The Wall Street Journal
DECEMBER 26, 2009
Saving Mexico
To weaken the cartels, some argue the U.S. should legalize marijuana, let cocaine pass through the Caribbean and take the profit motive out of the drug trade
By DAVID LUHNOW

Mexico City

In the 40 years since U.S. President Richard Nixon declared a "war on drugs," the supply and use of drugs has not changed in any fundamental way. The only difference: a taxpayer bill of more than $1 trillion.

A senior Mexican official who has spent more than two decades helping fight the government's war on drugs summed up recently what he's learned from his long career: "This war is not winnable."
Just last week, Mexican Navy Special Forces swarmed a luxury apartment tower in a central city and gunned down Arturo Beltrán Leyva, a drug trafficker whose organization helped smuggle several billion dollars worth of cocaine and marijuana into the U.S. during the past decade, according to the Drug Enforcement Administration.

Within days of Mr. Beltrán Leyva's death, Mexican officials were already trying to guess which of his lieutenants would take his place. Almost no one expected the death of Mr. Beltrán Leyva to slow down the business of drug trafficking or the horrific drug-related violence in Mexico that has claimed around 15,000 lives in the past three years. On Monday, hit men gunned down several family members of a Mexican naval officer who had been killed in the Beltrán Leyva raid. Four people have been arrested in connection with the killing, though Mexican authorities say the hit men are still at large.

Growing numbers of Mexican and U.S. officials say—at least privately—that the biggest step in hurting the business operations of Mexican cartels would be simply to legalize their main product: marijuana. Long the world's most popular illegal drug, marijuana accounts for more than half the revenues of Mexican cartels.

"Economically, there is no argument or solution other than legalization, at least of marijuana," said the top Mexican official matter-of-factly. The official said such a move would likely shift marijuana production entirely to places like California, where the drug can be grown more efficiently and closer to consumers. "Mexico's objective should be to make the U.S. self-sufficient in marijuana," he added with a grin.

Culiacan, Sinoloa is the unofficial capital of Mexico's drug-trafficking business. Given the shortened lifespan for drug traffickers, shrines and mausoleums honoring fallen narcos have become an integral part of the city's landscape. David Luhnow and Jose de Cordoba report from Mexico.

He is not alone in his views. Earlier this year, three former Latin American presidents known for their free-market and conservative credentials—Ernesto Zedillo of Mexico, Cesar Gaviria of Colombia and Fernando Henrique Cardoso of Brazil—said governments should seriously consider legalizing marijuana as an effective tool against murderous drug gangs.

If the war on drugs has failed, analysts say it is partly because it has been waged almost entirely as a la w-and-order issue, without understanding of how cartels work as a business.

For instance, U.S. anti-drug policy inadvertently helped Mexican gangs gain power. In the late 1980s and early 1990s, the U.S. government cracked down on the transport of cocaine from Colombia to U.S. shores through the Caribbean, the lowest-cost supply route. But that simply diverted the flow to the next lowest-cost route: through Mexico. In 1991, 50% of the U.S.-bound cocaine came through Mexico. By 2004, 90% did. Mexico became the FedEx of the cocaine business.

That change in the supply chain came as Colombia waged a successful war to break up the country's Cali and Medellin cartels into dozens of smaller suppliers. Both moves helped the Mexican gangs, who gained pricing power in the market. Before, the Colombian cartels told Mexicans what price they would pay for wholesale cocaine. Now, Mexican gangs play smaller Colombian suppliers off of each other to get the best price. Mexican gangs are "price setters" instead of "price takers."

Some Mexican officials say privately that the U.S. should seriously consider allowing cocaine to pass more easily through the Caribbean again in order to squeeze Mexican gangs. "Would you rather destabilize small countries in the Caribbean or Mexico, which shares a 2,000-mile border with the U.S., is your third-biggest trading partner and has 100 million people?" one official said.

Today, the world's most successful drug trafficking organizations are found in Mexico. Unlike Colombian drug gangs in the 1980s, who relied almost entirely on cocaine, Mexican drug gangs are a one-stop shop for four big-time illicit drugs: marijuana, cocaine, methamphetamines and heroin. Mexico is the world's second biggest producer of marijuana (the U.S. is No. 1), the major supplier of methamphetamines to the U.S., the key transit point for U.S.-bound cocaine from South America and the hemisphere's biggest producer of heroin.
This diversification helps them absorb shocks from the business. Sales of cocaine in the U.S., for instance, slipped slightly from 2006 to 2008. But that decline was more than made up for by growing sales of methamphetamines.

In many ways, illegal drugs are the most successful Mexican multinational enterprise, employing some 450,000 Mexicans and generating about $20 billion in sales, second only behind the country's oil industry and automotive industry exports. This year, Forbes magazine put Mexican drug lord Joaquin "Shorty" Guzman as No. 401 on the world's list of billionaires.

Unlike their rough-hewn parents and uncles, today's young traffickers wear Armani suits, carry BlackBerrys and hit the gym for exercise. One drug lord's accountant who was arrested in 2006 had a mid-level job at Mexico's central bank for 15 years.

Recently, Mexico's deputy agriculture minister, Jeffrey Jones, told some of the country's leading farmers that they could learn a thing or two from Mexican drug traffickers. "It's a sector that has learned to identify markets and create the logistics to reach them," he said. Days later, Mr. Jones was forced to resign. "He may be right," one top Mexican official confided, "but you can't say things like that publicly."

Mr. Jones says he stands by his comments.

Because governments make drugs illegal, the risk associated with transporting them translates to high rewards for those willing to take that risk. The wholesale price of a single kilo of cocaine, for instance, costs $1,200 in Colombia, $2,300 in Panama, $8,300 in Mexico, and between $15,000 and $25,000 in the U.S., depending on how close you are to the Mexican border. At a retail level on the streets of New York, it can run close to $80,000. With markups like that, the business is bound to keep attracting new entrants, no matter what governments do to stop it.

Governments also have a hard time stopping the drugs trade because, like any good business, trafficking organizations innovate and adapt. Mexican customs has stumbled upon a long list of ingenious methods to transport cocaine, including one shipment of liquefied cocaine smuggled in red wine bottles. Another recent bust yielded 800 kilos of cocaine—worth an estimated $40 million—stuffed inside a batch of frozen sharks.

After Mexico restricted the importation of pseudoephedrine to slow the manufacture of methamphetamines, drug gangs found another way to make the drug using different, unrestricted chemicals widely used in the perfume industry. "I've always thought these guys had a good research and development arm," says one exasperated Mexican official.

Advocates for drug legalization say making marijuana legal would cut the economic clout of Mexican cartels by half. Marijuana accounts for anywhere between 50% to 65% of Mexican cartel revenues, say Mexican and U.S. officials. While cocaine has higher profit margins, marijuana is a steady source of income that allows cartels to meet payroll and fund other activities.

Marijuana is also less risky to a drug gang's balance sheet. If a cocaine shipment is seized, the Mexican gang has to write off the expected profits from the shipment and the cost of paying Colombian suppliers, meaning they lose twice. But because gangs here grow their own marijuana, it's easier to absorb the losses from a seizure. Cartels also own the land where the marijuana is grown, meaning they can cheaply grow more supply rather than have to fork over more money to the Colombians for the next shipment of cocaine.

Several U.S. states like California and Oregon have decriminalized marijuana, making possession of small quantities a misdemeanor, like a parking ticket. Decriminalization falls short of legalization because the sale and distribution remain a serious felony. One of the big reasons for the move is to reduce the problem of overcrowded and costly prisons.

While this strategy may make sense domestically for the U.S., Mexican officials say it is the worst possible outcome for Mexico, because it guarantees demand for the drug by eliminating the risk that if you buy you go to jail. But it keeps the supply chain illegal, ensuring that organized crime will be the drug's supplier.

Making pot legal might actually increase violence south of the border even more in the short term, with drug gangs fighting over a smaller economic pie of the remaining illegal drugs. But it would eventually reduce the overall financial clout of cartels.

If more radical options like legalizing prove impossible, then some analysts say Washington and Mexico City should at least refocus the battle against drugs along economic lines.

Until recently, Mexican police almost never looked at a cartel's finances. During a 2006 raid of a drug traffickers Mexico City home, police found a hand-written ledger describing the cartel's cocaine business for a single month: the price paid to Colombian suppliers ($3,500 per kilo), the sale price here in Mexico ($8,200 per kilo) and the cartel's net profit of $18 million. Police didn't bother to keep the piece of paper, according to people who participated in the raid.

"We've been attacking the players rather than attacking the industry. We need to focus on shrinking their markets and raising their operating costs," said Alberto Islas, a 40-year-old with an economics degree from MIT who runs a private security consulting company in Mexico City.

For the first time, Mexico's government is paying more attention to drugs as a business. A new 2% tax on cash deposits greater than $1,250 in bank accounts gives tax authorities a better picture of Mexico's cash economy—the currency of the drugs trade. Just this year, authorities found five people with unexplained cash deposits of more than $4 million, including one from a man who doesn't even have a formal job.

Mexican customs is also trying—for the first time—to disrupt the flow of guns and money that return from the U.S. to Mexico in exchange for the drugs. Disrupting that flow is crucial to cartel finances: Mexican gangs send drugs north, and get cash and guns in return.

For decades, people crossing into the U.S. from Mexico have been subjected to rigorous checks, but Mexico never bothered to check people coming back from the other direction. Now, cars coming from the U.S. will be blocked by a mechanical arm. License-plate photographs will be run against a criminal database in Mexico City, while a scale and vehicle-scanning system will determine if the car may be overloaded with contraband. Dogs trained to locate weapons and money will roam the area.

"Cash is king. Every bit of money we seize hits the cartels directly on the bottom line," says Alfredo Gutierrez Ortiz, the head of Mexico's tax authority.

But Mr. Gutierrez has also been around long enough to know Mexico is not going to stamp out the drugs trade here entirely.

"We must raise the transaction cost, make it too expensive for them to use Mexico as an export platform relative to other countries," he said. "But the demand itself—well, that's not going to go away."

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