Does Gilead's (withdrawn) orphan designation request for a potential coronavirus treatment deserve your outrage?

Many commentators were outraged by the FDA's announcement on Monday that Gilead received orphan drug designation for using the drug remdesivir to treat COVID-19. The backlash led to a quick about-face by Gilead, which announced today that it is asking the FDA to rescind the orphan designation. For those trying to understand what happened here and the underlying policy questions, here's a quick explainer:

How could the Orphan Drug Act possibly apply to COVID-19?

Under 21 U.S.C. § 360bb(a)(2), a pharmaceutical company can request orphan designation for a drug that either (A) treats a disease that "affects less than 200,000 persons in the United States" at the time of the request or (B) "for which there is no reasonable expectation that the cost of developing and making available in the United States a drug for such disease or condition will be recovered from sales in the United States of such drug." An ArsTechnica explainer suggests that remdesivir received orphan designation under option (B), but this email from the FDA indicates that it was option (A).

The designation seems correct based on the plain language of the relevant statute and regulations: As of Monday, there were 44,183 cases diagnosed in the United States (and even fewer at the time of Gilead's request), and the Orphan Drug Act regulations indicate that orphan designation "will not be revoked on the ground that the prevalence of the disease . . . becomes more than 200,000 persons." But given the CDC's low-end estimates of 2 million Americans eventually requiring hospitalization, commentators have noted that this feels like a loophole that gets around the purpose of the Orphan Drug Act.

What benefits would Gilead have received from an orphan designation?

The main effect would have been a tax credit for 25% of Gilead's expenses for the clinical trials it is running to figure out whether remdesivir is actually effective for treating COVID-19. (The tax credit was 50% when the Orphan Drug Act became effective in 1983, but was reduced to 25% by the December 2017 tax reform.)

The Case for a Patent Box with Strings Attached

[This post is co-authored with Daniel Hemel, an assistant professor of law at the University of Chicago Law School, and cross-posted at Whatever Source Derived.] 

Trump administration officials are hoping that their plan for steep business tax cuts will spur economic growth. Economists are skeptical of the administration’s rosy growth projections. But there may yet be a way to reduce business taxes that accelerates growth, encourages innovation, and delivers tangible benefits to American consumers.

To achieve these objectives, administration officials and lawmakers should consider implementing a “patent box” — a reduced tax rate for revenues derived from the licensing and sale of patents. But unlike the patent box regimes that the United Kingdom and several other advanced economies have implemented, a U.S. patent box should come with strings attached. Specifically, the reduced rate on patent-related revenues should be conditional upon the patent holder agreeing to a shorter patent term.

Here’s how it could work: Right now, a patent confers exclusivity for 20 years from the date of application. If the patent is held by a U.S. corporation, the corporation pays a top tax rate of 35% on patent-related income. Under a “patent box with strings attached,” the corporation would have the option to pay no tax on patent-related income in exchange for a shorter patent life.

The system would be structured such that the net present value of the patent holder’s expected income stream — in after-tax terms — would be slightly more attractive under a patent box and a shorter patent life than under the status quo. For example, assuming a 5% interest rate and a 35% corporate tax rate, the net present value of a constant stream of tax-free payments over 11 years is slightly more than the net present value of a constant stream of taxable payments over a 20-year term. Thus, if utilizing the patent box meant accepting an 11-year term, patent holders would have an incentive to choose the patent box and relinquish the last 9 years of exclusivity. (If we assume instead that the prevailing tax rate is 20%, as the Trump administration and congressional Republican leaders have proposed, then the patent box with strings attached becomes preferable to a 20-year term plus full taxability if the patent box allows 15 years of exclusive rights.)

The Difficulty of Measuring the Impact of Patent Law on Innovation

I'm teaching an international and comparative patent law seminar this fall, and I had my students read pages 80–84 of my Patent Experimentalism article to give them a sense of the difficulty evaluating any country's change in patent policy. For example, although there is often a correlation between increased patent protection and increased R&D spending, it could be that the R&D causes the patent changes (such as through lobbying by R&D-intensive industries), rather than vice versa. There is also the problem that patent law has transjurisdictional effects: increasing patent protection in one country will have little effect if firms were already innovating for the global market, meaning that studies of a patent law change will tend to understate the policy's impact.

It is thus interesting that some studies have found significant effects from increasing a country's patent protection. One example I quote is Shih-tse Lo's Strengthening Intellectual Property Rights: Experience from the 1986 Taiwanese Patent Reforms (non-paywalled draft here). In 1986, Taiwan extended the scope of patent protection and improved patent performance. Lo argues that this change was plausibly exogenous (i.e., externally driven) because they were caused by pressure from the United States rather than domestic lobbying, and he concludes that the strengthening of patent protection caused an increase in R&D intensity in Taiwan.

One of my students, Tai-Jan Huang, made a terrific observation about Lo's paper, which he has given me permission to share: "My first intuition when I see the finding of the article is that the increase of R&D expenses may have something to do with the tax credits for R&D expenses rather than stronger patent protection." He noted that in 1984, Taiwan introduced an R&D tax credit through Article 34-1 of the Investment Incentives Act, which he translated from here:

If the reported R&D expenses by manufacturing industry exceeds the annual highest spending on R&D in the last five years, 20% of the exceeding expenses could be used for tax credit for income tax. The total tax credit used could not exceed the 50% of annual income tax, but the unused tax credit could defer to next five years.

Additional revisions were made in 1987, related to a tax credit for corporations that invest in technology companies, which might indirectly lead to an increase in R&D spending by tech companies. As I've argued (along with Daniel Hemel) in Beyond the Patents–Prizes Debate, R&D tax credits are a very important innovation incentive, and Lo doesn't seem to have accounted for these changes in the tax code. Yet another addition to the depressingly long list of reasons it is hard to measure the impact of patent laws on innovation!

Intellectual Property as Global Public Finance

I wrote the following post for the Balkinization blog symposium for the upcoming Innovation Law Beyond IP 2 conference at Yale Law School, where I will be presenting an early work-in-progress with Daniel Hemel. You can read my post on Balkinization here, and you can see all posts in the symposium here.

The conventional justification for IP is that information is a public good (i.e., it is nonrival and nonexcludable), and making information excludable through IP allows it to be efficiently supplied by private markets. Both sides of this account have been questioned: not all information has the characteristics of a public good or can be made excludable through IP, and propertization is not the only way the state compensates public-goods providers. As Daniel Hemel and I analyzed in Beyond the Patents–Prizes Debate, the state also encourages information production through mechanisms such as tax incentives and direct spending. And one challenge for domestic innovation policy is recognizing that like conventional public finance mechanisms, IP facilitates a transfer from consumers to innovators, and that the off-budget nature of this IP “shadow” tax should not affect the innovation policy choice.

In Intellectual Property as Global Public Finance, Daniel and I examine information production at the global level, where conventional public finance mechanisms are lacking. Many information goods are global public goods (or quasi-public goods), so under the conventional account, global coordination is needed to prevent countries from free-riding on each other’s information production. Global IP treaties such as the TRIPS Agreement help solve this global coordination problem by requiring countries to contribute to the extent that they use the information produced under IP laws (with defection punished by trade sanctions). And in the global context, the off-budget nature of IP laws may be an asset, as it facilitates creation of this stable Nash equilibrium in a way that maps onto very different national public finance regimes.

If this were the full story, one would expect to find little state investment in non-IP innovation mechanisms for which free-riding cannot be prevented. And yet governments at all levels do invest significant resources beyond IP in producing information goods.

Patentable Subject Matter and Non-Patent Innovation Incentives

I just posted my symposium essay from U.C. Irvine's Meaning of Myriad Conference: Patentable Subject Matter and Non-Patent Innovation Incentives. Here is the abstract—comments welcome!

In four patentable subject matter cases in the past five Terms, the Supreme Court has reaffirmed the judicially created prohibitions on patenting “abstract ideas” and “nature,” but the boundaries of these exceptions remain highly contested. The dominant justification for these limitations is utilitarian: courts create exemptions in areas where patents are more likely to thwart innovation than to promote it. The resulting debates thus focus on whether patents are needed to provide adequate innovation incentives in disputed fields such as software or genetic research, or whether private incentives such as reputational gains, first-mover advantages, or competitive pressures are sufficient. These debates frequently overlook a significant fact: the absence of patents does not imply that there would be only private incentives. Rather, federal and state governments facilitate financial transfers to researchers through a host of mechanisms—including tax incentives, direct grants and contracts, prizes, and regulatory exclusivity—which already provide substantial research support in the fields where patents are the most controversial.

Paying attention to non-patent incentives could prevent courts from being misled by the concern that a lack of patents for a certain type of invention would remove all incentives for nonobvious and valuable research in that field. Non-patent innovation incentives could also help ease the tension between utilitarian and moral considerations in the current patentable subject matter debates: if many people find patents on certain inventions (such as “human genes”) morally objectionable, utilitarian goals can still be served by using other transfer mechanisms to substitute for the incentive provided by patents. Indeed, non-patent incentives may be more effective than patents in contested areas, where inventors who share moral objections find little incentive in patents, and those who do not still find the patent incentive to be dulled by the persistent uncertainty that has plagued patentable subject matter doctrine in recent years. Wider appreciation of the range of innovation incentives would help bring patentable subject matter discussions in line with the realities of scientific research, and might even make this doctrinal morass more tractable.

Moretti & Wilson: Do State Incentives for Innovation Work?

Do state incentives for innovation work? As I recently discussed in a short presentation at IP Scholars on August 8, state and local incentives for innovation, from R&D tax credits to competitive awards for research or commercialization, have become increasingly common as states attempt to build regional "clusters" of innovation like Silicon Valley. Due to the importance of proximity and localized knowledge spillovers in generating innovation, in theory, state and local innovation incentives that result in self-sustaining "clusters" of innovation could have significant effects on patenting activity and other measures of innovation.

Are R&D tax credits the software patent solution?

The Federal Circuit's fractured en banc decision in CLS Bank v. Alice probably pleased only those patent litigators who might benefit from the resulting uncertainty. The case could have provided clear guidance on the "abstract ideas" exception to patent eligibility (and thus the patentability of software), but the court instead issued 7 opinions in 135 pages, with nothing beyond the judgment having the weight of precedent. While there is much to be disappointed in here, I want to highlight a statement on page 12 of Judge Newman's opinion: "No substitute has been devised for the incentive of profit opportunity through market exclusivity."

Beyond the Patents-Prizes Debate

Daniel Hemel and I just posted a new draft paper, Beyond the Patents-Prizes Debate, which I'll be presenting on Saturday at PatCon 3 at Chicago-Kent. The article develops a new taxonomy of innovation policies that highlights the overlooked benefits of tax incentives for research activities. We would love feedback and suggestions; feel free to email us at the addresses listed at the top of the PDF. Here is the current abstract: