The Economics of Prohibition

by Mark Thornton

  A number of alternative policy regimes have been proposed to replace prohibition. Most of these suggestions involve some combination of government and market control. A likely scenario is that after repeal (first for marijuana, then narcotics) the products would simply be governed by existing interventionist measures. For example, narcotics would become a “by prescription only” drug and marijuana would be regulated and taxed like alcohol and tobacco. This would be a simple and politically feasible option.

  While politically feasible and preferable to current conditions, such a solution suffers two important defects. First, interventionist measures were found to be politically unstable for products consumed by a minority of the electorate. This instability is due in part to the second defect of interventionism: its inability to correct true social problems and its tendency to create new ones.

  Based on the results of my research, legalization is the option considered last but most likely to succeed. Decriminalization (the reduction in criminal status or regulation of an activity or product) as a substitute for prohibition is desired primarily as a politically expedient transition mechanism to legalization (to make an activity legal and subject to the normal market and legal constraints). As W. H. Hutt (1971) suggests, political viability should be the last consideration of the policy analyst, if it is to be considered at all.

  Many of the early studies of prohibition were biased and flawed. The level of economic analysis and the methodology employed were simply inadequate to the task of studying prohibition and black markets. Early students of prohibition produced little in the way of an economic theory of prohibition.

  The market-process approach to government intervention provides a general framework of analysis that, when applied to prohibition, yields valuable theoretical insights. Contributions from economics, history, sociology, and criminology support this market-process perspective.

  History reveals that prohibitions were established on rent-seeking grounds. The original intent of temperance reformers was public spirited, but these reformers turned to political solutions, and temperance evolved into a political movement. The adoption of prohibitions was shown to be the goal of a coalition of politicians and bureaucrats, rent seeking on the part of professional and religious groups, and basic prejudice against certain minority and immigrant groups, such as Mexicans and blacks.

  The first result derived from the market-process approach is an understanding of the undiscovered discovery process. Policymakers adopt prohibition policies in part because of their (and their constituents’) failure to recognize the market’s ability to correct for imperfections. The market does not make such corrections perfectly or instantaneously (as indicated by the model of perfect competition), and this is the case with prohibition. Temperance advocates were impatient, so they resorted to politically based solutions, eventually turning to prohibition.

  The unsimulated discovery process (bureaucracy) plays a role in both the adoption of prohibition and its inability to achieve desired results. The bureaucratic nature of government is incompatible with successful experimentation, innovation, and entrepreneurship. Bureaucracy has no clear and objective mechanism for recognizing efficient solutions. Innovation and evaluation are further hampered in bureaucracy by the need to institute system-wide policies and rules.

  The bureaucracy also hampers the market’s ability to produce desired solutions. For example, Sam Peltzman (1974) found that regulation stifled the “discovery process” in the pharmaceutical industry. The stifling of discovery in the market is more severe under prohibition than under regulation because prohibition negates the market, whereas regulation merely hampers it. Prohibition’s stifling of the discovery process extends to other areas, such as product quality, the availability of complements and substitutes, and product information.

  Information is distorted by prohibition in many ways. In the infamous case of the nineteenth-century patent drugs, state prohibition laws and exemptions for patent medicines containing opiates resulted in the widespread addiction of unsuspecting consumers. Individuals seeking relief from addiction or attempting to avoid addiction were duped by the coexistence of state prohibition laws and the availability of legal narcotic preparations.

  While such bureaucratic miscalculation might be treated as ignorance or the result of rent-seeking behavior, it must nonetheless be seen as a normal and predictable result of interventionist policies. A more recent example is the requirement of warning labels on cigarette packages; the unintended effect was an increase in consumption by teenagers of such alternative tobacco products as chewing and snuffing tobacco, for which warning labels were not required.

  The “wholly superfluous discovery process” is a category of results that was found particularly where the black market supplants the legal market. In black markets, the incentives of suppliers tend to be completely dominated by the effects of prohibition. Crime and higher-potency drugs are the types of effects brought about by the new profit opportunities provided by prohibition. The new profit opportunities not only made prohibition more difficult to enforce, they produced results that ran counter to the goals of prohibition.

  The question of the potency and quality of products has important implications for the possibility of effective prohibition. As more resources are devoted to the enforcement of prohibition (or penalties are increased) suppliers resort to increasing potency, higher-potency types of drugs and reduction in product quality, product attributes (such as safety and information), and complementary goods (such as needles, filters, and antidotes). These adjustments not only make prohibition more difficult to enforce, they produce results which are antithetical to the goals of prohibition. Most important, changes in potency and product quality counter the argument that the goals of prohibition are achieved because a smaller quantity is consumed.

  The issues of crime and corruption have negative implications for the possibility of effective prohibition. As more resources are devoted to prohibition, the price of the prohibited product increases. This causes the real income of illegal-drug users to decline and creates profit opportunities for suppliers and public officials. As a result, total crime and corruption increase under prohibition. Crime and corruption make the enforcement of prohibition more difficult because crime increases the income of drug consumers and corruption decreases the costs to suppliers. Crime also increases as enforcement resources are diverted to prohibition. Prohibition-induced crime and corruption also exacerbate the problems that prohibition hopes to solve. Like potency and product quality, crime and corruption act as vents for avoiding the intentions of prohibition and make it more difficult and costly. The increases in crime and corruption due to prohibition hinder the attainment of effective prohibition.

  IS EFFECTIVE PROHIBITION POSSIBLE?

  It is possible to enact prohibitions under virtually any form of government, and in fact, prohibitions have been enacted by almost every presently existing national government and the United Nations. It is also now generally agreed that complete prohibition is impossible to achieve, except in the most limited sense (where there is little or no existing demand for the product or where there exist near-perfect legal substitutes). The political possibility of enacting prohibition and the impossibility of achieving complete prohibition, however, are not the issues raised here.

  The debate about prohibition has centered on the costs and benefits of prohibition. The intended benefits of prohibition all depend on decreasing the quantity consumed. The costs of prohibition include the explicit cost of law enforcement and implicit costs, such as the opportunity cost of the courts and prisons, and the increased crime and corruption that result from prohibition. The cost of prohibition has been shown to be a function of the resources devoted to the enforcement of prohibition and to be greater than previously thought. An important but neglected cost is the stifling effect that prohibition has on the market-discovery process.

  The case against prohibition presented here does not rest mainly on the cost of prohi
bition outweighing the benefits, but rather on the absence of benefits as the decrease in quantity is more than offset by higher potency, more dangerous types of drugs, and increased crime and corruption. Just as consumers have demonstrated that they will pay black-market prices for prohibited goods, however, supporters of prohibition have demonstrated that they will vote for increasing amounts of resources to enforce prohibition. This support continues despite the public’s recognition of the inability of these increased resources to bring about desirable results.

  Randy Barnett (1987, 73–76) notes that Americans have become psychologically addicted to drug laws. He also realizes that other drug-law users, such as politicians, bureaucrats, researchers, and academics, ignore the costs of prohibition because of their “economic dependence” on such laws. Thomas S. Szasz (1985, 342–45 and elsewhere) makes the argument that the United States has become a therapeutic state (union of state and medicine), similar to the theocratic state. In a therapeutic state the interests of government and medicine dominate any concern about the costs of prohibitions.

  The benefits of prohibition (if there are any) must be viewed by the economists as just as subjective as the value of lollipops or the Mona Lisa. Due to its political nature and a lack of market valuations, the value of prohibition simply cannot be definitively and accurately demonstrated. In fact, the current prohibitions were not and never have been subject to a popular vote. Policy experts and pollsters can provide no more than “best guesses” produced by politically motivated cost-benefit analysis and opinion surveys.

  Fortunately, a more basic level of analysis is available for the economist to consider—the existence, rather than the perception or amount, of benefits. The neglect of this fundamental level of analysis can be attributed largely to the reduction in quantity demanded that is expected from prohibition and to the fact that the benefits of prohibition are perceived to be a function of the quantity consumed. If prohibition increases price, other things equal, there must be benefits. While prohibition certainly does increase price, it also increases potency and decreases quality. While not crucial to this argument, many, including Brecher (1972), have argued that prohibition increases the demand for and consumption of the prohibited product.

  With regard to quantity consumed, increase in potency is a major factor in maintaining the real quantity-consumed constant. As to the quality of the product, it is greatly diminished by prohibition. The combination of increased potency and decreased quality makes the consumption of the product more dangerous and possibly more addictive. The substitution of more dangerous types of drugs has also been found to be a predictable effect of increased enforcement. Prohibition will deter some occasional users of a product but is unlikely to deter consumers who have an addiction to the prohibited good.2 Those who do curtail their consumption of prohibited drugs can easily substitute legal drugs, intoxicants, and narcotics.3

  Prohibition does not eliminate access to the product and does not discourage the very type of consumption it was designed to discourage. Therefore, the argument that increased price reduces quantity consumed and therefore produces benefits has yet to be established either in theory or in fact. The quantity of drugs captured by law enforcement is not a benefit of prohibition; it is merely a cost of doing business in the black market.

  Prohibition appears to be helpless in decreasing demand or in preventing increases in demand. Government statistics indicate that the consumption of marijuana has decreased or leveled off in recent years. Still, it would be a mistake to declare this a benefit of prohibition and increased enforcement. First, the statistics themselves are in some doubt. Marijuana production has increased in small plots and indoors, where information on production is difficult to ascertain, and the potency of marijuana has continued to increase. Potency-adjusted consumption of marijuana may have increased. Even if a decrease in consumption has occurred, it would not be a benefit of prohibition; quite the contrary. Government estimates of consumption have shown that the street price of marijuana has increased, the price of cocaine has decreased, and the consumption of cocaine has increased. These estimates are consistent with a shift in demand between substitute products, which is predictable as a result of increased enforcement.

  In this book I have established the possibility of the impossibility of prohibition. The stronger case—that effective prohibition is impossible (that is, without any benefit)—is difficult to demonstrate and is subject to a variety of criticisms. A general criticism of the impossibility thesis is that all the possible benefits were not considered. Indeed, one point raised concerning the effects of prohibition is that not all the possible ramifications of prohibition may be known or apparent to either the examiner or the policymaker. For example, it could be claimed that prohibition can reduce expenditures on a certain product under certain conditions.4

  In this book I have examined all the (well-intentioned) known arguments for prohibition. Many of these arguments I have explored in great detail. None of them can be shown to have demonstrated viable benefits, and no empirical study has been found to negate this conclusion adequately. Many of the arguments I examined here need further inspection and elaboration.

  The termination of prohibition does not necessarily follow from the theoretical conclusion that prohibition is effectively impossible. Two important questions must first be raised. First, given the costs that prohibition has imposed, is termination a reasonable course to follow? For example, prohibition has resulted in higher-potency products and new, more dangerous drugs. Would repeal result in even higher potencies and more dangerous drugs? Second, despite a lack of benefits, might not prohibition still provide value? For instance, if we assume that the market does not induce improvements and the costs of prohibition can be ignored, might not prohibition provide value to society by taking a position (although futile) on an important issue? While these two questions do not deal directly with the economic results of prohibition, they are important policy considerations.

  ALTERNATIVE POLICY REGIMES

  Much of the debate about prohibition concerns how to enforce it and how much to spend on enforcement. I argue that enforcement cannot achieve the public-spirited goals of prohibition and that more resources will only make a bad situation worse.

  Alternatives to prohibition involve some measure of decriminalization. Policy options such as nationalization (government drugstores), licensing requirements, price controls, taxation, regulation, a variety of maintenance programs, quarantine, education, and rehabilitation would be improvements over prohibition. Many of these reforms are questionable, however, in terms of their effectiveness, their ability to produce long-term solutions, and their stability as long-term public policy. These reforms have the additional liability of being specific to one prohibition, rather than being a general remedy for all prohibitions. Full legalization is an alternative to these interventionist reform measures. The major problems it poses are its political feasibility and stability.

  Clague (1973) examined several strategies for dealing with heroin addiction, including prohibition, strict and permissive methadone maintenance programs, heroin maintenance, and quarantine. He then evaluated these schemes against seven criteria: amount of crime, number of addicts, well-being of addicts, police corruption, violation of civil liberties, legal deprivation of traditional liberties, and respect for law (in general). Based on his analysis, Clague ranked each scheme’s performance on the seven criteria on a five-point scale.5 He found that prohibition ranked last and heroin maintenance ranked the best.6

  While heroin maintenance ranked the highest among the policies studied, Clague admits that for a variety of reasons, it is not “an ideal solution to the heroin problem” (1973, 267). In addition to maintaining addiction and several practical problems, government-sponsored maintenance programs involve taxpayer subsidies to addicts. This option creates resentment on the part of antidrug taxpayers and therefore political instability.7 John Kaplan (1983) also examined a variety of policy options for heroin
. He also found that heroin maintenance and other options faced operational drawbacks and political obstacles.8

  Moore (1973) suggested that a policy of heroin maintenance for addicts combined with prohibition would achieve price discrimination in the heroin market. Maintenance would reduce the costs of addiction to the addict and society, while prohibition would impose a greatly increased price on illegal heroin (over general prohibition) and therefore discourage experimentation with heroin. Moore’s “highly speculative discussion” was not meant to demonstrate which policy was most desirable but rather was intended to investigate the determinants of effective price and, with extension, demand for heroin. In this sense, Moore’s contribution is an important contribution to the a priori evaluation of various policies.

  Fines have been suggested as an efficient substitute for imprisonment. If prohibition can be viewed as a form of price control, then fines could be substituted as a deterrent that would save prison resources. John R. Lott and Russel D. Roberts (1989) have examined this question and found that a legalization and price-control approach for traditional “victimless crimes” (for example, prohibitions) lacks the necessary incentives for effective enforcement. In addition, victimless crimes are difficult to monitor; the goods are highly mobile, a social stigma is attached to these goods, and the queuing or surpluses that result from price controls present special social problems. Therefore, what works in the enforcement of rent controls and minimum-wage laws does not work in the enforcement of prohibitions. Taxation is an often-suggested alternative to prohibition. Taxing marijuana is seen as a particularly viable option, but taxing opiates is not (Kaplan 1983, 150–51). The benefits of taxation include a reduction in crime and a deterrent to buying because of the higher cost, but the primary benefit is political. The revenue would make decriminalization more attractive to taxpayers and politicians. While the taxation option has much to recommend it, many of its beneficial aspects are reduced or eliminated as the tax rate increases.9 High tax rates would maintain the black market, smuggling, crime, and corruption, and have little positive impact on drug abuse and therefore would create the preconditions for introducing prohibition. Even an ad potere tax has drawbacks, such as sending signals to potential consumers that low-potency products are safe to consume.