The Black Market for Weed Is Keeping the Legal Market Afloat
Industry experts say San Diego’s limited number of licensed shops can’t possibly meet the demands of consumers until the city’s supply chain is fully up and running. In the meantime, the people need options.
California regulators had plenty of examples to learn from last year when they rushed to establish the world’s largest legal marijuana market. Despite some delays and confusion, they managed to put together a functioning system.
But success over the next year, on both the state and local level, is far from certain.
Eliminating the black market in San Diego — one of the selling points of Proposition 64 — won’t be easy. Nor is it necessarily a good thing in the short-term.
To prevent the system from collapsing in its early stage, analysts and industry professionals say, consumers need options, and the licensed shops cannot meet the demands of the region until the city’s supply chain is fully up and running. That means the black market still has a role, at least for the time being.
“If you never intended to get into the regulated market, you’ll be set for a long time,” said Joe Casey, who runs a delivery service.
Experience in other states has shown there is a delicate balance between regulations and natural market forces.
“If you tax people too high, you push them into the activity you’re trying to eliminate,” said Phil Rath, a United Medical Marijuana Coalition lobbyist who helped draft the city’s rules. “There’s a point of diminishing returns.”
The sweet spot isn’t obvious.
Local buyers in the newly legal market have expressed shock at the combined effect of local and state taxes on marijuana. At 28 percent, those taxes are lower than other legal markets in the West, but they’re only going up.
Thanks to a 2016 ballot proposal, San Diegans agreed to increase the local sales tax another three percent in July 2019. The City Council could increase it another 7 percent beyond that.
A Fitch Ratings report out of San Francisco, released in August, estimated that California’s effective tax rate statewide — including the taxes on cultivation, which are weight-based — could reach 45 percent. Oregon was listed at 20 percent, Colorado at 36 percent, and Washington at nearly 50 percent. To keep their legal markets competitive, all three states have taken steps to reduce their taxes.
Those states have also seen declines in the price of marijuana flower, as markets mature and members of the supply chain — the growers, manufacturers, distributors and testers — settle in.
Between the first and second weeks of January, the wholesale price of flower in California fell from $1,455 to $1,351 a pound, according to Cannabis Benchmarks, a private company that analyzes marijuana like a commodity. But there’s no guarantee that trend will hold. In fact, it’s likely that as time progresses, supply-chain pressures will push prices up.
For now, state regulators are allowing retail shops to sell products from their existing inventories that don’t meet certain testing and packaging requirements. Many dispensaries stocked up before the New Year, with some in San Diego buying six months’ worth of supplies. On July 1, licensed retailers in California will only be able to buy from licensed distributors, and so on down the chain.
Oregon, on the other hand, required dispensaries to abide by the new standards on day one back in 2015, which helped increase the price of marijuana, said Cannabis Benchmarks editorial director Adam Koh.
California regulators appear to have learned from that experience and have been conscious of not throwing too much at local dispensaries too soon, he said.
Koh also stressed that the state’s legal market is still relatively small when compared to its future scope, and that preventing a bottleneck in the supply chain is important. Ironically, that means the demand needs to remain relatively low in the short-term, so that consumers don’t exhaust the inventories that are available.
To keep things stable in San Diego, the City Council has grandfathered-in a number of businesses along the supply chain while those businesses get their state licenses in order.
The number of retail shops is also a key factor — and a source of contention in recent months.
Last week, San Diego City Councilman Chris Cate asked law enforcement to step up its efforts and consider suing the Irvine-based Weedmaps, an online marketplace that does not distinguish between licensed and unlicensed sellers.
Unfazed by the threat, the company argued in a memo to City Hall that the real problem in San Diego was too few retail shops and a lack of home-delivery services: A region of approximately 1.4 million people has access to 17 medical shops, 13 of which have gotten state approval to sell recreationally too.
Vice president of government relations Dustin McDonald said the company’s research has suggested that there should be one storefront or delivery service available to every 7,500 residents if officials are serious about rendering the black market ineffective. The current ratio in San Diego is 1 storefront per 82,000 residents.
As governments throughout the county can attest, many of the dispensaries that get shut down simply pay their fines and reopen within weeks, if not days, because the profit is worth it. That puts financial pressure on law enforcement, which gets passed down to taxpayers.
Based on public records requests and interviews with officials, Weedmaps estimated that a single raid on a dispensary — requiring police, fire, code enforcement and other officials — can cost between $50,000 and $100,000.