January 26, 2011

The Case of State Wine Shipping Laws

Competitive Exclusion with Heterogenous Sellers
  • Jerry Ellig

    Research Professor, George Washington University Regulatory Studies Center
  • Alan E. Wiseman

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ABSTRACT

Several states impede direct-to-consumer wine shipment from out-of-state sellers by excluding out-of-state retailers from direct shipment or by enacting production caps that prevent direct shipment of wines from wineries with annual production above a designated number of gallons. We explore the economic effects of these two barriers to competition by combining new data on winery prices and production with price data employed in previously published research. Principal findings include: (1) Direct shipment by out-of-state wineries is sufficient to maximize the variety of wines available to consumers. (2) Excluding online retailers from direct shipment deprives consumers of access to significant online price savings and reduces competitive pressure on local wine merchants by reducing the number of wines for which online savings are available. (3) Low production caps in the 20,000–30,000 gallon range are tantamount to a ban on direct shipment of the wines in our sample. Higher production caps of 150,000–250,000 gallons allow direct shipment of wines with significant online price savings but, paradoxically, prevent direct shipment of the wines most likely to induce price-cutting by offline stores. (4) Combining exclusion of retailers with a production cap can either be redundant or more restrictive than either policy alone, depending on the level of the cap.

1. INTRODUCTION

In Granholm v. Heald, the U.S. Supreme Court ruled that a state cannot prohibit out-of-state wineries from shipping wine directly to in-state consumers if it permits instate wineries to do so. Though the case involved wineries, the court noted, "States may not enact laws that burden out-of-state producers or shippers simply to give a competitive advantage to in-state businesses" (544 US 460, 2005, emphasis added). Issued in 2005, Granholm is the court’s latest attempt to square the 21st Amendment—which gives states primary authority to regulate alcohol—with the "dormant Commerce Clause," which holds that when Congress declines to restrict interstate commerce in a particular area, states cannot do so either. In response, many states passed laws permitting both in-state and out-of-state wineries to ship directly to consumers. Some states extended the direct shipment privilege to retailers, and some also allowed direct shipment of beer.

But not all state direct shipment laws are created equal. Many states leveled the playing field "upward" by permitting more direct shipment. None explicitly leveled the playing field "downward" by banning direct shipment for all. Several legal commentators, however, point out that some states leveled the playing field "sideways" with laws that surely restrict competition—by extending direct shipment privileges as narrowly as possible—and arguably violate the Granholm decision by subtly discriminating against at least some out-of-state sellers (Ohlhausen and Luib 2008, Tanford 2007). "Sideways" restrictions that disadvantage some or all potential direct shippers include:

  • requirements that consumers must purchase the wine in person at the winery,
  • production caps that prohibit direct shipment of wines from wineries above a certain size,
  • volume limits that cap an individual seller's direct shipments to a consumer or total direct shipments into a state,
  • laws that permit out-of-state wineries but not retailers to ship directly,
  • laws that permit in-state retailers but not out-of-state retailers to ship directly,
  • fees for direct shipments permits that are prohibitively expensive for small sellers,
  • regulations that require wineries to deliver wine using their own vehicles rather than a common carrier, or
  • requirements that common carriers must obtain separate state permits for each vehicle that might be used to deliver wine.

The Supreme Court’s majority opinion in the Granholm decision relied heavily on an empirical study undertaken by the Federal Trade Commission staff that demonstrated that Virginia’s pre-2003 discriminatory state wine shipping law denied in-state consumers access to price savings from out-of-state, online wine sellers (FTC 2003). Two years prior to the Granholm decision, Virginia lost its appeal of a federal circuit court decision that declared its discriminatory direct shipment law unconstitutional.1 In 2003, the state adopted a permit system that allowed any person licensed to sell wine or beer in his home state to sell and ship directly to Virginia consumers, provided that the seller registers with the state, pays a registration fee, agrees to remit sales and excise taxes, and ships via a common carrier that verifies the recipient’s age and requires an adult’s signature at delivery. Subsequent economic studies found that legalization of out-of-state direct wine shipment delivered two types of price benefits to Virginia consumers. First, direct shipment gave consumers access to online wine prices that were lower than those available in Northern Virginia stores (Ellig and Wiseman 2007). Second, direct shipment prompted Northern Virginia wine stores to make their own prices more competitive with those of online sellers. More specifically, legalizing direct shipment corresponded to a decrease in the percentage price spread between online and offline prices of 26–40 percent (Wiseman and Ellig 2007).

Despite the recent controversy over ―sideways‖ direct shipment laws, we know of no empirical study that examines the economic impacts of these new regulations. This paper seeks to fill this gap by assessing the price effects of two significant restrictions on direct wine shipment: exclusion of retailers and production caps that restrict direct shipment to wines produced by wineries under a certain size (usually designated as gallons produced annually). We also examine the combined effects of these measures, as when a state permits direct shipment only by wineries under a designated size.s In light of the wide body of laws that have been proposed and passed in the aftermath of Granholm, such analyses can help to inform the contemporary public-policy debate about the effects (both intended, and perhaps unintentional) of limiting free trade in wine across the states.

To undertake these analyses we expand on the data set employed in the FTC study and several subsequent empirical studies so that our results are directly comparable to those in previously published research. Exclusion of retailers and production caps both have noticeable effects on price competition, but in different ways. Exclusion of retailers mostly affects the availability of online price savings. Because wineries usually charge higher prices than online retailers, excluding retailers limits the price savings available online. Production caps can have different effects, depending on the scope of the production limit. Relatively low caps are tantamount to banning direct shipment for most of the wines in our sample. But even a relatively high cap effectively bans direct shipment of wines from larger wineries. As it turns out, wines produced by these larger wineries are precisely the wines for which direct shipment narrows the price spread between online and bricks-and-mortar sellers. Therefore, even though a high production cap allows direct shipment of some wines, it protects bricks-and-mortar retailers from the competitors most likely to induce price-cutting.

These findings demonstrate that seemingly innocuous details in state direct shipment laws can have big effects on the prices consumers pay for wine. Consequently, these laws deserve careful scrutiny to see if they produce any social benefits that would justify the consumer costs. Federal legislation that would confer substantial constitutional immunity on such state laws also deserves scrutiny, for the same reason.

ENDNOTES

1. Bolick v. Roberts, 199 F.Supp.2d 397 (E.D. Va. 2002), vacated, Bolick v. Danielson, 330 F.3d 274 (4th Cir. 2003).