. 1 (2005).

“State by State Laws.” (2008) NORML. Retrieved November 28, 2008, from

http://norml.org/ ccccccindex.cfm?Group_ID=4516

The Economics of Marijuana 11

Schlosser, E. (2003). Reefer Madness: Sex, Drugs, and Cheap Labor in the American

Black ccccccMarket. New York: Houghton Mifflin.

William J. Clinton Quotes. (2006). Retrieved December 12, 2008, from

http://www.brainyquote cccccc.com/ quotes/authors/w/william_j_clinton.html

Appendix 1.1