Markups in Illegal Trade and Possible Impact of Legalization

"Markups in the illicit drug trade are orders of magnitude higher than markups for legal goods. For example, coffee beans cost around five times more at retail than at farm gate, whereas heroin costs around 170 times more.46 Markups are higher for a number of reasons: participants must be compensated for the risks of incarceration and violence, prohibition reduces the efficiency of production and distribution, the supply chain is long with a large number of middlemen, and some participants have substantial market power. On the production side, the illicit nature of the drug trade reduces efficiency, as drug cultivation must be concealed, transport may not take direct routes and requires extensive bribes, and a drug dealer typically handles far fewer transactions per day than a pharmacist or grocer. Finally, at certain segments of the supply chain, participants may exercise significant market power through controlling trafficking routes or consumer markets. The fact that they face at most limited competition allows them to set higher prices.
"For many drugs, especially those that are plant-based, markups could fall substantially if the substances were produced, transported, and distributed like other commercial goods. Using reasonable assumptions about the cost of transport and retail markups under a commercialized regime, one 2012 study calculates that the price of cocaine (prior to any taxation or fees) could fall 96 percent, from about $66 to $2.78 per gram at 63 percent purity, and retail heroin prices could fall by 98 percent, from about $140 to $3 per gram at 55 percent purity.47 For marijuana, a recent study calculates that if high-potency marijuana could be legally cultivated in large grow houses (at $200-$400 per pound), the retail price per ounce could fall by more than 80 percent.48 If plants could be cultivated in large outdoor fields, the same study estimates that the price decline would be even greater, albeit for a less potent substance. These same studies do not take into account the impact of any taxation or other administrative fees that could be imposed to raise retail prices closer to previous levels."

Source: 

Organization of American States, "The Drug Problem in the Americas: Studies: Chapter 4: The Economics of Drug Trafficking," 2013, p. 23.
http://www.cicad.oas.org/Main/...

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