Here is a summary of forthcoming work by Gary Becker, Michael Grossman, and Kevin Murphy:
In an important new study, world-renowned economists–including a Nobel
Prize winner and a MacArthur "genius"–argue that when demand for a
good is inelastic, the cost of making consumption illegal exceeds the
gain. Their forthcoming paper in the Journal of Political Economy is a
definitive explanation of the economics of illegal goods and a
thoughtful explication of the costs of enforcement.
The authors demonstrate how the elasticity of demand is crucial to
understanding the effects of punishment on suppliers. Enforcement
raises costs for suppliers, who must respond to the risk of
imprisonment and other punishments. This cost is passed on to the
consumer, which induces lower consumption when demand is relatively
elastic. However, in the case of illegal goods like drugs–where demand
seems inelastic–higher prices lead not to [TC: much?] less use, but to an increase
in total spending.
In the case of drugs, then, the authors argue that excise taxes and
persuasive techniques –such as advertising–are far more effective uses
of enforcement expenditures.
"This analysis…helps us understand why the War on Drugs has been so
difficult to win…why efforts to reduce the supply of drugs leads to
violence and greater power to street gangs and drug cartels," conclude
the authors. "The answer lies in the basic theory of enforcement
developed in this paper."
Here is an earlier version of the paper.