The Cannabis Black Market Epidemic

July 24, 2019

When the new marijuana shop opened up just down the street from his own marijuana shop, Greg Meguerian, owner of The Reefinery in Los Angeles, kept an eye on it. When that shop stayed open past the legal closing time of 10 p.m. and sold customers over a quarter-pound of cannabis at once, four times more than the legal limit, Meguerian knew he wasn’t competing with a licensed dispensary.

 

“It’s so shady, if you look at it,” Meguerian said. “It looks like a shady crack house.”

 

The 15 Spot—as the tarp sign hung in front doesn’t appear on Los Angeles’ list of authorized retail businesses. Meguerian and his lawyer reported the dispensary, but it’s still open—and Meguerian is paying a price. He said his sales are down noticeably since his illicit competitor moved in. Calls to the 15 Spot went unanswered because its phone is disconnected.

 

“I told the state, ‘If I lose 20 percent, you just lost 20 percent in taxes,’” he said. “You feel like your words are falling on deaf ears.”

 

What’s happening to Meguerian is a window into one widespread side effect of marijuana legalization in the U.S.: In many cases it has fueled, rather than eliminated, the black market.

 

 

In Los Angeles, unlicensed businesses greatly outnumber legal ones; in Oregon, a glut of low-priced legal cannabis has pushed illegal growers to export their goods across borders into other states where it’s still illegal, leaving law enforcement overwhelmed. Three years after Massachusetts voters approved full legalization of marijuana, most of the cannabis economy consists of unlicensed “private clubs,” home growing operations and illicit sales.

 

Though each state has its own issues, the problems have similar outlines: Underfunded law enforcement officers and slow-moving regulators are having trouble building a legal regime fast enough to contain a high-demand product that already has a large existing criminal network to supply it. And at the national level, advocates also point to another, even bigger structural issue: Problems are inevitable in a nation where legalization is so piecemeal.


“You’re never going to eliminate [the illicit market] until most of the states are legal,” says Adam Smith of the Craft Cannabis Alliance, a group in Oregon advocating for small cannabis farmers. “As long as half the country still can’t get it legally, there’s a market for it illegally.”

 

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State troopers in Idaho don’t know why they are seizing so much marijuana crossing their borders, but the numbers offer a pretty strong clue.

 

With Oregon growers producing three times more marijuana than consumers inside the state can handle, neighboring Idaho has reported a 665 percent increase in the amount of illicit marijuana officers have seized. In 2016, the year before Oregon’s adult use laws took effect, troopers confiscated 508 pounds of marijuana.

 

Oregon’s new recreational market went into full effect on January 1, 2017, and the number of licensed dispensaries jumped from 99 to 260. That same year, the amount of cannabis confiscated by Idaho state troopers skyrocketed to 1,376 pounds and kept climbing. Last year, seizures totaled nearly a ton.

 

Law enforcement officers in Oregon, though, are under no illusion that their state’s growers are not feeding that supply.

 

“If anything, it’s gotten worse" since legalization, Oregon State Police Sgt. Brandon Boice says. “There’s still high demand for Southern Oregon marijuana throughout the country, that has not changed.”

 

When Oregon legalized marijuana in 2014, the state tried very hard to stifle its black market by ensuring the path into the legal market was as easy as possible. It did not limit licenses and it simplified regulations, creating a program with one of the lowest barriers to entry in the United States.

 

It worked.

 

Now, Oregon is an easy place to find high-quality, cheap, legal marijuana. There are more than 650 licensed marijuana dispensaries in the state, or three times the number of McDonald's restaurants (205). If you’re an Oregonian living in a town or county with legal pot and you want to buy marijuana, there is no reason to shop illegally.

 

John Hudak, a cannabis expert at the Brookings Institution in Washington, D.C., says he is skeptical that Oregon’s legalization correlates to an increase in black market cannabis exports. But the Oregon Legislature has taken steps to curb the siphoning of its oversupply out of the legal market. This April, state Senator Floyd Prozanski cited the illicit market in his support for a bill that would cut down on the number of licenses available in Oregon.

 

But there are 39 states where marijuana remains illegal for recreational use and that has proved to be an attractive market for Oregon growers. Boice estimates there might be more illicit marijuana growing in Southern Oregon than there was before legalization, with almost all of it heading out of the state.

 

“Law enforcement is just inundated with illegal marijuana and exportation,” Boice says. “There aren’t enough resources in place for us to do anything about it.”

 

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If Oregon’s surplus of legal marijuana has become a massive headache for its neighbors like Idaho, the illicit markets thriving in parts of California and Massachusetts are self-inflicted wounds. High state taxes and fees are driving up the price of legal cannabis, and mild repercussions for remaining unlicensed discourage existing business owners from navigating the complex licensing process in both Los Angeles and Boston.

 

Massachusetts legalized the sale of marijuana in 2017. Since then, close to 200 business licenses have been approved across the state. Boston approved its first one just this past week.

 

As they wait for approvals that don’t come, marijuana businesses continue to operate in a legal gray zone. Sieh Samura, 40, opened his private cannabis club in Boston in 2014, when only medical marijuana was legal. In 2018, Samura was given priority status under the state’s community empowerment program. Almost a year and a half later, Samura still doesn’t have an open dispensary. He needs something called a community agreement from Boston before he can apply for his state license, and he doesn’t have that yet.

 

So in the interim, Samura has continued running his private club, one of a handful in Boston and Worcester, where customers can bring their own product—much of it home grown or purchased on the illicit market—and share and smoke communally. They are unlicensed and supposedly legal, but when asked by POLITICO, state and local officials disagreed on whose job it is to regulate them.

 

When she heard this, Massachusetts-based cannabis advocate Maggie Kinsella laughed. “So basically nobody knows what’s going on.”

 

Kinsella says this runaround between state and local governments has left New Englanders in the cannabis industry to fend for themselves. She says the lack of legal dispensaries with good product means 80 percent of the market is still underground. And a lot of the customers at the legal dispensaries, she adds, are primarily from out of state.

 

“It’s probably premature to say that we’ve had a big dent in the illicit market,” says Steve Hoffman of the Massachusetts Cannabis Commission, the state’s independent commission created to monitor the licensed cannabis market. And, he adds, “I don’t think we’re ever completely going to eliminate the illicit market, I think that’s probably unrealistic.”

 

Like many cannabis advocates, Hoffman says the illicit market in Massachusetts likely won’t die until cannabis is fully legalized federally and access to things like banking—for basic needs such as loans and deposits—is easier for startup marijuana businesses. The barriers to entry, he says, are still high and discourage even those who have had approved licenses from opening up shop.

 

In California, where the statewide regulatory apparatus is legendarily hard to navigate, those barriers to entry are only magnified.

 

“California is so big, the problem is the opportunity,” says Kyle Kazan, CEO of California Cannabis Enterprises, which operates dispensaries in Los Angeles and Santa Ana and will soon open a third in Santa Barbara.

 

“You better have a lot of money and a whole lot of patience,” he says. “Because California is so not for everybody.”

 

High startup costs, licensing fees, and taxes make it hard for cannabis businesses to compete with unlicensed dispensaries that get equal billing on Weedmaps, the Yelp of cannabis. Los Angeles, for instance, is estimated to have more than 1,000 dispensaries, according to some advocates, but only 200 of them are licensed. This means the vast majority are illegal businesses.

 

Some groups are trying to get legislation passed in California that would make it illegal for companies like Weedmaps to accept advertising from illegally operating dispensaries, but he deep-pocketed Weedmaps is fighting tooth and nail... and has been successful in their attempts to quash meaningful changes in regulations to date.

 

Ruben Honig, executive director of the United Cannabis Business Association in Los Angeles, is on the front lines of the battle. He says that illegal cannabis is wrong for many reasons, including potential contamination, reduction in tax revenues, unfair competition, and more. As the largest trade association of legal cannabis businesses in Los Angeles, the United Cannabis Business Association (UCBA) supports efforts to eliminate the black market and educate consumers about the advantages of buying product from licensed retailers.

 

“Illegal operators continue to endanger the public by selling untested products," he said. "Licensed operators should not have to compete against a market that does not pay taxes, doesn’t adhere to employment laws, sells untested products and puts consumers in harm’s way with increased public safety issues. Existing operators, especially in the City of Los Angeles, will not survive without a relatively level playing field.”

 

This problem has existed ever since the early 2000s when law enforcement failed to address the explosion of medical dispensaries. The result was the growth of a vigorous unlicensed businesses—operating in the open, but with no permits to sell cannabis. The problem metastasized when the state legalized adult-use marijuana in 2016. Los Angeles was slower to issue licenses than some other Californian cities like San Francisco or neighboring West Hollywood, leaving a market gap for unlicensed players to fill. Customers in Los Angeles can’t easily distinguish a licensed dispensary from an unlicensed one.

 

The city has dedicated close to $14 million to the problem. And it has conducted raids, most notably a citywide crackdown in 2018 that resulted in the closure of 108 unlicensed businesses—but often the dispensaries just pop up again somewhere else. The city shuts off power and then the dispensaries buy generators. The LA city attorney has begun to go after landlords, levying $20,000 fines for every day the illicit dispensaries remain open.

 

California Bureau of Cannabis Control spokesman Alex Traverso says not all unlicensed dispensaries in Los Angeles are bad actors, though. Some, he says, want to enter the legal market but the barriers to entry are too high.

 

They "are paying their taxes and are trying to do things right, they just don’t have the ability to get a license.”

 

Traverso’s solution is much like the approach favored by advocates in Massachusetts and Oregon: Make the market legal at both the state and the national levels.

 

“Of all the 542 cities and counties we have in the state, collectively, only a quarter of those allow retail locations,” Traverso said. “But to say there are no retail locations operating in those ... just because you ban [marijuana] doesn’t mean it’s not there.”

 

It’s not just the legal-business owners who are taking the hit. Meguerian, the Los Angeles dispensary owner, is right that his losses are also the state’s. Before California voted to fully legalize cannabis in 2016, officials estimated the state would pull in $1 billion in tax revenue in 2018. In the end, it has collected slightly more than a third of that, putting a painful financial point on an unfulfilled promise of the national legalization movement.

 

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In the end, many advocates say, states can do much more to fight the black market, but it will never be fully gone until the federal government gets involved. As long as marijuana is treated the same as heroin under federal law, the regulatory map across the country will remain open to exploitation by those on the illicit side of the industry.

 

“Cannabis consumers are rational economic actors,” Hudak, the Brookings expert, said. “They’re probably going to pick the cheaper option. In a lot of states, that would mean black market cannabis.”

 

Adam Smith, of the Oregon Craft Cannabis Alliance, says the ability for legal farmers to access markets like New York would solve Oregon’s problem. Give cannabis farmers legal interstate commerce, and you incentivize them to get into the legal market.

 

Traverso, of California Cannabis Controls, says federal access to banking would lower startup costs and provide a financial buffer for new small businesses, encouraging more to switch to the legal market.

 

Steve Hoffman, of the Massachusetts Cannabis Commission, says the illicit market isn’t going anywhere until federal authorities treat cannabis the same as alcohol. “I don’t think you can, at this point, regulate cannabis the same way you regulate alcohol because of the federal prohibition,” he says.

 

As governments increase funding into law enforcement efforts and more counties, cities and even states come online, the market for illicit cannabis will decrease. Some point to Illinois, previously a destination for Oregon weed, which just legalized cannabis for adult use.

 

Kazan, a former police officer, agrees that the fight against the illicit market isn’t over yet.

“I’m not really that shocked by anything that’s going on,” he says. “I think we’re in like inning two of a nine-inning game.”

 

 

 

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