Should intellectual property be enforced?

Should patents exist? It appears that they do, although, granting a monopoly of 20 years to new technologies might be too much.

1. The controversy over intellectual property

Intellectual property is a bit of a misnomer: a patent is a grant by the State of the monopoly rights of a certain technology for a certain period. It is not a property in the same sense that material property is.

However, despite being quite a weird institution, intellectual property in the sense of patents has existed even thousands of years ago: the first recorded use of what we today understand as a form of intellectual property was in the ancient city-state of Sybaris, in what is today Southern Italy. There the State granted a monopoly right to chefs to sell certain dishes for one year. The modern concept of patent law began to be practiced in the city-state of Venice in 1474 (see The Global History of Patents - Davison). This suggests that there is some real social role that is played by intellectual property.

Even though intellectual property is an institution with thousands of years of tradition, economists today still question the social usefulness of this institution. Boldrin and Levine wrote a book called Against Intellectual Monopoly, where they argue that, in fact, there is no reason for the State to enforce intellectual property laws (that is, there is no reason for the government to grant monopoly rights to inventors of new technologies or works of art).

In addition, there is the question of why patents last 20 years, a tradition going back centuries (James Watt’s steam engine was patented in 1769 and expired 20 years later), and today is the standard across many countries.

2. Do patents play a useful social role besides helping the inventor to become richer than otherwise?

So, the question “Does the institution of “intellectual property” play a positive social role, and if it does, how long does optimal patent policy should last?” is still controversial among economists. My co-author David Rahman and I decided to write a paper to answer this question. Our project is still not supposed to be the final answer to the question, mainly because we concluded that the institution of intellectual property depends on the quantitative properties of the economy, and these quantitative properties are changing all the time.

This means that we concluded that there exists a hypothetical economy in which the intellectual property law of 20-year-long patents for new inventions consists of the optimal policy, but adjusting our model to more realistic parameter values consistent with US data for recent decades, we find that the optimal length of a patent appears to be around 6 to 11 years.

In addition, if the government could condition patent duration on how easy it is to copy the newly invented technology, then the optimal policy would vary: the easier it is to copy the technology, the shorter the optimal patent policy duration.

3. Competition and monopoly

Intellectual property in the form of patents is a fundamentally tricky subject to study. The reason is that, as every economist knows, monopoly is bad: in this case, monopoly means blocking competition from even considering entry into the market. Monopoly, in the strict sense, means there is one firm in the whole industry, and it’s legally forbidden to compete with this firm; entry is blocked.

Economists know that a bad feature of a monopoly is that the monopolist, given its control over the whole supply in the market, has the incentive to restrict supply in order to increase the price. This means that a monopolist tends to supply too little of the good (unless the monopolist can perfectly price discriminate, which is not feasible in reality as it requires too much information). Introducing at least one competitor in the industry means that multiple competing firms will have the incentive to undercut the prices of their competitors to capture their market shares, increasing the supply of the good to an efficient level.

However, in writing our paper, when we were studying the concept of competition under the assumption that firms can copy the technology of their competitors, we found out that competition has another beneficial effect: firms competing will learn from the discoveries made by each other, leading to faster productivity improvements. This beneficial effect of competition appears to be even more significant than the static costs of monopoly undersupply.

4. The rationale for patents

If monopolies are so bad, how does granting a monopoly over a specific technology to its inventor can be justified? Suppose a new technology is developed without patents protecting it; one can argue that competing firms will quickly copy the technology, and the profits of the firm of the inventor will quickly converge to the same expected level as firms in other industries, which means that all the effort that went into developing the new technology would have zero return. Therefore, one might argue that without intellectual property, there would not be any investment in technological innovation, severely reducing standards of living.

However, if it takes time for potential competitors to copy the technology of an innovator, then the innovator can obtain substantial profits from it. Thus, the incentive for investment in the development of novel technologies exists even without patents.

We compute numerical examples of the effect of a patent duration policy on the utility of households in an economy in two different environments: one environment where the speed in which firms can copy other firms is constant across different technologies and one where there is substantial heterogeneity in this learning speed. The optimal policy varies wildly with such a change in the environment.

The question is: how strict should patent protection be to balance the costs of monopoly with the benefits of more incentives for technological innovation? It appears to be that, in general, the benefits of a few years of patents exceed the costs, but our system of 20-year-long patents imposes too heavy a monopoly burden compared to the benefits of greater incentives for research and development of novel technologies. Overall, though, the optimal duration of patents depends on the conditions of the real economy, conditions that are hard to measure and estimate their effects on economic performance. Therefore, the optimal patent policy cannot be precisely estimated, and it changes over time and across countries, but we can find confidence intervals conditional on the current state of the economy, such as our 4 to 8 years confidence interval estimate based on US data.