A Principled Approach to Taxing Marijuana

 

Marijuana policy has been changing radically. Beginning with Colorado and Washington, eight states — including California — have now legalized not just medical use but large-scale commercial production, marketing, and sales for non-medical use. Canada expects to do the same next year. These developments are accelerating the decline in prices that has been underway since the Obama administration’s 2009 decision to tolerate state legalizations of first medical and then recreational marijuana, despite federal laws prohibiting all use. Legal marijuana now flows readily across state borders; a year’s supply for a heavy user weighs about as much as one 22-ounce can of beer. And once people can easily obtain marijuana next door, more states will legalize.

The federal government will be forced to either shut down these state-legal operations or seek to bring order to the dysfunctional contradictions between state and federal law by legalizing marijuana nationwide. Taxes figure prominently in these debates, but no one, it seems, knows how to tax marijuana prudently. The states leading the legalization charge have enacted primitive taxes that will fail as marijuana prices fall because they are computed as a percentage of value. As the Trump administration weighs its options, it is worth thinking carefully about what the best tax regime would look like, and what limitations even the best regime will face.

Some legalization advocates compare marijuana to alcohol. Yet, in Tom Babor’s memorable phrase, “alcohol is no ordinary commodity.” Neither is marijuana. While marijuana has tens of millions of happy occasional users, they account for a trivial share of industry sales. Consumption is concentrated among the smaller number of high-frequency users; half of marijuana is consumed by people with a medically diagnosable substance-use disorder, and these individuals are disproportionately poor and less educated. Policy — including tax policy — should be designed to protect these problem users from exploitation by industry and from their own bad choices, rather than cater to the convenience of occasional users.

Lower prices for marijuana have been shown to increase use, particularly for younger and heavier marijuana users. Hence, a major goal should be to keep after-tax prices from falling too sharply (ideally by no more than 50%). Dictating that outcome only via minimum-pricing rules, however, would let industry pocket excess profits. Propping up prices with excise taxes — a favored strategy for tobacco — would achieve the public-health goal of discouraging excessive marijuana use, while relieving the public of having to finance government via other less-popular and more-counterproductive taxes.

Alas, taxing marijuana is not simple. Federal legalization — specifically, allowing for-profit corporations to sell marijuana — would unleash a dynamic market that would evolve precipitously and unpredictably, with the potential for aggressive anti-tax lobbying, price collapses, rapidly changing marijuana-derived products, and black- and gray-market tax evasion. All this would create complicated secondary goals: Taxes would need to be nearly uniform across states; they would need to cover a wide variety of products; and they would need to increase dramatically over time.

These challenges and corresponding goals present unexpected pitfalls for approaches that at first seem sensible. Four principles could help marijuana-tax models avoid such traps: the equity principle, the “Goldilocks” principle, the complexity principle, and the political principle.

Together, they imply that tax policy will need to adjust dynamically to changing circumstances, and nimble tax policy is not what lawmakers are known for. Two options exist that could achieve the necessary flexibility, but neither would be easy to implement. This raises the question of whether it is wise to legalize marijuana like alcohol when there are forms of legalization that may better serve the public interest.

 

 

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