Pot of gold or tin cup? Economics of cannabis legalization

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The first outlet for the sale of legal weed opened a few weeks ago in Greenwich Village at the Housing Works Cannabis Co. (Photo: Housing Works Cannabis Co.)

Adult possession of marijuana became legal in New York on March 31, 2021, when then-Gov. Andrew Cuomo signed the Cannabis Law. Upending decades of regulation and law enforcement practice, the law not only legalized possession but created the structure of a new industry dedicated to the production, distribution and possession of cannabis.

Deeply-held opinions about the risks and economic opportunities of legalization set the stage for what was a long and contentious debate over the bill’s provisions. The complexity of the Cannabis Law—it tops 70,000 words—is reflected in the delayed implementation. The first outlet for the sale of legal weed opened just a few weeks ago in New York City’s Greenwich Village at the Housing Works Cannabis Co.

Like a Christmas tree hung with too many ceramic Santas and handmade gingerbread men, New York’s legalization sags under the weight of conflicting aspirations and threatens to topple over. Decriminalization will drive down the price in illegal markets while the emerging legal market struggles to rise while laden with onerous taxes and intrusive regulations. “Justice-involved” entrepreneurs, promised “ground floor” access to new economic opportunities, will find their hopes dashed and marijuana convictions traded for debt and failure.

The promise of legalization

Drug regulation has long been a tangled mess. From caffeine to alcohol and Prozac to fentanyl, society struggles to balance freedom of choice with consumer protection.

In federal law, marijuana (or cannabis) is a Schedule 1 controlled substance, lumped in with cocaine, heroin and fentanyl. That this is an error has been widely accepted for decades. Popular acceptance of marijuana as a recreational drug with manageable risk has spurred some level of decriminalization in 21 states, two territories and the District of Columbia.

New York’s cannabis market responds to the law

While possession became legal immediately, the newly legal market is a work in progress. Yet markets abhor a vacuum and cannabis is no exception. Illicit sales of marijuana blossomed as newly legalized consumers sought a supply of weed. Enticed by reduced penalties and tentative enforcement, entrepreneurs have been quick to claim legality and, as possession is legal, consumers were happy to believe them. In a letter to New York City Mayor Eric Adams, state Sen. Brad Hoylman, Assemblymember Dick Gottfried and New York City Councilmember Erik Bottcher asked that shops selling marijuana without a license in Manhattan Community Districts 4 and 5 be closed. The letter reports that Hoylman’s staff found over two dozen stores or mobile sites claiming to sell legal pot within his district.

This finding is echoed in a November 2022 report released by the New York Medical Cannabis Industry Association, which identified over 30 locations that flagrantly advertise cannabis sales, featuring brands like “Totally Legal Blood Orange THC Gummies.” They assert that there are “likely tens of thousands of illicit cannabis businesses currently operating out of bodegas, smoke shops and other retail locations … throughout New York City.”

The New York Post reports that the Office of Cannabis Management is attempting to sanction illicit sellers by threatening them with fines and with exclusion from the emerging legal cannabis marketplace. That’s a far cry from the police raid and felony prosecution they would have anticipated before March 2021.

Penalties broadly reduced

The Cannabis Law is not full decriminalization. Adults over age 21 may legally possess of up to 3 ounces of marijuana and 15 ounces of cannabis concentrate. Unlicensed sale remains illegal (despite appearances to the contrary in some communities).

Possession of more than 3 ounces carries penalties that rise with quantity. Illegal possession up to a pound carries a fine of $125; possession of 1 to 5 pounds is a Class A misdemeanor, which carries a maximum fine of $1,000 and up to a year in prison.

Selling any quantity of pot without a license remains illegal: Get caught selling up to 16 ounces, however, and all you risk is being charged with a Class A misdemeanor. Under the old law, it was a Class E felony. Selling more than a pound formerly carried the maximum charge, a Class C felony, with a potential sentence of 15 years in prison. A sale of 1 to 5 pounds earns a Class E felony today.

Giving or selling cannabis to someone under the age of 21 is a Class A misdemeanor in current law but was a Class D felony under the old law.

Home cultivation of cannabis is also permitted under the new law. Any adult age 21 or over may possess up to three mature plants and three immature plants. A private residence may have no more than six mature and six immature plants, regardless of the number of adults in the household. Home inspections may be delayed while law enforcement’s drug-sniffing dogs are taught to count, however. Up to 5 pounds of cannabis may be kept at a personal residence.

WARNING: For those of you who misread the law and have already set up your grow lights, the Office of Cannabis Management has the following caution: “Please be aware the home cultivation of cannabis is not allowed immediately. Pursuant to the (Cannabis Law), the home cultivation of cannabis is only permitted after the OCM issues regulations governing home cultivation of cannabis, which will occur within 18 months of the first adult-use retail sale.” As the first adult-use retail sale occurred late last month, home cultivation may have to wait until the end of May, 2024.

OCM would likely urge readers to dispose of any illegally grown weed. Were you to burn the illicit produce, one suspects that inhalation is strictly prohibited!

Fiscal and economic impact

The state departments of Health and Taxation and Finance released a study of the economic impact of legalization in 2018. The study estimated that New York’s illegal cannabis market was worth between $1.7 billion and $3 billion annually, entirely untaxed at the time. The study concluded that legalization of the pot market would boost state and local government tax revenue by $248 million to $678 million annually. The low end of the range assumes a legal market price of $297 per ounce taxed at 7 percent while the high range assumes a 15 percent tax rate and a price of $374 per ounce.

The process of estimating tax revenue from legalization is extraordinarily difficult. Even if the size of the illegal market were known with certainty, future prices in the illegal market are hard to forecast and consumer behavior is just as challenging to predict.

The Taxation and Finance forecast of the legal price is based on a price in the illegal market that ranges from a low of $270 per ounce to a high of $340 per ounce. The study derives its estimate of the dollar volume of legal sales by assuming a price difference between the legal and illegal product of about 10 percent. Some might conclude that such a naïve assumption undermines the credibility of the rest of the analysis—see more below.

The legal/illegal difference aside, this pricing assumption appears to be optimistic. The Price of Weed website reports a recent price of $247, averaged from five locations around New York. This is not a reliable estimate: The data are self-reported and it includes only a handful of data points. But a falling price for illegal pot is consistent with trends reported in other states.

Were the street price $247 per ounce to be accurate, the tax revenue would range from $227 million if taxed at 7 percent (not $248 million), to $312 million if taxed at 15 percent (not $678 million). As the decriminalization evolves—both in New York and surrounding states—tax revenue is sure to fall short of the 2018 estimates.

The taxation schedule approved in the final law is as follows:

■ Adult-use cannabis distributors must pay a tax on products sold to retailers on a scale based on the total amount of tetrahydrocannabinolic acid (THC) in the product, e.g. five-tenths of 1 percent (.005) per milligram for cannabis flower.

■ Cannabis retailers are obligated to pay a tax of 9 percent of the value of adult-use cannabis products sold and to collect a tax of 4 percent from retail consumers.

The New York State Society of CPAs estimates that the tax burden in New York on cannabis is among the highest in the nation and “will make competition with the illicit market difficult.”

Tax burden on cannabis: NYS Society of CPAs

Other fiscal and economic benefits include a reduction in the cost of law enforcement and the creation of new jobs in cannabis cultivation, processing and distribution.

The social justice imperative

The state Legislature intends that the Cannabis Law address the socioeconomic impacts of marijuana law enforcement:

The legislature finds that existing marihuana laws have not been beneficial to the welfare of the general public. Existing laws have been ineffective in reducing or curbing marihuana use and have instead resulted in devastating collateral consequences including mass incarceration and other complex generational trauma, that inhibit an otherwise law-abiding citizen’s ability to access housing, employment opportunities, and other vital services. Existing laws have also created an illicit market which represents a threat to public health and reduces the ability of the legislature to deter the accessing of marihuana by minors. Existing marihuana laws have disproportionately impacted African-American and Latinx communities.

The disproportionate impact of cannabis prohibition on disadvantaged communities is addressed by:

■ Directing significant revenue from tax proceeds to support youth-focused public education, addiction services, substance use disorder programs, substance abuse research and other programs, in addition to supporting costs incurred by public agencies for administering these programs;

■ Seeking to award half of cannabis market business opportunities to “social and economic equity applicants who have been harmed by the prohibition of cannabis.” Individuals eligible to open a Conditional Adult-Use Retail Dispensary (CAURD) must be “justice involved,” i.e. either having been convicted of a marijuana offense or be the family member of someone who was. If an applicant business has multiple owners, justice-involved individuals must own at least 51 percent of the business.

■ OCM intends to award the first CAURD licenses to social and economic equity applicants, “establishing businesses owned by justice-involved individuals at the bedrock of New York’s adult-use cannabis market.”

■ Nonprofits with a history of serving persons affected by cannabis prohibition are also eligible to secure licenses. The specifics of eligibility are complex. See the OCM website for more information.

Cannabis legalization cannot bear the weight of the hopes and dreams of stakeholders

Reduced penalties for violation of laws governing marijuana will spur an increase in the supply of marijuana and drive down the price of the illegal product.  

Legalization does not simply move a highly profitable business enterprise from the shadows into the light, capturing tax revenue and employment opportunities through legislative action. Decriminalization will encourage the illegal market to expand, not disappear, for several reasons:

■ Reducing the penalties for possessing and selling marijuana reduces the cost of production for existing market participants, encouraging an increase in supply.

■ Reducing the stigma and penalties associated with marijuana cultivation and sale will encourage new market participants.

■ Opening cultivation to home growers will spur a quiet expansion of informal sales—a “gray” market for weed. The illegal market for cannabis will move from a sketchy street corner to friendly neighbor’s front door.

Ensuring the safety and consistency of cannabis and enforcing environmental and labor standards will significantly add to the cost of the legal product and widen the difference between legal and illegal marijuana.

Regulated cannabis is a different product than what is now sold on the street. For good and obvious reasons, the state Legislature has charged OCM and DOH to ensure product safety and prevent fraud. This is not costless:

■ Successful applicants for the Adult-Use Conditional Cultivar license must:

  • maintain a detailed database that permits traceability of all seeds, clones, plants to the “block and bed level”;
  • provide a sustainable energy use and conservation plan;
  • employ an OCM-approved testing laboratory to test cannabis from each production cycle for “cannabinoid profile, pesticide residue, microbiological contaminants, mycotoxins, heavy metals, and any other required analytes as determined by the Office”;
  • negotiate a “labor peace” agreement with a “bona-fide labor organization” within six months of licensure;
  • participate in a social and economic equity mentorship program; and
  • maintain all kinds of detailed records

The document runs to 11 pages.

Adult-use Conditional Processor Licensees must comply with much of what is required of cultivars, adjusted to a manufacturing process. In addition, the nature of allowable products is described in detail.

■ Guidelines for Laboratories and Sampling Firms are here; rules governing the Adult-Use Retail Dispensary are here.

Traceability and detailed testing at all stages from cultivation through sale combined with scrupulous recordkeeping and a mandatory union-affiliated workplace will be a stark contrast to the environment for cultivation, processing and sale that exists in the current environment. These may all be good things. But they all cost money.

The cost of legal cannabis in New York will be significantly higher than that of its illicit competitor, leading inevitably to very small profit margins for licensed providers.

Taxation will also drive a wedge between the legal and illegal products. The excise tax on cannabis—which replaces the normal sales tax—is 13 percent, with 9 percent going to the state and 4 percent to localities. The tax at the processor level based on THC content drives the tax burden even higher, as noted above, to a combined total of 27 percent on cannabis flower, 50 percent on cartridge and 55 percent on gummies. The NYS Society of CPAs accountants make another point: Cannabis remains a controlled substance under federal law. The Internal Revenue Code Section 280E states that no deduction or credit is allowed for expenses involving controlled substances, which will reduce net revenue and drive up costs.

Looking ahead

What’s likely to occur in New York is happening today in states that have already legalized pot. Legalization’s objectives are mutually exclusive.

Decriminalization will increase the supply of illegal cannabis, driving down its price and increasing the pricing gap between the legal and illegal products. Ambitious health, safety and labor regulations will impose an unsustainable burden on the new industry legalization hoped to establish.

What’s more, the much-anticipated “golden goose”—legal weed—will be too scrawny to lay eggs for eager government taxing authorities or to fund expanded drug education and treatment.

And instead of gaining a toehold in a lucrative new industry, “justice-involved” business owners targeted by the law will simply confront a new form of exploitation. They’ve been promised a pot of gold but will be left with nothing but a tin cup—and dashed hopes.

Kent Gardner is Rochester Beacon opinion editor. The Beacon welcomes comments from readers who adhere to our comment policy including use of their full, real name.

One thought on “Pot of gold or tin cup? Economics of cannabis legalization

  1. 70,000 words that will not be read by the general public and surely not by the user. It will be another reading for the attorney and you will need one when you get into trouble. As far as our politicians go, they will sway with the public who pulls the ‘lever’ in the voting booth. That said, welcome in the legal weed. It’s here to stay and it’s use will be upgraded as needed by the politician beholden to its constituents. I wonder where the Climate Change crowd stands on this issue. It’s still the best system in the world, which ought to give you a clue as to just how well this planet is doing.

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