Features

March/ April/ May 2014 Nonprofit Motive

How to avoid a likely and dangerous corporate takeover of the legal marijuana market.

By Jonathan P. Caulkins

The standard debate about marijuana legalization has been “Should we, or shouldn’t we?” For better and for worse, the country appears to be moving toward answering that question in the affirmative. The next logical question is, or ought to be, “What sorts of organizations do we want to supply that legal marijuana?”

The debate typically skips past that crucial question and presumes that legal cannabis will be produced and sold by for-profit companies—with the government setting some regulatory limits such as restricting access to minors. Colorado and Washington, the two states where voters have already approved legalization, have gone this commercial route.

At first glance, it doesn’t seem so bad. After all, the companies that have obtained licenses to produce or sell marijuana in Colorado, and the quasi-legal medical marijuana dispensaries that operate in a number of states, seem quaint and countercultural right now—hippies enjoying a nice middle-class lifestyle clucking over little plots with fifty or a hundred plants. But such mom-and-pop operations aren’t likely to last.

Cannabis is just a plant. If cannabis production ends up looking anything like modern agriculture, these small, independent operations will be shunted aside by bigger, professional farms. And if cannabis distribution looks anything like distribution of other consumer goods, those farms will supply companies that use marketing savvy to develop and exploit brand equity. These more organized enterprises will be driven by profit and shareholders’ interests, not concern for public health or countercultural values. And as these companies grow, they’ll begin to wield considerable political power. (Note that even the current legal cannabis industry, in its infancy, already has trade associations, lobbies, and holds annual conventions.)

While a few small firms may adroitly adapt to a low-volume, high-touch niche market serving primo brands to college-educated connoisseurs—akin to microbreweries—a larger, corporate reality looms. With 60 percent of marijuana being used by people with a high school education or less, we should expect the majority of consumers to shop for value: they’ll seek Walmart-style everyday low prices, not boutique ambience at boutique prices.

So if we want to avoid a legal cannabis market dominated by large companies that push to sell as much as possible to as many people as possible, then what do we do? How do we design a legal market that protects public health and limits drug abuse?

The most effective model, as Mark Kleiman explains elsewhere in this issue, may be restricting sales to government-owned and -run stores. Right now, that is at best a long shot. Marijuana is still prohibited under federal law, and a state law involving the state government directly in the trade would likely be preempted by the Controlled Substances Act. Even if the federal laws do change, government stores may be political nonstarters, hated by both moral conservatives and libertarians alike. There are two other models, however, that could work. One restricts production and sale to nonprofit organizations. The other restricts production and sale to small user co-ops.

Model 1: The legalization of nonprofit production and sale

Entrusting the supply of sensitive commodities or services to nonprofits—such as blood banks, credit unions, art museums, and so on—is not new. Indeed, a good chunk of economic activity in the United States is conducted by organizations that are neither government nor for-profit enterprises.

Of course, simply designating an organization as a nonprofit doesn’t guarantee that it won’t be self-aggrandizing and politically powerful. (Nonprofit hospitals and universities, for example, compete aggressively, though they are typically more restrained by ethical principles than are corporations.) But in the nonprofit arena one can do more to guard against those tendencies. For example, a nonprofit seeking a marijuana license could be required to have a board of trustees whose members are selected by child welfare and public health agencies. The state could require that any licensee’s charter documents (e.g., its articles of incorporation or bylaws) pledge that it operate in ways that meet demand but eschew promotion, and stipulate that all excess net operating revenues be donated to drug prevention, treatment, or other charitable causes related to substance abuse.

Placing the cannabis industry in the hands of nonprofits committed to fostering public health would rejigger the incentive structure. For-profit corporations seek to grow sales and, as with alcohol and tobacco, the greatest revenues come from the most vulnerable populations; 40 percent of past-month marijuana users today meet clinical guidelines for substance abuse or dependence (on marijuana, alcohol, and/or some other substance). Nonprofits, by design, operate under different prerogatives. They are not inherently interested in expanding sales or streamlining production, since their mission is to serve the public interest, not to maximize shareholders’ profits.

The usual knock against nonprofits is that they do not operate as efficiently as do for-profit businesses. But that hardly matters, because after legalization marijuana production costs will be very low. A typical heavy user can be supplied annually by three square feet of greenhouse space (at forty grams per harvest, four harvests per year), and professional farmers’ annual costs for comparable crops run between $5 and $20 per square foot. Outdoor farming would be even cheaper; all of the marijuana currently consumed in the U.S. each year could be produced on about 10,000 to 15,000 acres—or about a dozen modest Midwest farms.

Production costs today are high because growing is done by two entities: criminal organizations, whose comparative advantage is avoiding enforcement, not practicing agronomy; and by plant-loving aficionados supplying medical dispensaries and other high-end markets from artisanal operations. A decade or so down the road, when the for-profit marijuana farming sector approaches the efficiency of tomato or pepper farmers, the production cost for a joint’s worth of basic, high-potency intoxicant, which runs about $4 today, will drop to about a nickel.

The challenge under a system of legal availability is therefore not achieving greater efficiency and lower prices but, rather, keeping prices from falling too far, since low prices are not good for public health. Multiple studies have shown that consumption rises as price falls. Consumption may be especially price sensitive among heavy users, because marijuana now takes a bigger share of their personal budgets, and among cash-strapped teenagers: two groups whose consumption we’d prefer to see go down, not up.

Low prices also undercut revenues from taxes that are assessed as a percentage of value, as in Colorado and Washington. While nonprofits would not pay corporate income or property taxes, their products would be subject to excise and sales taxes, and employees’ wages would be taxable. (Bringing employees’ wages above the table might generate roughly as much tax revenue as will the sales and excise taxes, something the debate often overlooks.)

Restricting production and sale to nonprofits also solves the problem of how to allow production without also allowing aggressive marketing, including promotions that appeal to youth, such as the Joe Camel campaign or alcopops. It’s very difficult to limit commercial entities’ advertising and other promotional efforts, since they enjoy constitutional protections as “commercial free speech.” (Most restrictions on alcohol and tobacco advertising come from voluntary restrictions, negotiated agreements, and lawsuits, not legislation, which helps explain why they are so weak.)

Jonathan P. Caulkins is Stever Professor of Operations Research and Public Policy at Carnegie Mellon University’s Heinz College and coauthor (with Mark Kleiman, Angela Hawken, and Beau Kilmer) of Marijuana Legalization: What Everyone Needs to Know.

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