The Effect of Cannabis Legalization on Substance Demand and Optimal Taxes

51 Pages Posted: 25 Mar 2018 Last revised: 14 Oct 2019

See all articles by Keaton Miller

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

Cannabis advocates argue legalization will increase tax revenues. However, if legal substances are substitutes, cannabis revenues may crowd out other taxes. We document substitution between legal cannabis products and alcohol and tobacco products using detailed administrative and scanner data from Washington state. We estimate a flexible demand system for legal substances and find legalizing cannabis leads to a 9% decrease in alcohol and a 12% decrease in tobacco demand. We find the revenue-maximizing tax rates for cannabis products are above the current rates. Without considering substitution between substances the government would lose 33% of available revenue.

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

JEL Classification: H20, L65, L66, L00

Suggested Citation

Miller, Keaton and Seo, Boyoung, The Effect of Cannabis Legalization on Substance Demand and Optimal Taxes (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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