The Substitutability of Recreational Substances: Marijuana, Alcohol, and Tobacco

45 Pages Posted: 25 Mar 2018 Last revised: 10 Apr 2018

Keaton Miller

University of Oregon

Boyoung Seo

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy

Date Written: March 24, 2018

Abstract

Proponents of the legalization of recreational marijuana have argued that the policy would result in increased tax revenues for states. However, if legal substances are highly substitutable, tax revenues from marijuana may crowd out pre-existing revenues. We study the interaction between the marijuana, alcohol, and tobacco industries in Washington state using a combination of detailed administrative data on the marijuana industry and scanner data on alcohol and tobacco sales. We estimate a demand system and find that alcohol and marijuana are substitutes, with the legalization of marijuana in isolation leading to a 12% decrease in alcohol demand, and a marginal cross price elasticity of demand of .16. Marijuana legalization results in a 20% decrease in tobacco demand, but the marginal relationship is unclear. When prices are held fixed, 50% of marijuana tax revenue comes from cannibalizing alcohol and tobacco taxes. When those industries adjust their prices, only 22% of marijuana tax revenue comes from alcohol and tobacco. Though Washington has the highest marijuana tax rate in the country, a 1% increase in the marijuana tax results in a 1.01% increase in total revenues collected by the state.

Keywords: Marijuana, Recreational Substances, Substitution, Demand Estimation, Taxation, Industrial Organization

JEL Classification: H20, L65, L66, L00

Suggested Citation

Miller, Keaton and Seo, Boyoung, The Substitutability of Recreational Substances: Marijuana, Alcohol, and Tobacco (March 24, 2018). Kelley School of Business Research Paper No. 18-27. Available at SSRN: https://ssrn.com/abstract=3148773 or http://dx.doi.org/10.2139/ssrn.3148773

Keaton Miller

University of Oregon ( email )

1280 University of Oregon
Eugene, OR 97403
United States

Boyoung Seo (Contact Author)

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy ( email )

Bloomington, IN 47405
United States
812-855-3667 (Phone)

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