Monday, June 30, 2014

Robert Cooter: "Growth Economics" and Intellectual Property Rights

I had the wonderful opportunity to participate in the George Mason University School of Law's Law and Economics Center's (LEC) Economics Institute for Law Professors for two weeks in Steamboat, Colorado, along with fellow IP scholars Sharon Sandeen, Amy Landers, Crystal Sheppard, and Ryan Holte. It was a special treat to hear Berkeley Law's Robert Cooter talk about how law and economics can be applied to intellectual property law. Cooter presented his new book, The Falcon's Gyre: Legal Foundations of Economic Innovation and Growth (2013) (w/ Aaron Edlin), which I'll discuss in this post.

In The Falcon's Gyre, Cooter applies his theory of "growth economics" – which emphasizes the exponential growth caused by innovation – to intellectual property law. Growth economics provides a refreshing new model for IP scholars interested in how innovation and intellectual property rights (hereafter, IPR) influence economic development. It builds on foundational work by scholars in the field of so-called innovation economics, such as Joseph Schumpeter's observations about the importance of "creative destruction," and Robert Solow's model (1956) for how technological development affects productivity. Importantly, unlike Cooter, Solow treated innovation purely as an exogenous influence on the factors of production (capital and labor).

Cooter's growth economics has implications for two related aspects of IPR.

I.  On the incentive value of IPR

"Since the social value of an innovation far exceeds the innovator’s profits, venture profits provide deficient incentives to innovate. To increase innovation, law and policy should increase its profitability."

This is similar to Cooter's "property principle for innovation," described in his book on global economic development, Solomon's Knot (2012) (w/ Hans-Bernd Schafer), which says that "the makers of wealth should keep much of it" even if this may lead to inequality, so long as it promotes long-term growth. Cooter obviously recognized the analogy to patents in that book, stating  that the justification for inequality for the sake of growth "resembles patents. A patent creates a temporary monopoly that raises the price for a good while its patent lasts, but they gain from new inventions stimulated by patents."

In Falcon's Gyre, Cooter takes this principle further into IP territory, stating that, "[s]tatic economics condemns market power as inefficient because the deadweight loss reduces wealth. In contrast, growth economics condemns market power when it slows growth, and absolves market power when it increases growth."


II. On the coordination value of IPR

"Economic innovation usually requires combining new ideas and capital. They naturally repel each other because the investor distrusts the innovator with her money, and the innovator distrusts the investor with his ideas."

This poses what Cooter has termed the “double trust dilemma," introduced in Solomon's Knot: the problem of inducing the innovator to trust the investor with his ideas, and inducing the investor to trust the innovator with her money. Building on the so-called Arrow information paradox, Coooter describes various legal mechanisms for resolving the double trust problem, such as contract law, corporate law, securities law, and patent protection, as strategies to navigate information and trust asymmetries between innovators and financiers. For anyone interested in game theory, there is a fun interlude in Falcon's Gyre applying Nash bargaining to interactions between innovators and financiers.

This framework leads Cooter to construct three principles for policymakers to follow in calibrating IPR:

(1) The overtaking theorem

"Transfers from static activities to dynamic activities increase the welfare of people." In general "the transfer of profits from static to dynamic activities [through market power] increases growth, in spite of mistargetting, and deadweight loss."

This has two competing implications for IPR policy. On the one hand, it favors strong IPR against infringement by non-innovating consumers and producers. On the other hand, because requiring licensing of subsequent dynamic activities can also decrease the profitability and pace of innovation, it favors weak IPR against infringement by innovators.

(2) The separation principle

"Market power for innovators against producers and consumers enhances growth." Thus, "[t]o maximize growth, law and policy should separate innovation and (non-innovating) production."

Again, this has two competing implications for IPR policy.  On the one hand, it favors enhancing the market power of innovators against "consumers and non-innovating producers." On the other hand, it favors limiting the market power of non-innovators against innovators. (Note that Cooter's model assumes "consumers" are non-innovators.)  

(3) The fertility principle

"To maximize growth, law and policy should transfer profits from less to more fertile innovations until the increase in growth from higher fertility equals the decrease from a heavier deadweight loss."

This principle is designed to deal with the problem of transaction costs produced by creating IPR. It suggests that when market power leads to significant transaction costs between two sets of innovators, IPR policy should seek to transfer profits from less to more "fertile" innovations.  Cooter notes that this principle resembles existing justifications for IPR, such as "the principle of cost recovery (innovators should enjoy enough profits to recover their development costs) and the principle of proportionality (successful innovators should receive profits in proportion to their development costs)."

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Rather than discussing some of the specific applications to IPR policy, of which there are obviously many – e.g. optimal patent lifetimes, optimal patent scope, defenses to infringement for commercializers, NPE policy – I thought I'd share some citations to recent IP scholarship thinking along the same lines as Cooter – IP is justified if it leads to long-term economic growth – and IP scholarship thinking along similar but slightly different lines – innovation and growth are good, and extra returns may be justified, but IP isn't necessarily the best way to get there.

I. IP is justified if it leads to long-term economic growth

JUSTIFYING INTELLECTUAL PROPERTY, by Robert Merges (Harvard 2011), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1924567 

The Inducement Standard of Patentability (Yale L. J.), by Michael Abramowicz and John Duffy, www.yalelawjournal.org/article/the-inducement-standard-of-patentability

IP for Market Experimentation (NYU L. Rev.), by Michael Abramowicz and John Duffy, http://ssrn.com/abstract=1090887

Commercializing Patents (Stan. L. Rev.) by Ted Sichelman, http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1395558


II. Innovation and growth are good, and extra returns may be justified, but IP isn't necessarily the best way to get there

Spillovers (Colum. L. Rev.), by Brett Frischmann and Mark Lemley, http://papers.ssrn.com/sol3/papers.cfm?abstract_id=898881http://papers.ssrn.com/sol3/papers.cfm?abstract_id=898881

The Cost of Price: Why and How to Get Beyond IP Internalism (UCLA L. Rev.), by Amy Kapczynski, http://ssrn.com/abstract=2103821

The Continuum of Excludability and the Limits of Patents (Yale L. J.), by Amy Kapczynski and Talha Syed, http://www.yalelawjournal.org/essay/the-continuum-of-excludability-and-the-limits-of-patents

Beyond the Patents-Prizes Debate (Tex. L. Rev.), by Daniel Hemel and Lisa Larrimore Ouellette

Another place to look for these sorts of arguments is in the the work of economists like Brian Wright (Patents, Prizes, and Research Contracts), and Joseph Stiglitz. Here is a piece by Stiglitz that’s being cited by IP scholars like Kapczyski to justify prizes over patents: Prizes, Not Patents, PROJECT SYNDICATE (Mar. 6, 2007), http://www.project-syndicate.org/commentary/stiglitz81/English.

Lastly, I want to mention work by Lewis Branscomb, who has played a crucial role in turning the the National Institute of Standards and Technology (NIST) into a source of funding for research and technology commercialization. Like Cooter, Branscomb believes that information asymmetries and trust problems make it difficult for entrepreneurs to raise financing to develop new technologies, and may justify government incentives, including strong IPR as well as grants and venture capital. See, e.g., BETWEEN INVENTION AND INNOVATION: AN ANALYSIS OF FUNDING FOR EARLY STAGE TECHNOLOGY DVELOPMENT (2002) (w/ Philip Auerswald); Taking Technological Risks: How Innovators, Executives, and Investors Manage High-Tech Risks (MIT 1991) (w/ Philip Auerswald), http://belfercenter.ksg.harvard.edu/publication/1760/taking_technical_risks.html

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