Chapter 15 the economics of illegal drugs Introduction to Economics: Social Issues and Economic Thinking Wendy A. Stock PowerPoint Prepared by Z. Pan Chapter 15 the economics of illegal drugs Copyright © 2013 John Wiley & Sons, Inc. / Photo Credit: Daniel Grill/GettyImages, Inc.

After studying this chapter, you should be able to: Describe the incidence of drug use Model the externalities associated with drug use Describe the incomplete information problem associated with drug use Appraise the policy responses to drug use Analyze supply and demand issues in regulation policy Analyze the impacts of drug legalization Copyright © 2013 John Wiley & Sons, Inc.

Copyright © 2013 John Wiley & Sons, Inc. “War on Drugs” War on Drugs began in the 1970s Against heroin, cocaine, crack, marijuana, methamphetamine, etc. Federal funding for drug control programs $15.5 billion annually 2 million Americans are arrested for drug-related offenses each year Copyright © 2013 John Wiley & Sons, Inc.

The Incidence of Drug Use in U.S. Copyright © 2013 John Wiley & Sons, Inc.

Copyright © 2013 John Wiley & Sons, Inc. The Market for Drugs Copyright © 2013 John Wiley & Sons, Inc.

Market Failure: Externalities Externalities occur when some of the costs or benefits of a trade are imposed on people outside the trade. Negative externalities are costs that are imposed on third parties. Positive externalities are benefits that are imposed on third parties. Copyright © 2013 John Wiley & Sons, Inc.

Private vs. Social Marginal Costs Private marginal costs are marginal costs that accrue only to the producers of a good or service. Social marginal costs are marginal costs that accrue to society as a whole. MCsocial = MCprivate + Negative Externality Copyright © 2013 John Wiley & Sons, Inc.

Negative Externality in Drug Market Copyright © 2013 John Wiley & Sons, Inc.

Market Failure: Imperfect Information Imperfect information occurs when demanders or suppliers do not know the true costs and benefits associated with a good or service. e.g. cigarette industry Copyright © 2013 John Wiley & Sons, Inc.

Fighting Drugs: Demand-side Policies Laws that illegalize drug use Prevention and treatment programs 1970s - methadone clinics 1980s – “Just Say No” campaign D.A.R.E. program Montana Meth Project (MMP) Copyright © 2013 John Wiley & Sons, Inc.

Impact of Demand-side Policies Copyright © 2013 John Wiley & Sons, Inc.

Fighting Drugs: Supply-side Policies Interdiction (disrupting transport of drugs), 2.5 billion dollars per year Destroying drug production facilities, eradicating crops Pressuring foreign governments to help reduce exports of drugs to U.S. Copyright © 2013 John Wiley & Sons, Inc.

Impact of Supply-side Policies Copyright © 2013 John Wiley & Sons, Inc.

Importance of Elasticity of Demand When the demand for drugs is relatively elastic, supply-side policies cause the quantity of drugs used to fall dramatically from Q to Q'. Copyright © 2013 John Wiley & Sons, Inc.

Importance of Elasticity of Demand When the demand for drugs is relatively inelastic, supply-side policies do not generate very large reductions in drug use, but do cause large increases in drug prices. Copyright © 2013 John Wiley & Sons, Inc.

Policy Implications of Elasticity Elastic Demand Marijuana Methamphetamine Inelastic Demand Heroin Cocaine Results of Supply-side policies large reductions in quantity and small increases in price for marijuana large increases in price but only small reductions in quantity traded for heroin, cocaine Copyright © 2013 John Wiley & Sons, Inc.

Economics of Legalization Personal Use of Marijuana by Responsible Adults Act in 2009 16 states allow for legal use of marijuana for medical purposes Impacts on Children? Gateway to more dangerous drugs? Historical experiences in legalizing illegal goods/services Abortion (Roe v. Wade in 1973) Alcohol (Prohibition period 1920-1933) Copyright © 2013 John Wiley & Sons, Inc.

Factors Affecting Demand & Supply Higher Demand due to: Costs of using it (fines and imprisonment) fall Higher Supply due to: Risk of fines and imprisonment for producers falls Production and transportation costs fall Better production technology Safer drug under regulation? Copyright © 2013 John Wiley & Sons, Inc.

Potential Impacts of Legalization What would happen to the price of marijuana? Copyright © 2013 John Wiley & Sons, Inc.

Addressing Negative Externalities Taxing drugs like pollution Copyright © 2013 John Wiley & Sons, Inc.

Questions/Discussions In 2011, 16 states had enacted laws legalizing medical marijuana. How would the legalization of medical marijuana affect the market for illegal marijuana? Would legalizing drugs reduce crime? Why or why not? Copyright © 2013 John Wiley & Sons, Inc.

Copyright © 2013 John Wiley & Sons, Inc. Key Concepts Negative externalities Positive externalities Private marginal costs Social marginal costs Imperfect information Copyright © 2013 John Wiley & Sons, Inc.