Washington's Legal Marijuana Mess

Can pot regulators beat the law of supply and demand?

(Page 3 of 4)

After Gregoire vetoed most of Kohl-Welles' bill in 2011, Holcomb notes, there were proposals to amend the collective garden provision so that rotating memberships would not be allowed. "Then the legislature essentially put medical marijuana on hold during the vote on Initiative 502 and development of rules by the LCB this year," she says. "People who decided to open medical marijuana businesses even after the governor vetoed dispensaries should be a little embarrassed to claim they thought they were going to be able to continue doing what they're doing indefinitely. You did decide to open a medical marijuana business even though the governor vetoed legislation that would've made that legal. You went into this with your eyes open and realized there was a risk."

A Five-Year Plan

Not all medical marijuana suppliers will be shut out of the new market. In fact, Washington's very first cultivation license, issued by the LCB in March, went to Sean Green, a former real estate appraiser who got into the medical marijuana business in 2011. Green is using his license for a grow operation in a Spokane office building that may also house Washington's first state-licensed pot shop. Scott O'Neil, a friend of Green's who manages his medical marijuana business in Spokane, placed eighth in the lottery for the eight licenses the LCB has allotted to that city. O'Neil, who signed agreements with Green to buy marijuana from his first harvest and to use his Kouchlock Productions brand, says the store should be ready to open as soon as a license is issued.

Green's Tier 3 production license allows him up to 21,000 feet of plant canopy. Originally the allowance for Tier 3, the largest grower category, was 30,000 square feet. But in February the LCB, having received more than 2,800 applications from would-be marijuana growers, unanimously voted to reduce the ceilings for each tier by 30 percent. It also cut the number of production licenses allowed per applicant from three to one. It said both changes were required to stay below the statewide cap on total production, which is 2 million square feet. That cap is supposed to allow production of enough marijuana to supply a quarter of the market, which is how much the LCB hopes the stores it licenses will initially attract.

One problem with that plan: Given the difficulty of measuring black-market sales and uncertainty about how legalization will affect consumption, the LCB does not really know what the demand for marijuana will be. It is relying on a RAND Corporation estimate of how much marijuana Washingtonians consumed in 2013. Beau Kilmer and his colleagues at RAND used state-level data from the National Survey on Drug Use and Health (NSDUH) combined with their own online survey of cannabis consumers, which aimed to figure out how much marijuana each consumer buys over the course of a year. Adjusting the NSDUH data to account for under-reporting, Kilmer et al. put total consumption in 2013 at 135 to 225 metric tons, with a median estimate of 175.

That number was more than twice as big as a 2012 estimate by the Washington Office of Financial Management, which said total marijuana consumption would be about 85 metric tons in 2013. Kilmer et al. say the difference "is largely driven by our use of more recent data." While the RAND study seems considerably more rigorous than the state's earlier projection, it still relies on a bunch of debatable assumptions, and its estimate covers a wide range. Furthermore, the estimate is for consumption in 2013, so it does not take into account the likely increase in consumption after state-licensed pot shops start opening. That increase is apt to include more-frequent use by current consumers as well as purchases by new consumers and by visitors from other states.

Also keep in mind that the LCB is expecting state-licensed stores to capture no more than 25 percent of the market during their first year of operation. That number could turn out to be far from the mark in either direction, depending on variables such as the after-tax price of legal pot and the fate of medical marijuana dispensaries. Additional uncertainty comes from estimating how much square footage is needed to produce a given amount of pot. As Soviet officials discovered on a much larger scale, this coordination of supply and demand is a pretty complicated problem when you try to arrange it from the top down.

The state is also restricting the retail end of the marijuana business. I-502 itself imposes extensive restrictions on advertising, and the LCB plans to issue just 334 retail licenses for the entire state. That number is in the same ballpark as the number of state-run liquor stores before sales of distilled spirits were privatized in 2012. But Washington residents could (and can) buy alcoholic beverages in various other places, including bars, restaurants, supermarkets, and convenience stores. Washington, like Colorado, is allowing marijuana sales only in specially designated stores, which may not sell other products (aside from marijuana paraphernalia) or allow on-site consumption. Even if 334 stores were plenty, it's not clear how many of them actually will open, since almost 100 cities and counties have enacted temporary or permanent bans on marijuana businesses. In January, responding to the LCB's request for guidance, Attorney General Bob Ferguson issued an opinion concluding that I-502 allows such bans, since it does not address the issue explicitly and there is a "strong presumption against finding that state law preempts local ordinances."

The LCB says controlling supply is crucial to preventing federal interference. The statewide cap on production, explains LCB spokesman Brian Smith, is designed to "meet the requirements of the U.S. Department of Justice to keep them from shutting down the Washington system." The aim, he says, is to find "the sweet spot" where the supply "reasonably meets market demand without creating too much where it's diverted out of state." And if the LCB guesses wrong, he says, it can always adjust the regulations. "What's built into the system," Smith says, "is the ability, the flexibility, to expand from year to year, to create more as we capture more of the market. It will continue to grow, and I think over about five years is when we're going to really capture a large part of that market."

Still, the state's initial target is surprisingly modest, especially since eliminating the black market was one of I-502's main goals. "I don't know how quickly people moved away from buying their liquor from bootleggers after Prohibition ended," says John Schochet, whose boss, Seattle City Attorney Pete Holmes, was one of the initiative's most prominent supporters. "But I think we start from the view that most people, given a reasonable, legal way to purchase a product, will take the legal way if it's not outrageously expensive and inconvenient. We would like to be more ambitious than the 25 percent figure."

Alison Holcomb argues that the comparison with the end of alcohol prohibition is misleading. "We never had an industrial, legalized cannabis market before prohibition," she says. "And repeal of alcohol prohibition happened nationwide overnight. We're talking two states, and we don't have a giant industry that's stepping in and opening up."

Weedless in Seattle?

Colorado's experience illustrates what happens when the legal supply of marijuana falls short of demand. Because retailers were required to produce most of their inventory but were not allowed to start growing plants for the recreational market until January, the entire legal supply for the recreational market in Colorado initially came from repurposed medical marijuana -whatever dispensaries had left over after serving their existing customers. When the first recreational outlets opened in January, prices shot up, lines formed, and shortages were common.

At the beginning of the year, stores in Colorado were charging as much as $70 for an eighth of an ounce, compared to $20 or $25 per eighth for medical marijuana before recreational sales became legal. As of May, the Medicine Man, a store in Denver, was charging recreational customers $45 for an eighth of Diamond OG, compared to $25 for medical customers. According to The Price of Weed, a website that collects purchase reports from around the country, the black-market price in Colorado was somewhere in between: $30 or so for high-quality marijuana. In other words, legal pot was selling for about 50 percent more than black-market pot.

That situation seemed to contradict basic economic principles. Because of the "risk premium" associated with prohibition, black-market prices should be higher than legal prices, not lower. But since marijuana is still banned by federal law, the risk premium has not been entirely eliminated in Colorado or Washington. Furthermore, legal marijuana sellers face taxes and regulatory costs that their black-market competitors avoid. Add to those factors the shortages caused by simultaneous licensing of growers and retailers, and you can start to understand the counterintuitive gap between legal and black-market marijuana prices.

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  • Free Society||

    It'll be even more difficult to get a sensible laissez faire policy towards marijuana on the books than it was to get it to be ostensibly legal. The current status awards the state untold amounts of power of users and producers. And if governments will do any one thing well, it is to preserve their own power for it's own sake. There is no reasoning with them, there is only reasoning with the multitude fools who give government power it's teeth.

  • Mickey Rat||

    There's also the rather large contingent of knee-jerk anti-free marketers in the pot legalization movement.

  • Restoras||

    Gee, what a surprise, another fucking story on weed.

  • sarcasmic||

    Do they smoke weed on Game of Thrones?

  • Sticky Fingaz||

    A 77-year-old catastrophe of a policy is being reversed and many people are trying to figure out whether this is slow reform or revolution by wildfire and, in any event, what comes next.

    I'd say a little bit of ongoing, long-form, investigative/analytic journalism is warranted.

    So what's your problem, you infected anal cyst?

  • Paper Wasp||

    It's actually a story about how the clear will of a state's voters and taxpayers was subverted in a mire of tedious and completely illogical, arbitrary regulations. Are you more interested now? Because if not, is your mouse working? You can click away from articles you're not interested in.

  • Robert||

    Is Hiatt the one Bagge cartooned, "I've got the right of way, buddy!"? Hilarious.

  • gaoxiaen||

    Good luck on getting a jury that will convict. The trials are a waste of taxpayers' money.

  • gaoxiaen||

    Other than getting a paycheck (from the taxpayers who oppose them), why do these dipshits persist?


    "Only a free market beats a black market."

    Technically speaking a black market is a free market.

    Just not free of state intrusion.

  • NewWorldDan||

    This is actually a good thing. Other states contemplating legalizing marijuana have 2 examples to learn from. Colorado, which by all accounts is doing great with minimal oversight, and Washington which is just a dismal mess. We can only hope that at some point in the future, this will all straighten itself out.

  • Paul.||

    Great article, Jacob.

    Holcomb is an idiot and displays the kind of hubris and confidence that has failure built-in.

  • Scarecrow Repair||

    Found this somewhere, and this mess really makes it ring true, the idiotic silly provisions making no more sense than just because they can tinker.

    "Statists make Frankenstein look like a documentary. They stifle, suffocate, and dismember markets, panic when the economy stumbles, throw random pieces together, apply external stimuli, and proclaim success at the first twitch. They impress themselves and the rubes but have no more idea of what they are doing than astrologers trying to ape science with jargon, formulas, charts, and computers. They bark whatever orders pop into their heads with as much comprehension and accountability as actors following scripts; they are cargo cultists, Easter Islanders, faux-economists who believe incentives work for sin taxes but not other taxes or market interference. They have no grasp on reality, acting as if they can solve problems entirely by passing laws, regardless of consequences, and when the inevitable unexpected consequences do arise, they see no connection with previous laws, only opportunities for new laws."

  • nancy4225||

    Start working at home with Google. It’s a great work at home opportunity. Just work for few hours. I earn up to $100 a day. I can’t believe how easy it was once I tried it out www.Fox81.com


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