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Abstract

In this note, we try to evaluate how effective the patent system is to foster innovation. We first develop the microeconomic reasoning underlying the legal protection of intellectual property. We then try to assess whether this legal protection does indeed fulfil its mission. We show that due to the difficulty of measuring innovative output, it is hard to reach any conclusive answer. We can at best provide a bundle of partial answers, which cast serious doubts on the necessity to strengthen patent rights, but which provide no argument either for discarding the patent system altogether.
ABSTRACT. In this note, we try to evaluate how effective the patent system is
in fostering innovation. We first develop the microeconomic reasoning under-
lying the legal protection of intellectual property. We then try to assess whether
this legal protection does indeed fulfil its mission. We show that due to the dif-
ficulty of measuring innovative output, it is hard to reach any conclusive answer.
We can at best provide a bundle of partial answers, which cast serious doubts
on the necessity to strengthen patent rights, but which provide no argument
either for discarding the patent system altogether.
KEYWORDS. Intellectual property (IP), patents, incentives, costs and benefits,
innovation, patent paradox, microeconomics
1. INTRODUCTION
T
he objective of this note is to evaluate the effectiveness of the patent
system for fostering innovative behavior. We proceed in two steps.
First, in Section 2, we briefly develop the microeconomic reasoning under-
lying the legal protection of intellectual property in general, and of the
patent system in particular. We start by explaining that because of three
sources of market failure, knowledge-generating activities face a generic
problem of appropriability; we then describe how various public
responses, among them the legal protection of intellectual property, have
been designed to address this appropriability problem.
Patents and Incentives to Innovate:
Some Theoretical and
Empirical Economic Evidence*
Paul Belleflamme
CORE and Louvain School of Management,
Université catholique de Louvain
ETHICAL PERSPECTIVES: JOURNAL OF THE EUROPEAN ETHICS NETWORK 13, no. 2 (2006): 267-288.
©2006 by European Centre for Ethics, K.U.Leuven. All rights reserved. doi: 10.2143/EP.13.2.2016634
*This article extends the author’s contribution to the Fourth University Foundation Ethical Forum
on “Ethical Implications of Patenting Academic Research.” Useful comments by Valérie Duplat
and Cecilia Vergari are gratefully acknowledged.
Next, in Section 3, we try to assess whether the legal protection of
intellectual property does indeed fulfil the mission for which it has been
created. We tackle this complicated issue by offering a bundle of partial
answers. First, we report the results drawn from interviews of innova-
tors, which all seem to indicate that patents are seen as a secondary or
complementary instrument for protecting intellectual property. We then
turn to macroeconomic indicators. The last three decades have witnessed
the simultaneous increases (i) in the scope of patent protection, (ii) in the
number of patents filed, and (iii) in innovation. It is then of theoretical
and empirical interest to investigate how these three trends relate to one
another and how they can be reconciled with the contrasting results drawn
from microeconomic surveys. In this respect, we first note that this analy-
sis is hard to perform mainly because of the difficulty to measure inno-
vative output. We then address the so-called “patent paradox” (i.e., the
observation that firms are filing more and more patent applications each
year, although those patents are deemed as of little value), as well as the
conjecture that stronger patent protection induces more innovation. We
conclude in Section 4.
2. ECONOMICS OF INTELLECTUAL PROPERTY
An intellectual property can be defined as any product of the human intel-
lect that is unique, novel, and nonobvious (and has some value in the
marketplace). Inventions, business methods, industrial processes, chemi-
cal formulae, and unique names all correspond to this definition. Similarly,
all information products deriving their intrinsic value from creative expres-
sion, literary creation, ideas, or presentations are also considered as intel-
lectual property. In this section, we briefly explain why the markets for
intellectual property often fail to work in an efficient way, and we give
thereby the economic rationale behind public interventions in those
markets.1
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2.1. Information and appropriability
Intellectual property (or IP for short) concerns the production of informa-
tion or knowledge. The problem with activities generating IP is that they
suffer from the three generic sources of market failure: externalities, indi-
visibilities, and uncertainty. Let us detail them in turn, as this will prove
useful for understanding the discussion that follows.
The first source of market failure in the production of IP stems from
the public-good nature of information and knowledge. Producers of public
goods generate many externalities and it is well known that in the pres-
ence of externalities, markets may not provide the right incentives to pro-
duce. Public goods are characterized by nonrivalness in consumption: the
consumption of the good by one person does not prevent (rival) its con-
sumption by another person; there is thus a potential for collective
consumption. Another way to define nonrivalness is to say that a good is
nonrival if for any given level of production, the marginal cost of provid-
ing it to an additional consumer is zero. This is clearly the case for knowl-
edge and information. Think of a new idea or of a song performed in pub-
lic. Public goods are said to be “pure” when they are also nonexcludable, in
the sense that one person cannot exclude another person from consum-
ing the good in question. Whereas nonrivalness is an attribute of the good
itself, excludability depends, at least in part, on the available technology
for exclusion, and the institutional (legal) framework that permits or facil-
itates such technically feasible exclusion. We return to this distinction
below.
Indivisibilities are a second source of failure in IP markets. The creation
of new knowledge and new information involves large fixed set-up costs.
As such activities often require the division of highly specialized labour,
they are also prone to economies of scale. Finally, both knowledge and
information are inherently discrete. As a result, marginal costs are gener-
ally driven below average costs, which makes marginal cost pricing eco-
nomically unviable. Furthermore, there is a tendency towards monopoliza-
tion of such markets.
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BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
The third source of market failure in IP markets is uncertainty. Invest-
ments in R&D involve two types of uncertainty: on top of technologi-
cal uncertainty (how to make new things and how to make them work),
there is also commercial uncertainty (how to make new things adopted
by the consumers). The same uncertainties apply for the creation of artis-
tic and literary work. The decisions to produce or to invest in IP are
therefore necessarily mixed with decisions to bear risk. Separating the
two types of decisions is often difficult because of moral hazard, which
arises when the transfer of risk undermines the efficiency of the invest-
ment. Moral hazard may be acute for the production of IP as it is
generally impossible to attribute the failure of a project to a lack of effort
or simply to bad luck.
Because of these three sources of market failure, IP-generating activ-
ities face a generic problem of appropriability, which sets them apart from
other investments made by firms or individuals. That is, innovators and
creators face a serious risk of incompletely appropriating the returns from
their activities. As a result, there is a general presumption that markets
provide too few incentives to introduce new innovations and that the
production of IP may well be insufficient from a social point of view.
There is also a wide agreement among economists that, in such circum-
stances, there is room for public intervention.
2.2. Public responses to the appropriability problem
There are several ways to close the wedge that the appropriability prob-
lem drives between social and private rates of return from innovation.
The main public responses consist either in restricting the exploitation of
knowledge (by protecting IP and by allowing putative competitors to form
cooperative R&D ventures), or in raising the expected returns of new
knowledge by lowering its cost of production (through subsidization of
research and patronage of artists). We examine these various responses in
turn and we discuss their respective merits.
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A. Intellectual property protection
The main objective of intellectual property law is to promote innovation and
aesthetic creativity. To solve the appropriability problem, IP law intends
to make knowledge excludable by legal means. That is, it grants exclusive
use of the protected knowledge or creative work to the creator. Thereby,
IP law provides creators with the necessary incentives to produce new
knowledge and solves the underproduction problem that would have resulted
from the non-excludability of knowledge. However, by granting exclusive
- i.e., monopoly - rights to the creator, IP law creates an underutilization
problem. Indeed, as the marginal cost of production is zero, any positive
price creates a welfare-reducing rationing.
In order to strike a balance between these two conflicting problems,
IP law grants exclusive rights only for a limited period of time. That is,
IP law addresses the two problems sequentially. First, legal protection
makes the good excludable: to enjoy the services, users have to pay
royalties to the producer. Second, once the protection is over, the good
falls in the public domain, which means that all users may access the good
for free (i.e., at marginal cost). In other words, IP law attempts to find
the best possible compromise between dynamic efficiency considerations (how
to provide the right incentives to create and innovate), and static efficiency
considerations (how to promote the diffusion and use of the results of creation
and innovation).
Note that dynamic efficiency calls for the broadest and longest
possible protection (to maximize the flow of new knowledge creation),
whereas static efficiency calls for the absence of protection (to avoid the
deadweight loss of monopoly). Therefore, the balance struck by IP law is
necessarily imperfect as it is impossible to reach both objectives at the
same time. It follows that when it comes to design the appropriate way
to protect IP, the complexity is of a quantitative rather than qualitative
nature: what are the level and the structure of the rent that should be left
to the innovator?
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BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
B. Subsidization
When governments fund technical and artistic works, static efficiency
is enhanced with respect to IP protection: as there is no need to grant
exclusive rights to the innovator, the innovation is in free access and no
deadweight loss ensues. However, to fund research and creation, govern-
ments have to raise taxes, which introduces distortions elsewhere in the
economy and reduces static efficiency (in contrast, the patent system
assigns costs to users rather than to tax payers). Moreover, there is no
guarantee that subsidies achieve dynamic efficiency. Indeed, the uncer-
tainty surrounding the social value of an innovation might yield the gov-
ernment to over- or underestimate the amount of subsidy and, thereby,
to give too much or too little incentive (in contrast, the patent system
can be implemented without requiring sensible economic information that
is only privately known).
C. Trade secrets
In the absence of any external mechanism, inventors might sometimes find
sufficient incentives to innovate when they manage to keep their discover-
ies secret. Famous examples are the Michelin radial tires and the Coca-Cola
formula. As long as the innovation is kept secret, information is excludable
and the appropriability problem disappears. Firms may prefer to protect
their discoveries through secrecy because they find that seeking a patent is,
comparatively, a long and costly process. They might also wish to exploit
their discoveries on a longer period than the duration of the patent. How-
ever, secrecy might be hard to keep, as the risk is high that an employee (or
some industrial spy) will disclose the invention, which would then become
public knowledge. Trade secrets partly reduce such risk.2But, even if the
costs of keeping secrets are reduced, the innovator looses all protection once
the idea is released. Also, trade secrets offer no protection against independ-
ent innovations (which, by contrast, patents do).
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Although secrecy makes information excludable, which solves the
underproduction problem, secrecy does not solve the underutilization
problem, as information remains nonrival. Hence, the absence of
diffusion creates a cost for society. This cost is reduced in the patent sys-
tem for two reasons. First, as already explained, patent protection is lim-
ited in time: at the end of the protection, the innovation falls in the pub-
lic domain. Second, patents entail a disclosure requirement: applicants
must describe their invention in sufficient detail for a skilled person or
team to be able to reproduce it. Knowledge is thus diffused, which fos-
ters technical progress.
D. R&D cooperation
As indicated above, IP-generating activities suffer from three sources of
market failures: externalities, indivisibilities, and uncertainty. When it
comes to R&D, one way to alleviate these three problems is to allow
firms to form a cooperative R&D venture. In many situations, rival firms
exert positive externalities on one another through their research activi-
ties. Indeed, new knowledge easily spreads across firms (one talks about
“knowledge spillovers”), meaning that firms freely benefit from the R&D
efforts of their rivals. Because of this prospect of free-riding, firms might
be inclined to cut back their R&D spending. In response to this problem,
the formation of a cooperative R&D venture allows firms to internalize
the externalities and, thereby, to preserve their incentives to do R&D.
Cooperative R&D ventures might also reduce the problems stem-
ming from indivisibilities by allowing firms to share costs, to eliminate use-
less duplication of R&D projects, to pool complementary skills, and to
exploit economies of scale.3Finally, cooperative R&D ventures are also
a way to pool risk and, hence, to better manage technological and mar-
ket uncertainty. However, cooperation in research might, like IP law,
introduce one market failure to correct others. In particular, in the
presence of weak spillovers, cooperation might decrease global R&D
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BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
spending. Worse, if cooperation extends to price fixing, collusive behav-
ior will translate into a deadweight loss.
After this brief presentation of the appropriability problem of inno-
vation and of the economic rationale behind several public responses, we
focus on the legal protection of IP (mainly patents) and try to assess the
effectiveness of this policy instrument.
3. DOES IP LAW FULFIL ITS MISSION?
Although there is a wide agreement about the theoretical arguments
underlying the existence of the patent regime (and about the legal protec-
tion of IP in general), there is much less consensus about how effective
this institution is in practice. As we have seen above, IP protection is just
one among several public responses designed to alleviate the appropriabil-
ity problem of innovation. Moreover, as we will see below, there also
exist private responses to this problem. Hence, one basic question follows
naturally: Are patents necessary to stimulate innovation?
As we will discuss in this section, the previous question turns out to
be extremely tricky to answer. A first natural direction is to survey inno-
vators and ask them directly whether they see patents as important. In
Subsection 3.1, we report the results of several surveys of this kind; they
all seem to indicate the relative unimportance of patents, which are seen
as a secondary or complementary instrument for protecting IP.
Such surveys offer important elements of the answer to our question,
but their scope remains limited. It is therefore necessary to adopt a broader
point of view and examine macroeconomic facts. In Subsection 3.2, we
describe the main trends observed over the last 30 years. Three stylized facts
emerge: (i) IP protection has been generally strengthened and broadened;
(ii) patents have soared; (iii) innovation has increased. The coexistence of
these facts, coupled with what innovators declare, raises a number of addi-
tional questions: (Q1) How can we reconcile the relative unimportance of
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patents with the huge increase in patents counts? (Q2) Is there a logical
sequence from fact (i) to fact (ii), and from fact (ii) to fact (iii)? (Q3) Even
if the answer to Q2 is yes, is IP the least-cost means to increase innovation?
In Subsection 3.3, we explain why all these questions are hard to
answer mainly because of measurement problems. Actually, because there
is no easy way to measure innovation, the best available indicators of
innovation are, in fact, patent indicators, which makes it extremely hard
to assess what effect patents have on innovation. Finally, we present some
elements of answer to the questions we have just raised: in Subsection 3.4,
we address Q1 and refer to the “patent portfolio theory” to solve what
has been called the “patent paradox”; in Subsection 3.5, we briefly address
questions Q2 and Q3, which are, for now, mainly unresolved.
3.1. Protection of IP in practice
Several empirical studies have attempted to assess the relative attractive-
ness of the different means innovators have at their disposal to protect
their inventions. In his survey of recent studies, Caillaud (2003) stresses
that innovating firms consider trade secrets (for process innovations) and
business strategies based of early-mover advantage (for product innova-
tions) as the main means of getting returns on R&D investments and to
appropriate the rents stemming from innovation. Similarly, Anand and
Galetovic (2004) report survey results4showing that managers claim that
“lead time, learning curves, and sales or service efforts are substantially
more effective in protecting IP than patents are.”
It appears thus that the appropriability problem is often better
addressed through private responses than through public responses. In
particular, except for the chemical and pharmaceutical sectors, patent pro-
tection is generally deemed as of little efficiency, especially for process
innovations. Caillaud (2003) advances several explanations: firms consider
(i) that a patent can easily be ‘invented around’ by imitators, (ii) that a
patent is costly to obtain and to enforce, and (iii) that they suffer from
disclosing the information, as required by the patent.
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BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
In the light of the previous observations, one is tempted to ask why
firms in most sectors still bother to seek patent protection for their inven-
tions. Several reasons can be advanced:5(i) patents are relatively inexpen-
sive to register (although they are generally costly to defend); (ii) patents
can serve to measure the output of a firm’s R&D division and, thereby, to
structure compensation and incentive schemes; (iii) venture capitalists often
demand that firms patent technology, both to block rivals and to have
assets to sell in case the firm flounders; (iv) patents can be used as a ‘trad-
ing device.’ The latter reason is confirmed by a number of surveys, which
show that it is essentially large firms that resort to patent protection, espe-
cially in complex industries (like, e.g., electronics and software) where inno-
vations overlap and where patents are then used as a ‘currency’ in the
bargaining process among firms (to negotiate cross-licensing agreements,
for instance). We come back to this argument in Subsection 3.4 when
trying to explain the “patent paradox” raised in question Q1.
3.2. Recent trends
The observation of the evolutions of IP protection, R&D, and innovation
over the last three decades reveals the emergence of three basic trends.
First, under the initiative of the United States and of Europe, IP
protection has been strengthened, broadened, and harmonized internationally. In terms
of strengthening, in the early 1980s, legal and procedural reforms in the
United States provided stronger protection to holders of existing patents;6
in Europe, the European Patent Office (EPO) granted the first European
patents in 1978, but a genuine European patent (superseding national
patents) was only implemented by the European Council in March, 2003.
Regarding broadening IP, new categories of inventions have been protected,
either through an extension of patent protection (software, business meth-
ods, genetic inventions) or through the creation of “sui generis” rights
(semiconductors, databases).7Finally, the TRIPS Agreement of 1994,8
negotiated within the framework of the World Trade Organization,
represents a major advance toward the harmonization of IP laws; it includes
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a general definition of patents, which adopts U.S. criteria and, thereby,
broadens the scope of patentable inventions internationally; furthermore,
the United States and the E.U. repeatedly concluded bilateral agreements
with their trading partners in order to coerce them to significantly
strengthen their own IP rights regimes.
Second, the number of patent applications and grants has risen exponentially. In
the United States, it has more than tripled between 1980 and 2001 (whereas
it was practically stable over the previous two decades). A comparable trend
is observed for European countries (although it began later). Although
nearly all technology fields experienced growth in patenting, two technol-
ogy fields contributed substantially to the overall surge in patenting: biotech-
nology and information and communication technologies.9
Third, innovation has also expanded rapidly. An important indicator of
this fact is the increase in R&D spending: for instance, in the United
States, R&D spending (in real terms) has been multiplied by 2.5 from
1971 to 2001;10 also, as reported by National Science Foundation, the
investment in R&D by U.S. firms employing fewer than 5,000 people
more than doubled between 1987 and 1997. It must be noted, however,
that R&D spending is a measure of inventive inputs (while patents are
measures of inventive outputs) and that some of these inputs might be
wasted or never lead to any new marketable product or process. Never-
theless, the increase in R&D investment has most likely lead to the
discovery and commercial exploitation of an increased number of new
technological leads.
3.3. Patent indicators
Among the few available indicators of technology output, patent indica-
tors are the most frequently used. The main advantages of patent indica-
tors are the following: (i) patents have a close link to invention; (ii) patents
cover a broad range of technologies; (iii) patent documents contain a rich
source of information; (iv) patent data are readily available from patent
offices.
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However, patent indicators are also subject to some major disadvan-
tages. First, because there is no standard method of calculating indicators
from patent data, there is also a wide divergence in the political lessons
that can be drawn from patent indicators. To solve this problem, the
OECD is currently trying to standardize these indicators.11 Such stan-
dardization requires a good understanding of how and why patents are
taken out, of how they are administered and enforced, and of how all this
changes over time. Indeed, a second disadvantage of patent indicators
comes from four sources of differences in the interpretation of patents
counts: (i) differences across countries in economic costs and benefits of
patents, (ii) differences among technologies and sectors in the importance
of patents as protection against imitation, (iii) differences among firms in
propensity to patent (especially unimportant innovations), and (iv) differ-
ences in patent law over the years.12 A third disadvantage is that patents
are an imperfect indicator of inventive output; indeed, many inventions
are simply not patented (either because they are not patentable or, as we
mentioned above, because inventors prefer to protect them using other
methods, such as secrecy, lead time, etc.).
Nevertheless, despite these problems, patent indicators are the best
available indicators of innovation. What kind of information can we then
extract from patent data? Ultimately, what we would like to measure is the
consumer value created by R&D spending. As long as R&D spending
and patents are linked, the issue is thus to measure the private value of
patents. This issue, however, is far from simple as the private value of
receiving a patent depends on the counterfactual. That is, what would
happen if no patent was granted? There are four possible scenarios: either
(i) the invention is not made at all, or the invention is made, but (ii) the
patent is granted to a rival firm, or (iii) the invention is put in the public
domain, or (iv) the invention is kept secret and not patented.13 Scotch-
mer summarizes the main results drawn from various estimations of
patent values: “(1) the values of patent rights are very dispersed, (2) the
distribution of values is very skewed, with most of the value provided by
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a few high-earning patents, and (3) the average value of patent rights is
much lower than the average R&D cost of innovation” (2005, 275).
Several attempts have been made to refine the measure of innovation
given by patents. One direction consists in weighing each patent for the
number of citations it generates in subsequent patents (so as to measure
knowledge externalities).14 Another approach is to use renewal efforts or
the filing of a legal opposition to the patents. It is indeed expensive for
holders of European patents to renew patent protection for one year.
Similarly, legal battles are costly. So, only privately valuable patents are
worth renewing or opposing. Finally, useful additional information can be
drawn from direct interviews of inventors.15
3.4. A patent paradox?
The huge increase in patent counts (reported in Subsection 3.2) seems to
contradict what innovators declare about the relative unimportance of
patents to protect their IP (see Subsection 3.1). How can we solve this
so-called “patent paradox,” which has been systematically documented in
the semiconductor industry?16 The patent portfolio theory provides us with a
convincing explanation. The main idea is that, in many industries, the true
value of patents lies not in their individual worth, but in their aggregation
into a collection of related patents. In other words, the more patents the
merrier, because patents are increasingly used as a ‘trading device’ or a
‘bargaining chip.’ This trend is confirmed by a number of surveys, which
reveal that it is essentially large firms that resort to patent protection, and
especially in complex industries (e.g., biotech, IT, telecoms, electronics
and software).17
It is because these complex industries heavily rely on cumulative inno-
vations that firms have an incentive to constitute patent portfolios. There
are two types of cumulativeness. On the one hand, in the case of sequen-
tial innovations, a particular innovation leads to many second-generation
innovations.18 The main problem with sequential innovations is that a
patent on the first-generation innovation confers the patentee a holdup
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right over subsequent innovations. On the other hand, in the case of
complementary innovations, a second-generation product requires the input
of a number of different first-generation innovations.19 Here, the main
problem, referred to as the “tragedy of the anti-commons,” is that the
prices are higher if they are set by independent patentees rather than
jointly. Shapiro (2001) uses a nice metaphor to explain why these prob-
lems are worst in industries where hundreds if not thousands of patents
can potentially read on a given product:
In these industries, the danger that a manufacturer will step on a land
mine is all too real. The result will be that some companies avoid the
mine field altogether, that is, refrain from introducing certain products
for fear of holdup. Other companies will lose their corporate legs, that
is, will be forced to pay royalties on patents that they could easily have
invented around at an earlier stage, had they merely been aware that such
a patent either existed or was pending. Of course, ultimately the expected
value of these royalties must be reflected in the price of final goods.
Whatever the type of cumulativeness, the trade of patent rights among
firms might alleviate the problems: ex ante licensing addresses the hold-
up problem, while cross-licensing and patent pools can solve the tragedy
of the anti-commons. These private arrangements are also useful for
addressing the increasing demand for interoperability and common stan-
dards that is expressed in these sectors.20 However, this private response
might be excessive. One observes indeed that many firms are acquiring
large numbers of patents for purely defensive reasons (i.e., the only objec-
tive is to keep the threats stemming from other firms’ patents at bay).
The global situation looks thus like a prisoners’ dilemma, where the equi-
librium is such that all firms file a large number of patents (following a
“balance of power” argument), but would be better off if they could com-
mit to file fewer patents.
3.5. Do stronger patents induce more innovation?
In the introduction to this section, we also raised two other questions. The
question labeled Q2 concerns the relationships between the trends
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described in Subsection 3.2; in particular, does the strengthening of IP
protection explain the huge increase in patent counts, and does this higher
patenting activity explain in turn the increase in innovation? The question
labeled Q3 extends Q2 and asks whether IP is the least-cost means to
increase innovation and, thereby, economic growth. The U.S. position on
IP rights (and, to a large extent, the European position as well) assumes
that the answer to both questions is “yes!”: it is believed that the addi-
tional innovation induced by stronger patent systems is substantial and
that strengthening of IP rights at home and abroad is beneficial. However,
the empirical evidence supporting these beliefs ranges from sketchy to
nonexistent. Let us examine the two questions in turn.
Regarding the first part of Q2, one of the rare attempts to tests firms’
responses to the strengthening of a preexisting patent regime is Sakakibara
and Branstetter (2001).21 To examine whether stronger patents induce
more innovative effort, they analyze the response to the 1988 Japanese
patent reforms, which expanded patent scope. They find no evidence of
a statistically or economically significant increase in either R&D spending
or innovative output that could plausibly be attributed to these reforms.
The empirical evidence suggests that the responsiveness to changes in
patent scope is limited. Two more recent papers confirm this conclusion.
Lerner (2002) analyzes the impact of major patent policy shifts in sixty
nations over the past 150 years that enhanced the amount of patent pro-
tection provided. An examination of 177 policy changes reveals that
strengthening patent protection appears to have few positive effects on
patent applications by entities in the country undertaking the policy
change (whether filings in Great Britain or the nation making the policy
change are considered). Gallini (2002) surveys recent theoretical and
empirical research and concludes that the case for stronger patents as a
spur to innovation is a weak one; however, she mitigates this conclusion
by noting that evidence that stronger patents encourage disclosure and
technology transfer is persuasive.
As far as the second part of Q2 is concerned, empirical studies reveal
that the increase in patents (innovative output) goes along with an increase
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in spending on R&D (innovative input). As a rule of thumb, one can say
that technological firms file on average almost two patents for every $1m
they spend on R&D. Yet, in IT industry, it is worrying that the growth
in the number of patents exceeds the increase in R&D expenditure.22
To address this issue further, we can refer to our previous discussion
concerning the patent paradox and ask whether the proliferation of
patents impedes or speeds up innovation. Again, the evidence is mixed.
On the one hand, the proliferation of patents may be seen as an encum-
brance to businesses. When innovations are complementary, the patent
system creates what Shapiro (2001) calls a patent thicket: “an overlapping
set of patent rights requiring that those seeking to commercialize new
technology obtain licenses from multiple patentees.” The fear is that,
because it is costly for firms to ‘hack their way’ through this dense thicket,
stronger patent rights can have the perverse effect of stifling, not encour-
aging, innovation. Even if cross-licensing and patent pools alleviate this
problem, they create important transaction costs. On the other hand,
stronger and more numerous patents might also solve the appropriability
problem of innovation by creating a real “market for technology.” The
way these two opposite forces balance each other largely remains an unre-
solved issue. However, this lack of empirical evidence does not prevent
some managers from forming their own clear opinion; for instance, a sen-
ior official at Sun Microsystems declared the following to The Economist
(October 20, 2005):
There is certainly a level of mutually assured destruction among the
big companies. If you build up your patent portfolio, I build up mine—
nukes pointing at each other. [...] That has exactly the right outcome.
We sit here and exchange patents with each other. Ultimately, that’s
great: you have a set of companies doing more innovation than they
would have otherwise.
Finally, regarding Q3, the empirical evidence is even scarcer, which is
largely due to the difficulty of constructing counterfactual cases to study.
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Ethical Perspectives 13 (2006) 2
We are thus left with the theoretical analyses that seek to compare the
relative merits of the patent system, compared to a system of lump-sum
transfers from consumers to inventors, or to government provision of
R&D.23
4. CONCLUSION
In this note, we aimed at evaluating the effectiveness of the patent sys-
tem for fostering innovative behavior. We first developed the microeco-
nomic reasoning underlying the legal protection of intellectual property
and then tried to assess whether this legal protection does indeed fulfil
its mission. Because of the difficulty of measuring innovative output and
of extracting meaningful information from patent indicators, we have
not been able to propose any conclusive answer to this fundamental
issue. At best, we have put forward a number of partial elements of
answer.
What can we conclude from this survey? First, it appears that the
case for strengthening patent protection (as advocated by the strong IP
lobbies in the US and in Europe) as a spur to innovation is a very weak
one. Theoretical and empirical research tends to show that the reforms
undertaken since the 1980s have pushed the IP system towards overpro-
tection, which is unfavorable to innovation. Second, we can report that
in complex industries such as IT, telecoms and biotech, patents are now
also used as a trading or bargaining device; whether these strategies based
on patent portfolios are conducive to more or less innovation remains an
open issue. Third, in the absence of sound counterfactual analyses, it is
impossible to assess whether other public responses to the appropriabil-
ity problem provide less costly means to increase innovation. Therefore,
even if the effectiveness of the patent system can be questioned, we do
not have any convincing theoretical or empirical argument for discarding
the patent system altogether.24
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Ethical Perspectives 13 (2006) 2
BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
It is striking to note the parallel between the previous conclusions
and what economists declared fifty years ago:
If national patent laws did not exist, it would be difficult to make a con-
clusive case for introducing them; but the fact that they do exist shifts
the burden of proof and it is equally difficult to make a really conclu-
sive case for abolishing them (Penrose, 1951).
No economist, on the basis of present knowledge, could possibly state
with certainty that the patent system, as it now operates, confers a net
benefit or net loss upon society [...] If we did not have a patent sys-
tem, it would be irresponsible [...] to recommend instituting one. But
since we have had a patent system for a long time, it would be irrespon-
sible, on the basis of our present knowledge, to recommend abolish-
ing it” (Machlup 1958, quoted by Lévêque and Ménière 2005).
Even though a completely new body of empirical and theoretical knowl-
edge has emerged since then, we are still unable to revise Penrose’s and
Machlup’s views. We are, however, able to refine the evaluation, as recent
economic analysis has brought to light previously unsuspected costs and
benefits of the patent system. Among these costs are the ones linked to
the administration of the system. So, rather than questioning the raison
d’être of patents, today’s economists propose ways of correcting their
shortcomings. For instance, a proposed measure is to remove the factors
that encourage patent offices to lower their guard and approve applica-
tions carelessly; a corollary measure would be to enlarge the staff of patent
offices in order to maintain (or improve) the quality standards of the
examination process.25 These considerations belong to the “political eco-
nomics of patents,” which goes beyond the scope of this note.26 We just
indicate that for the effectiveness of patents to be properly assessed, more
(theoretical and, mainly, empirical) research is needed along these lines.
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Ethical Perspectives 13 (2006) 2
REFERENCES
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Encaoua, D., Guellec, D. and Martínez, C. “Patent systems for encouraging innovation:
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Gallini, N. “The economics of patents: Lessons from recent U.S. patent reform.” Jour-
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Gambardella, A., Harhoff, D., and Verspagen, B. “The value of patents.” Mimeo, 2005.
Geroski, P. “Markets for Technology: Knowledge, Innovation and Appropriability.” In:
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(UK): Blackwell, 1995.
Griliches, Z. “Patents: Recent trends and puzzles.” In: Brookings Papers on Economic Activ-
ity, Microeconomics. Washington DC: Brookings Institution, 1989.
Hall, B.H., Jaffe, A.B., and Trajtenberg, M. The NBER Patent Citations Data File: Lessons,
Insights and Methodological Tools. Cambridge MA: MIT Press, 2002.
Hall, B. H., and Ziedonis, R. “The patent paradox revisited: An empirical study of patent-
ing in the U.S. semiconductor industry, 1979-1995.” RAND Journal of Economics 32
(2001): 101-28.
Harhoff, D. Narin, F., Scherer, F.M., and Vopel, K. “Citation frequency and value of
patented innovations. Review of Economics and Statistics 81 (1999): 511-515.
Jaffe, A., and Trajtenberg, M. Patents, Citations and Innovation. A Window on the Knowledge
Economy. Cambridge MA: MIT Press, 2002.
Kortum, S. and Lerner, J. “Stronger protection or technological revolution: What is
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Lanjouw, J.O. 1998. The introduction of pharmaceutical product patents in India: Heart-
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Lanjouw, J.O., and Schankerman, M. “Patent quality and research productivity:
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Lerner, J. 2002. Patent protection and innovation over 150 years. Working Paper No.
8977, National Bureau of Economic Research.
Lévêque, F. and Ménière, Y. The Economics of Patents and Copyright. The Berkeley Electronic
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Machlup, F. An Economic Review of the Patent System. Study No. 15 of the Subcommitee
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Menell, P., and Scotchmer, S. “Intellectual Property.” Handbook of Law & Economics
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BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
OECD. “Compendium of Patent Statistics 2004.” http://www.oecd.org/dataoecd/
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NOTES
1. The main references for this section are Geroski (1995), Lévêque and Ménière (2004), and
Scotchmer (2004).
2. “Under trade secret law, an inventor need merely take reasonable steps to maintain secrecy
in order to obtain strong remedies against individuals within the laboratory or commercial enter-
prise and those subject to contractual limitations who misappropriate proprietary information”
(Menell and Scotchmer 2005).
3. On the other hand, cooperative ventures are likely to be subject to contractual hazards
(opportunistic behavior, free-riding, difficulties about sharing the results, etc).
4. Six hundred managers were surveyed by economists at Carnegie Mellon and Yale.
5. See Geroski (1995).
6. For instance, the Patent and Trademark (Bayh-Dole) Act of 1980 allows universities and
other nonprofit organizations to patent discoveries made in their laboratories. Also, the Court of
Appeals for the Federal Circuit was established in 1982 to harmonize patent law nationwide, which
had the effect of strengthening patent protection.
7. See Lévêque and Ménière (2004, 47-48) for a compared analysis of U.S. and European
stands concerning the patentability of these inventions.
8. TRIPS stands for Trade-Related aspects of Intellectual Property rightS.
9. According to OECD (2004), “more than 109 609 patent applications were filed at the
European Patent Office (EPO), and 179 658 patents granted by the US Patent and Trademark
Office (USPTO) in 2000, compared with 60 104 and 107 039, respectively, in 1991. [...] Between
ETHICAL PERSPECTIVES JUNE 2006
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Ethical Perspectives 13 (2006) 2
1991 and 2000, biotechnology and ICT patent applications to the European Patent Office (EPO)
increased by 10.9% and 9.5% respectively, compared to 6.9% for all EPO patent applications.”
10. Measured in millions of 1996 dollars, R&D spending was just below $100,000 in 1971
and just above $250,000 in 2001. See Scotchmer (2005, 272), who quotes data from the National
Science Board.
11. See OECD (2004).
12. For detailed studies of these differences, see, e.g., Pavitt (1988), Griliches (1989), Hall,
Jaffe and Trajtenberg (2002), Lanjouw and Schankerman (2004).
13. Harhoff et al. (1999) discuss different methods of valuing patent rights based on these
different counterfactuals.
14. However as for innovations, as pointed out by Jaffe and Trajtenberg (2002), not all
citations have the same value.
15. For instance, Gambardella, Harhoff and Verspagen (2005) ask the following question:
“What is your best guess of the minimum price at which the owner of the patent would sell the
patent right to an independent party on the day in which the patent was granted?”
16. Hall and Ziedonis (2001) interviewed industry representatives and observed (during
1979-1995) that (i) firms did not rely heavily on patents to appropriate returns to R&D, but (ii)
their propensity to patent has risen dramatically since the mid-1980s.
17. A recent survey published in The Economist (October 20, 2005) report the following facts:
IBM now earns over $1 billion annually from its IP portfolio; HP’s revenue from licensing has
quadrupled in less than three years, to over $200m this year; Microsoft is on course to file 3,000
patents this year, when in 1990 it received a mere five; 54% of companies saw growth in licens-
ing of 10-50% between 2000 and 2002; almost 75% of executives say they expect to buy as well
as sell more licences over the next two to five years, and 43% expect a dramatic increase in their
licensing revenue (according to a survey by McKinsey).
18. For instance, the invention of the laser lead to surgical applications, spectroscopy, etc.
19. Think of firms in the electronic industry (e.g., trying to produce new peripherals to be
coupled with personal computers or video game consoles) or in the biotech industry (e.g., com-
bining patented genes to bioengineer a new crop seed).
20. A recent example of a patent pool is the MPEG-2 video compression technology. Nine
companies have pooled their patents to permit one-stop shopping for makers of televisions,
digital video disks and players, and telecommunications equipment as well as cable, satellite, and
broadcast television services. Shapiro (2001) reports that broad cross licenses are the norm in
markets for the design and manufacture of microprocessors.
21. Some other studies focus on understanding the impact of isolated patent-policy reforms:
Kortum and Lerner (1998) and Hall and Ziedonis (2001) examine the effects of the establishment
of the Court of Appeals for the Federal Circuit in the United States; Lanjouw (1998) and Scherer
and Weisburst (1995) analyze how the strengthening of patent protection on pharmaceuticals has
affected, respectively, India and Italy. In general, these studies conclude that enhancing patent
protection does not significantly spur innovative behavior.
22. This finding could be attributed to an excessive generosity by patent offices and courts
toward patent filers and owners. Such attitude can indeed encourage firms to seek IP rights for
the economic power they confer, independently of their R&D efforts.
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Ethical Perspectives 13 (2006) 2
BELLEFLAMME PATENTS AND INCENTIVES TO INNOVATE
23. For more on this issue, see for instance Shavell and van Ypersele (2001).
24. It must be recalled that patents also serve other purposes apart from the incentive role
that we examined in this note: patents (and licenses) facilitate technology trade; they are used as
a signalling mechanism (for shareholders, banks, venture capitalists, competitors, etc.); through the
disclosure requirement, they contribute to social welfare by promoting the diffusion of knowledge.
These other aspects also have to be taken into account when assessing the efficiency of the patent
system as a policy instrument.
25. As indicated in Subsection 3.2, the number of patent applications processed by the EPO
has more than doubled since 1995 to over 160,000 in 2003. As a result, the mean number of
hours spent examining each patent claim dropped from 23.8 hours in 1992 to 11.8 hours in 2001,
the last year for which figures are available.
26. For an instructive economic analysis of topical policy issues in the debate surrounding
patents, see Encaoua, Guellec and Martinez (2005).
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Ethical Perspectives 13 (2006) 2
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(ITALIAN) Il lavoro descrive le strategie di ricerca e sviluppo (R&S) delle imprese italiane, usando i dati dell'indagine annuale sulle imprese (Invind) condotta dalla Banca d'Italia. I risultati, relativi al periodo 2008-2010, fanno emergere per le imprese italiane una serie di fatti stilizzati della letteratura relativi alle strategie di R&S: l'attività di R&S è svolta principalmente all'interno dell'azienda e finanziata in prevalenza con mezzi propri. È marginale il ricorso a fonti esterne, quali intermediari finanziari, venture capitalist o fondi pubblici. Questi ultimi sembrano avere una modesta capacità di influenzare la decisione di investire in R&S e tendono invece ad associarsi positivamente all'intensità dell'investimento, una volta intrapresa tale scelta. L'attività di R&S tende ad essere svolta dalle imprese di dimensione maggiore con sede nel Centro-Nord. L'uso di best practices manageriali si associa positivamente soprattutto all'attività di R&S delle imprese, piuttosto che alla loro capacità innovativa. Quest'ultima è significativamente associata alla stessa attività di R&S. Le imprese industriali a vocazione esportatrice presentano maggior propensione sia a investire in R&S sia a depositare brevetti. I maggiori ostacoli all'attività di innovazione sono rappresentati dagli elevati costi iniziali di investimento e dalla mancanza di personale qualificato in grado di svolgere tale attività. (ENGLISH) The paper describes the innovation strategies (R&D) of a representative sample of Italian firms participating in the Bank of Italy's yearly survey (Invind). The evidence covers the period from 2008 to 2010 and highlights some stylized facts widely discussed in the economic literature. The results show that R&D activity is carried out within the firm and is basically self-financed. External sources of financing, such as financial intermediaries, venture capitalists and state subsidies, play a very limited role. The latter do not seem to determine the decision to invest in R&D, but they are correlated with the investment intensity. R&D is more intense among bigger firms established in central and northern Italy. Managerial best practices tend to be positively associated with R&D expenditure and only to a lesser extent with firms' ability to produce innovation. Moreover, exporting firms have a higher propensity both to invest in R&D and to patent their intellectual property. Finally, the survey shows that the biggest obstacles to innovation for Italian firms are high setup costs and a lack of skilled research personnel.
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Innovation and technological change, long recognized as the main drivers of long-term economic growth, are elusive notions that are difficult to conceptualize and even harder to measure in a consistent, systematic way. This book demonstrates the usefulness of patents and citations data as a window on the process of technological change and as a powerful tool for research on the economics of innovation. Patent records contain a wealth of information, including the inventors' identity, location, and employer, as well as the technological field of the invention. Patents also contain citation references to previous patents, which allow one to trace links across inventions. The book lays out the conceptual foundations for such research and provides a range of interesting applications, such as examining the geographic pattern of knowledge spillovers and evaluating the impact of university and government patenting. It also describes statistical tools designed to handle methodological problems raised by the patent and citation processes. The book includes a CD with complete data on 3 million patents with more than 16 million citations and a range of author-devised measures of the importance, generality, and originality of patented innovations.
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We investigate the cause of an unprecedented surge of U.S. patenting over the past decade. Conventional wisdom points to the establishment of the Court of Appeals of the Federal Circuit by Congress in 1982. We examine whether this institutional change, which has benefited patent holders, explains the burst in U.S. patenting. Using both international and domestic data on patent applications and awards, we conclude that the evidence is not favorable to the conventional view. Instead, it appears that the jump in patenting reflects an increase in U.S. innovation spurred by changes in the management of research.