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WA: Big Win on Privatization is State Revenue

An issue that always arises in the debate over privatization of government controlled liquor distribution systems is whether or not the state or provincial government would lose liquor revenue if they shift the sales of alcohol from government retail stores to private ones. The common refrain from opponents of privatization is that the government "cannot afford" to privatize because they make too much money from liquor sales which is then spent on "important" government expenditures such as education or health care. This objection is misleading, however, because most if not all of the money that governments make from liquor sales is made from the imposition of "markups and fees" at the wholesale level of liquor distribution. Essentially, the government is imposing hidden taxes at the wholesale level in order to make its money - and government can continue to impose such taxes regardless of whether the retail system is government controlled or private. 

The recent privatization of spirits (hard liquor) sales in Washington state provides an interesting case study which shows that, at least in this case, government revenue increased quite dramatically following the transition. In 2011, consumers in Washington could only purchase spirits from any of the 329 government liquor stores or government agency stores (beer and wine sales were privatized many decades earlier). However, the provisions of Initiative I-1183 (which was approved by voters earlier) became effective in June of 2012 and the state completely privatized its spirits retail and wholesale system, shutting all government liquor stores. The initiative imposed new government fees (taxes) on spirits sales in order to compensate for the loss of markups/fees from the state liquor stores. The new fees included a 17% fee on retail sales and a 10% fee on distributors (the latter fee drops to 5% in 2014). 

How did things work out following the switchover? The one year anniversary is almost here and the numbers are interesting. The WA state government collected $309 million in annual revenue from spirits sales under the government retail system in fiscal 2010/2011 prior to the change. However, in the past year (fiscal 2012/2013), the state is projected to collect a cool $425 million ... a whopping 38% increase in government revenue. While the wholesale fee is scheduled to drop next year which will affect these numbers in the future, there is no doubt that the big winner so far is state revenue.

How did consumer prices fare with such a large increase in taxes? One would think that they might have soared upward ... which would have certainly been the case if the state government had increased its revenue by the same amount under the old system. However, the effect on consumer pricing was muted by the fact that Washington's new privatized system also ushered in intense competition including the entrance into the spirits retail marketplace of "big box discounters" such as Costco (who was the major sponsor of I-1183), Total Wines and BevMo. End retail prices on many products are now lower than the previous state store prices if a consumer goes to one of the big box discounters. But on average, and if a consumer does not shop around, the Seattle Times reports that prices are about 7% higher (see State Revenues Grow from Liquor Privatization). So consumers can get lower prices under the new regime but may not do so if they don't shop carefully. Pretty much a classic case of normal free enterprise and competition.

Many Washington residents are likely not happy that prices are not universally lower as this was predicted in the run-up to the initiative vote ... but from a state policy perspective, this is an attractive end result ... the state government has increased its tax revenue by 38% ... and can still claim that consumers are better off so long as they shop carefully. 

There is also another bonus for the state. While just over 900 state government jobs were lost when the government system shut down, it is apparent that many more jobs than this were created by the private sector in compensation. For example, the Seattle Times reports that just three of the affected private companies (including 2 of the largest distributors and Total) created over 1200 jobs by themselves. The total job creation number would obviously be dramatically higher than the jobs that were lost ... (although of course the wages and benefits paid in the private sector may well be less than those enjoyed by the state workers).

There are obvious lessons in this experience for other jurisdictions, many of which are looking for ways to raise cash ...

  • Government liquor revenue is primarily related to the level of taxation that is imposed on alcohol. Taxes can be imposed via direct taxation or via "fees" or "markups" at the wholesale or retail levels. Whether a retail or wholesale distribution system is government controlled or privatized makes no difference to the ability of government to raise revenue from the taxation of alcohol sales. 
  • States or provinces will not lose revenue from privatizing their government control systems, unless they actively make a policy decision to do so by reducing taxes. The amount of government revenue can be kept constant or can be increased by the policy choices made when setting the level of retail or wholesale taxes that are introduced to replace the government store "markups and fees".
  • The effect of privatization on end consumer pricing can be beneficial if competition is increased.
  • The WA state example demonstrates that government alcohol revenues can increase with privatization without dramatic consumer price increases if policy choices are also made to increase competition.