A NEW KIND OF DRUG WAR

The Conventional One Has Been Highly Costly, With Little Return. Making
Narcotics Legal -- And Very Expensive -- Can Reduce Addiction And Crime

Starting with Richard Nixon, every U.S. President has declared war on
drugs. The FBI, CIA, DEA, military, and countless prosecutors have devoted
enormous resources to combating narcotics over the past several decades.
According to an estimate by Boston University economist Jeffrey A. Miron,
federal, state, and local governments have put some $33 billion in
resources toward prosecuting the war on drugs in recent years.

How is the return on that investment? Abysmal. The demand for such illegal
drugs as marijuana, cocaine, and heroin remains strong. Drug lords and
their cartels terrorize nations and local communities. Crime and corruption
derived from the illegal drug trade flourish. U.S. prisons are crowded with
drug-law offenders -- more than 54% of federal prisoners sentenced in 2004
were sent away for breaking drug laws.

REMEMBER PROHIBITION. Here's how Harvard University economist and
BusinessWeek commentator Robert J. Barro summed up the record of the war on
drugs in his paper Getting It Right: Markets and Choices in a Free Society:
"The experience with drug enforcement shows that prohibitions of
recreational drugs drive up prices, stimulate illegal activity, have only a
moderate negative effect on consumption, and impose unacceptable costs in
terms of high crime, expansion of prison populations, and deterioration of
relations with the foreign countries that supply the outlawed products."

It's time to consider a dramatic shift in policy. Instead of the battle cry
"war on drugs," let's try the mantra "legalization, regulation, and
taxation." We should regulate narcotics just as we do cigarettes and
alcohol, restricting sales to minors and imposing steep excise taxes.

Indeed, the model for dealing with alcohol is instructive. Banning alcohol
outright in the U.S. was a public policy disaster. Ending Prohibition
quickly cleaned up the liquor industry. Gangsters were denied a lucrative
source of income, and violent crime associated with the business fell.

FEAR FOR KIDS. Similarly, legalizing drugs would eliminate much of the
profit, corruption, and violence from the trade. The risk of death or
impairment from contaminated drugs would decrease. And the shift in focus
would free up scarce government resources at a time when the twin demands
of an aging population and the war on terror are putting stress on the
fiscal purse.

The notion of legalizing drugs isn't new. Milton Friedman, the dean of
conservative economists, argued as long ago as 1972 that "legalizing drugs
would simultaneously reduce the amount of crime and raise the quality of
law enforcement." Yet the idea never garnered much support beyond a hard
core of conservative economists, libertarian idealists, and the occasional
hard-pressed mayor and discouraged drug warrior.

The reason: Fear that the post-legalization drop in drug prices would cause
the ranks of addicted citizens to soar. For instance, it's estimated that
cocaine sells for 10 to 40 times its free market price. So, even though
many practitioners of the dismal science believed the benefits of
legalization would far outweigh the cost, many middle-class voters looked
at their kids and decided that the risks weren't worth taking.

PRICE MATTERS. Yet recent research suggests that legislators and voters
should take a close look at legalization. A recent paper by Nobel laureate
and University of Chicago economist Gary S. Becker, his faculty peer Kevin
M. Murphy, and City University of New York economist Michael Grossman
persuasively argues that fighting a war on drugs through legalizing and
heavily taxing them could be more effective in curbing consumption than
prohibition and prosecution.

Their highly theoretical paper, "The Economic Theory of Illegal Goods: The
Case of Drugs," builds on years of empirical work into the economics of
illegal drugs. A key insight of the literature is that price matters --
even with addictive substances. Just as lower prices for drugs encourage
consumption, higher prices discourage it.

In another research paper, Grossman delved into the impact of price on the
consumption of cigarettes, beer, and marijuana from 1975 to 2003. His
results are intriguing. He found that the 70% increase in the real price of
cigarettes since 1997 (thanks to the tobacco settlement with state
attorneys general) explains almost the entire 12% reduction in the
cigarette smoking participation rate since then. The 7% increase in the
real price of beer from 1990 to 1992 accounts for almost 90% of the 4
percentage point reduction in binge drinking through 2003.

SHOCKING SUM. Similarly, the increase in the real price of marijuana from
1975 to 1992 accounts for 70% of the usage reduction during that time
period. Falling prices contributed some 60% of the increase in substance
abuse from 1992 to 1997, and another wild upswing in price powered 60% of
the decline in toking during the remaining years under study.

To be sure, addictive drugs are hard to quit. Many people who manage to
stop snorting or shooting up spend the rest of their lives fighting the
urge to get high. Still, one can't ignore that price matters even in this
market.

Grossman's results remind me of my bunk mate on the rust-bucket oil tanker
we worked on in the late 1970s. He was a grizzled old-timer carrying the
scars of years of union organizing. Those times were long gone, as was his
habit of smoking several packs a day. One night, between sips of coffee, he
told me that he once calculated how much he was spending a year on
cigarettes. The sum -- a couple of thousand dollars even back then --
shocked him, and he quit.

NO PANACEAS. The Becker, Murphy, and Grossman analysis suggests that with
the addition of a steep excise tax -- several hundred percentage points
above the cost of wholesale production, for example -- the price of cocaine
could be greater than the price the fruitless war on drugs supports. It's
possible that consumption would be lower in a high-tax regime than it is in
today's law-enforcement environment.

A high price would give some producers an incentive to go underground as
well. But law enforcement could focus its efforts on a much smaller illegal
economy. And the tax revenue could go toward funding treatment programs.

Let's be clear: There are no panaceas and no easy choices here. As a
parent, I find the notion of making heroin or cocaine legally available at
the corner liquor store frightening. Yet -- with the benefit of several
decades' worth of hindsight -- legalization, taxation, and regulation
appear superior to the current strategy of prohibition and prosecution.
There's just too much human devastation, violent crime, corruption,
disease, and wasted time and money embedded in the old approach.

I know that the cost of drug abuse and addiction -- including nicotine and
alcohol -- is already substantial, especially measured by increased
health-care expenditures and lower worker productivity. And I have no wish
to see the numbers of addicts increase. But there's the hope that with a
carefully crafted new paradigm of legalization, there could be fewer users.
That's positive. There's nothing positive to be derived from staying with
the status quo.

Farrell is contributing economics editor for BusinessWeek. You can also
hear him on Minnesota Public Radio's nationally syndicated finance program,
Sound Money, as well as on public radio's business program Marketplace.
Follow his Sound Money column, only on BusinessWeek Online.