Only governments can solve the Canadian illicit pot crisis: Don Pittis

New rules effective Dec. 16 will come just in time so you can leave a cannabis-laced cookie or beverage out for Santa.

But if the struggling Canadian pot business is looking forward to Cannabis 2.0  — as the availability of vaping products and edibles has been dubbed — they will likely be disappointed if they expect it to be a Christmas present that will solve their financial problems.

The sector that was so recently a stock market darling and that attracted small-scale entrepreneurs like moths to candle flames has suddenly fallen on hard times as heavier cannabis users, who make up the bulk of sales, simply don't patronize the legal market.

The legal industry that only months ago worried about a shortage of the drug is now facing a glut. Established players seek new sources of cash as share prices fall. Experts predict a shakeout in the industry as smaller players, unable to find buyers, begin to fail.

Told you so

The numbers vary across Canada according to how each province has managed their own legalization rollout, but statistics show the vast majority of cannabis users still get their pot from what police sources recently called "a strong, vibrant dark market out there selling illegal drugs."

While the legal industry battles to grab market share from their illicit competitors, economists could have told them this would happen.

And not just "could have." Economists did tell them. In April 2017, long before cannabis became legal on Oct. 17, 2018, economist Rosalie Wyonch, a policy analyst with the C.D. Howe Institute, was one of those who had a warning for governments expecting to get rich from legalized pot.

"If the government taxes marijuana heavily," she wrote in an open letter to Bill Blair, the federal cabinet minister who led the way on Canada's pot policy, "it will ensure the continuation of the black market and will be undermining its efforts to control the substance."

Of course, revenue wasn't the only thing motivating government policy that helped keep pot prices high. Before legalization, health experts worried that legal availability and low prices would lead to a flood of new cannabis users.

That pessimism from the health lobby was the mirror image of optimism from the cannabis industry and its investors, who foresaw Canadians smoking up a storm.

But as it turned out, both sides were wrong. While there was a small uptick in purchases immediately following legalization attributed to law-abiding Canadian trying the drug for the first time or for the first time in a long time, the feared (and hoped for) deluge of new users never came.

The latest figures from Statistics Canada show that cannabis use has been relatively static, with a few heavy users responsible for most of the consumption. 

And while legal pot shop assiduously check IDs to make sure patrons are of legal age, the continued existence of a huge and thriving black market means younger buyers can get all they want from illegal dealers who, in Ontario for example, still control something like 80 per cent of the market.

Helping the illegal market flourish

In that province, if the government had actually been trying to help the illicit market flourish, it would have been hard to do a better job.

"If we had one store for every 10,000 people, which is the rule of thumb, in Ontario we would have something like 1,500 stores and we only have 24," said cannabis business analyst Chris Damas, on the phone from his home in Barrie, Ont., about 100 kilometres north of Toronto. He says there is no shortage of illegal suppliers to fill that gap.

"Here in Barrie, which has a lively drug culture, [with a population of] 150,000 people, there's no store," said Damas, who writes the BCMI Cannabis Report. "So why would they want to drive to downtown Toronto to get some marijuana that was legal?"

Damas says a high government excise tax and other expenses means prices are about double what people can get from their local dealers, including home delivery. 

A potential solution to smash the illegal market proposed years ago was to use the power of a monopoly seller in a way that would be illegal if it were done in private business. Governments would have to step in, cut their own take to zero and promise not to raise taxes for say, two years, while letting the most efficient producers compete on price, all the while increasing the number of stores to make legal purchases easy.

It might have worked better if that had been the plan from the beginning, back when cannabis producers were flush with cash.

But after what he sees as years creating overcapacity, now Damas fears that despite Cannabis 2.0, economic activity in the sector could fall by half, which he calls "the Great Depression in cannabis" as the pot boom goes into reverse.

"The repercussions are pretty too-horrible to contemplate."

Follow Don on Twitter @don_pittis