Do Patents Help or Hurt Investment and Innovation?

PatentOne of the most controversial topics amongst libertarians/conservatives is whether patents increase or decrease innovation. As is common in economics, it is not an easy answer and has different solutions based on different industries.

The argument everyone has heard in favor of patents is that it protects the inventors/firms profits and therefore increases incentive to invest in R&D. This argument makes intuitive sense. If a firm/inventor spends a lot of time and money working on an invention only to have it imitated the day it hits the market, they are less likely to spend the same amount of time and effort working on another invention.

The argument made against patents is that they decrease innovation because they decrease competition. The argument says that acquiring patents incurs additional costs and promotes wasteful attempts to invent around patents. Moreover, patents could delay spillover effects in sequential innovation. This also makes intuitive sense. So, which argument is correct?

In general, it depends on the industry.

Some of the most innovative industries happen to also have some of the weakest patenting laws. The software, computer and semiconductor industries have all had weak patent protection and relatively fast imitation of products. Of course, one could argue that if they had stronger patent laws the innovation would have been even more rapid. However, the data doesn’t agree with this claim. James Bessen and Eric Maskin find that when there has been an increase in patenting laws in these industries, R&D investment decreases [1]. This is not totally surprising. If there is no risk for imitation, there is less incentive to make a new innovation as quickly as possible. They do not argue for an optimal level of patenting laws, as we will see the authors of the next paper do.

The typical example for the necessity of patenting laws is the pharmaceutical industry. This is because the costs of putting a new drug in the market are staggering. Not only that, it takes many years for the FDA to approve the drug (If the FDA was eliminated this might be an entirely different discussion). In this industry, the first argument I presented is more useful, to an extent. In his paper, Yi Quan finds that in the pharmaceutical industry there is evidence for patenting laws increasing innovation, and that there is an optimal level [2]. However, he also finds that this is only true for certain countries. In countries with lower education levels and national income there is no positive relationship between patenting laws and innovation. This is because these counties largely rely on more developed countries for certain innovations. The most important result (at least for me), is that he finds a positive relationship in the U.S. After a certain level, however, strengthening patent laws will decrease innovation.

The last result has been more common in my research, that there is an optimal level of patenting laws. Too strong of laws decreases incentive to imitate or make sequential innovations because it increases the odds of a lawsuit and other costs that reduce R&D spending. So my personal opinion is that in most industries, weak patenting laws are beneficial. However, I would not make this claim for all industries.

Thus, the discussion about patents should not be a carte blanche generalization for all industries. If someone asks you what your opinion on patents are, the most appropriate response should be “Patents for what industry?”

– JW

 

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[1] Bessen, Maskin “Sequential Innovation, Patents and Imitation”, The Rand Journal of Economics Vol. 40, No. 4 (Winter 2009)

[2] Quan “Do National Patent Laws Stimulate Domestic Innovation in a Global Patenting Environment? A Cross Country Analysis of Pharmaceutical Patent Protection , 1978-2002” The Review of Economics and Statistics Vol. 89 No. 83 (Aug. 2007)

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Filed under Chicago School of Economics, Economic Methodology, General Philosophy, Political Economy, Political Philosophy

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