Patents as Property, Part 1

By Megan McArdle

[Tim Lee]

The phrase "intellectual property" to describe the patent and copyright systems has become so commonplace that few people give it a second thought. Superficially, the copyright and patent systems are structured like traditional property systems, and this has become the dominant way we think about these legal regimes.

cover.jpgBut determining whether a legal regime is a well-behaved property system is an empirical question, not merely a matter of semantics or tradition. For example, I'm sure that New York cabbies consider their taxi medalions to be their property—and valuable property at that—but few economists would characterize the creation of such a scheme as "strengthening property rights." Effective property rights systems have two important characteristics. First, they enhance certainty and promote efficiency by establishing clear boundaries to contested resources. Real property, for example, has a system of surveying and claim recording that allows any interested person to determine who owns each plot of land and what its precise boundaries are. Second, property rights create positive incentives for productive activities by rewarding people who produce new assets or enhance existing ones.

The first consideration cannot be an argument for treating patents as property because ideas are non-rivalrous. Once an idea has been created, it can be used freely by anyone. Hence, the analogy between patents and traditional property rights rests entirely on that second characteristic: that patents, like real property, creates incentives for productive behavior by giving inventors exclusive rights over the use of their inventions. Indeed, patents can be considered an effective property system only to the extent that it performs this function. If the existence of the patent system, on average, makes invention a more profitable activity than it would be otherwise, then it makes sense to consider patents a kind of property right. If, in contrast, the patent system creates no net incentives for innovative activity, or worse if it creates a net disincentive, then the usual incentive-based arguments for property rights simply don't apply to the patent system.

And indeed, the second characteristic (positive incentives for innovation) depends crucially on the first (clear and predictable boundaries). As we learned from Hernando de Soto, "property" systems without clear boundaries and predictable rules are an impediment, not an aid, to economic growth. A system in which boundary lines are unclear—if, say, a given plot of land is claimed by a dozen surrounding residents with no clear process for determining who is the rightful owner—the resulting uncertainty and the costs of litigation will swamp the positive incentive effects of the legal regime.

That insight is the starting point for Patent Failure, an important new book by James Bessen and Michael J. Meurer. A well-functioning patent system should look like this graph, lifted from page 139 of their book:


This shows how the patent system affects the chemical and pharmaceutical industries. The dashed line at the top shows the profits from all chemical and pharmaceutical patents, while the solid line on the bottom shows the costs to alleged infringers of patent disputes—some of which, we should remember, are innocent. As we would hope, the top line is significantly above the bottom line. The net incentive for innovation created by the patent system is the different between these lines—the profits to patent holders minus the costs to alleged infringers from patent lawsuits. While the uptick in litigation in the late 1990s is worrisome, the patent system seems to be working the way it's supposed to in these industries. The positive incentive effects of patents appear to be significantly larger than the deadweight costs of patent litigation.

In my next post, I'll show you what the graph looks like for the rest of the patent system, and discuss the implications of this for patent policy.

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