Patents and Scientific Progress

The conventional wisdom when it comes to intellectual property is that without some sort of protection people would not be able to recieve compensation for their property and hence would supply less of it. That is, patents, copyright and so forth are necessary for economic development and growth. It is a pretty good story. However, some interesting research suggests that this story isn’t always the case.

Imagine a situation where you have a sequence of innovations. Say, Ik where k ranges from 1, 2,…,n. Further, that for each successive innovation you must have the previous innovation. That is, to obtain Ik you need Ik-1. However, if one person has the patent on Ik-1 they might hold up the innovation Ik. Why? Well if Ik is better then it means that as soon as Ik hits the market that Ik-1 becomes less valuable and the patent holder now has a stream of rents to protect.

This, in a crude fashion, is the idea behind the paper by Bessen and Maskin.

We argue that when discoveries are “sequential” (so that each successive invention builds in an essential way on its predecessors) patent protection is not as useful for encouraging innovation as in a static setting. Indeed, society and even inventors themselves may be better off without such protection. Furthermore, an inventor’s prospective profit may actually be enhanced by competition and imitation. Our sequential model of innovation appears to explain evidence from a natural experiment in the software industry.

Basically, the conventional wisdom may not apply in all cases. It might be fine for saying a single painting, but when you are talking about sequential discoveries that build of the previous discover, then the conventional wisdom might be turned on its head. That strong intellectual property protections might actually retard both the innovative process and economic growth.

There is even empirical support for this view.

Yet interestingly, some of the most innovative industries of the last forty years—software, computers, and semi-conductors—have historically had weak patent protection and have experienced rapid imitation of their products2. Defenders of patents may counter that, had stronger intellectual property rights been available, these industries would have been even more dynamic. But we will argue that there is reason to think otherwise.

In fact, the software industry in the United States was subjected to a revealing natural experiment in the 1980’s and 1990’s. Through a sequence of court decisions, patent protection for computer programs was significantly strengthened. Evidence suggests that, far from unleashing a flurry of new innovative activity, the firms that acquired most of these patents actually reduced their R&D spending relative to sales (Bessen and Hunt, 2004).3

Further, it is possible that, from a societal stand-point, immitation along with adding new lines of approach could make an existing invention even more desirable.

And there is this rather timely article by the Cato Institute’s Timothy Lee,

What a difference 16 years makes. Last month, the technology world was abuzz over an interview in Fortune magazine in which Bradford Smith, Microsoft’s general counsel, accused users and developers of various free software products of patent infringement and demanded royalties. Indeed, in recent years, Mr. Smith has argued that patents are essential to technological breakthroughs in software.

Microsoft sang a very different tune in 1991. In a memo to his senior executives, Bill Gates wrote, “If people had understood how patents would be granted when most of today’s ideas were invented, and had taken out patents, the industry would be at a complete standstill today.” Mr. Gates worried that “some large company will patent some obvious thing” and use the patent to “take as much of our profits as they want.”

Mr. Gates wrote his 1991 memo shortly after the courts began allowing patents on software in the 1980s. At the time Microsoft was a growing company challenging entrenched incumbents like I.B.M. and Novell. It had only eight patents to its name. Recognizing the threat to his company, Mr. Gates initiated an aggressive patenting program. Today Microsoft holds more than 6,000 patents.

How prescient Mr. Gates’ words were, and how ironic that he is the one holding so many cards and demanding so much money from so many others. What we see is that intellectual property laws are not necessarily the boon that is implied by conventional wisdom, or in the words of Bessen and Maskin, in the “static scenario”. When you have a dynamic environment with sequential innovations that build of the previous innovations, then intellectual property laws can do harm instead of good.

The Gates memo predicted that a large company would “patent some obvious thing,” and that’s exactly what Verizon has done. Two of its patents cover the concept of translating phone numbers into Internet addresses. It is virtually impossible to create a consumer-friendly Internet telephone product without doing that. So if Verizon prevails on appeal, it will probably be able to drive Vonage out of business. Consumers will suffer from fewer choices and higher prices, and future competitors will be reluctant to enter markets dominated by patents.

The basic rule in economics is that competition is generally a good thing. The more of it there is the prices are, innovation is more rapid, and consumers tend to have more choice. When competition is restricted prices are higher, innovation reduced, and consumers have fewer choices. Intellectual property laws create barriers to entry and reduce competition, in short they grant market power to the holder of the intellectual property rights who then use that market power to extract economic profits (i.e. profits over and above accounting profits).

Bessen and Maskin suggest a more balanced approach: “knock-off” imitations are prevented, but any innovation that is “similar but offers a complementary contribution” to the product be allowed. This seems like a reasonable enough solution…of course, this probably means it will never be implemented. If there is one sure thing in life, it is that government will almost always ignore the reasonable solution for the unreasonable.

FILED UNDER: Economics and Business, Science & Technology,
Steve Verdon
About Steve Verdon
Steve has a B.A. in Economics from the University of California, Los Angeles and attended graduate school at The George Washington University, leaving school shortly before staring work on his dissertation when his first child was born. He works in the energy industry and prior to that worked at the Bureau of Labor Statistics in the Division of Price Index and Number Research. He joined the staff at OTB in November 2004.

Comments

  1. Michael says:

    It’s not that patenting software is a problem, it’s that the current requirements for a software patent are so completely different from a patent on a physical object.

    Here’s an example. If you submitted a patent application that was essentially described as “A device used to get from point ‘A’ to point ‘B'”, it would be immediately rejected. However, if you submitted “A method of getting from point ‘A’ to point ‘B’, but using a computer”, it’s very likely to be granted.

    If we required software patents to describe the mechanisms and process used to achieve that result, then only patent those mechanisms, it would solve most of the problems. First anybody could achieve the same results through a sufficiently different mechanism, and second, the mechanism would not be lost to society if the patent holder ceased to exist (one of the other reasons we have patents).

  2. Alex Knapp says:

    This is a pretty suspect argument, as the software industry has some very real and substantive differences from most industries where patents are valued. I actually wrote a paper in law school that, because of these differences, software should have its own intellectual property scheme–separate from copyright and patents.

    You simply can’t take the example of software patents and conclude that patents aren’t worth it–the software industry is simply not representative of the U.S. economy as a whole.

  3. If there is one sure thing in life, it is that government will almost always ignore the reasonable solution for the unreasonable.

    I think this is too cynical. I think it’s an observational selection effect.

    Reasonable things don’t attract attention and controversy, and, because they’re reasonable, most of the time we’re already doing them.

    Novel things attract attention and controversy, if only because they are novel. If you throw in the question, “If it’s so reasonable, why aren’t we doing it already?” then you see that new ideas will usually tend to be unreasonable.

    One reason I’m a conservative (with libertarian leanings.)

  4. Steve Verdon says:

    Alex,

    You simply can’t take the example of software patents and conclude that patents aren’t worth it–the software industry is simply not representative of the U.S. economy as a whole.

    Good thing I didn’t argue that. My view is that when you have sequential innovations then strong intellectual property laws may actually not be helpful, but harmful.

    Kent,

    I think this is too cynical. I think it’s an observational selection effect.

    Reasonable things don’t attract attention and controversy, and, because they’re reasonable, most of the time we’re already doing them.

    I’m not really sure this is a valid objection. My beef isn’t that IP laws or IP in general is unreasonable, but that how we deal with the issue offers both reasonable and unreasonable choices, and that the gov’t in such situations usually goes with the latter.

    And by the way, the idea of weakening certain IP laws for the above mentioned reasons is the novel approach and I’m calling it reasonable.

  5. Steve,

    I’m not denying that we can sometimes find a better way. My points were:

    1. The tendency of government to keep looking at unreasonable solutions is not necesarily due to some wickedness or weakness on the part of government, but simply due to the difficulty of finding reasonable solutions.

    2. For this reason, it behooves us to very carefully sniff anything presented by government before wolfing it down

  6. Steve Verdon says:

    Kent,

    My view is that we don’t engage in enough of 2 and that in any type of democratically based system 1 is always a potential problem. Buying votes is you will.

  7. Dave Schuler says:

    As G. B. Shaw noted, when the government robs Peter to pay Paul, it can always depend on the support of Paul. Surprisingly, rent-seekers stand four-square behind rent-seeking.