The Adam Smith Institute tells George Osborne what it wants to hear in the 2012 Budget.

If George Osborne does one thing, he should think outside the box. The government should legalize and tax the sale of drugs like cannabis, ecstasy, and cocaine, using the Netherlands as a model, and decriminalize stronger drugs like heroin and crack cocaine to reduce the cost of legal enforcement.

According to 2004 Home Office estimates, the market for cannabis, ecstasy and powder cocaine is worth approximately £2.6bn [2].

As a low-range estimate, let us assume a total effective tax (VAT + excise duty) of £3 per 500mg cannabis joint, 250mg per ecstasy pill and 50mg per line of cocaine. This is a far lower rate than current effective tax rates on tobacco and alcohol. If consumption did not change, this would mean revenues of approximately £2.16bn from cannabis, £624m from ecstasy and £942m from cocaine, or £3.73bn in total. Use of cannabis, ecstasy and cocaine would probably rise with legalization, making this sum higher still. I would favour a Dutch-style regulated market approach, but a system where the government maintains a monopoly on the production and supply of these drugs could also work.

The potential tax revenue is much higher than this, though. The total effective tax rate on cigarettes is over 500 per cent. This produces significant revenues for the government, in large part because the demand for cigarettes is relatively price-inelastic. Demand for drugs is similarly inelastic.

The savings that would be made from drugs legalization are harder to estimate than the tax benefits, but are no less significant. One in ten people in prison are there for specific drug offenses (such as possession and dealing). The drugs charity Transform estimates that 54 per cent [3] of robberies and 70-80 per cent of burglaries take place to fund drug habits.

Allowing addicts to get medical treatment instead of treating them as criminals would reduce imprisonment rates, especially among poor people who are most vulnerable to imprisonment. Transform estimates that the net savings from the decriminalization of cocaine and heroin could be around £10bn per annum [4].

A legal market in drugs would also make drugs themselves much safer, with consumer protections forcing suppliers to provide pure drugs. Space constraints preclude me from discussing the benefits to countries like Columbia and Guinea-Bissau, which the developed world's war on drugs does significant harm to.

As a libertarian, I would prefer drugs to be legalized and untaxed. However, most governments care most about the bottom line of taxes and expenditures. If taxation is the political price we have to pay for the benefits of drug legalization, so be it. As George Osborne searches for new sources of revenue that won't hurt the economy, he could do a lot worse than to call for drugs to be brought into the open: safe, legal and taxable.

Sam Bowman is the head of research at the Adam Smith Institute [5]

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