[Ip-health] Boldrin/Levine-(Federal Reserve Bank of St. Louis, Working Paper)-The Case Against Patents

Thirukumaran Balasubramaniam thiru at keionline.org
Mon Oct 8 02:14:39 PDT 2012

This piece was cited in the New York Times (http://www.nytimes.com/2012/10/08/technology/patent-wars-among-tech-giants-can-stifle-competition.html)  and the Atlantic (http://www.theatlantic.com/business/archive/2012/09/the-case-for-abolishing-patents-yes-all-of-them/262913/#).



The Case Against Patents
Michele Boldrin
David K. Levine
Working Paper 2012-035A
September 2012

Research Division
P.O. Box 442
St. Louis, MO 63166

The views expressed are those of the individual authors and do not necessarily reflect official positions of the Federal Reserve Bank of St. Louis, the Federal Reserve System, or the Board of Governors. Federal Reserve Bank of St. Louis Working Papers are preliminary materials circulated to stimulate discussion and critical comment. References in publications to Federal Reserve Bank of St. Louis Working Papers (other than an acknowledgment that the writer has had access to unpublished material) should be cleared with the author or authors.


"The Case Against Patents
Michele Boldrin and David K. Levine
First draft: January 29, 2012
This draft: June 29, 2012

1. Introduction
The case against patents can be summarized briefly: there is no empirical evidence that they serve to increase innovation and productivity, unless the latter is identified with the number of patents awarded – which, as evidence shows, has no correlation with measured productivity. This is at the root of the “patent puzzle”: in spite of the enormeous increase in the number of patents and in the strength of their legal protection we have neither seen a dramatic acceleration in the rate of technological progress nor a major increase in the levels of R&D expenditure – in addition to the discussion in this paper, see Lerner [2009] and literature therein. As we shall see, there is strong evidence, instead, that patents have many negative consequences. Both of these observations, the evidence in support of which has grown steadily over time, are consistent with theories of innovation that emphasize competition and first-mover advantage as the main drivers of innovation and directly contradict “Schumpeterian” theories postulating that government granted monopolies are crucial in order to provide incentives for innovation. The differing predictive and explanatory powers of the two alternative classes of models persist when attention is shifted to the historical evidence on the life-cycle of industries. The initial eruption of small and large innovations leading to the creation of a new industry – from chemicals to cars, from radio and TV to personal computers and investment banking – is seldom, if ever, born out of patent protection and is, instead, the fruits of highly competitive-cooperative environments. It is only after the initial stages of explosive innovation and rampant growth end that mature industries turn toward the legal protection of patents, usually because their internal grow potential diminishes and the industry structure become concentrated.

A more subtle point is that secrecy may bias the type of inventive activity away from innovations that are not easily kept secret to those that can be, vice versa for patents. There is historical evidence from Moser [2004, 2005] in this direction. In 19th Century expositions of inventions, while countries without patent systems had overall rates of innovation similar to those with a patent system, they did specialize in innovations which were more easily kept secret. How strong this bias would be if no countries had patent systems – that is, whether it is true that patents encourage innovations that would not otherwise be made, or if they just shift the location of innovation from country to country – is not known.

The related idea that patents somehow improve communication about ideas – a notion key to the “public-private” partnership between governments and private research organization in which the government funds the research and then gives the private organization a monopoly over anything developed in the course of research – is backed neither by theory or evidence. It is impossible to study the history of innovation without recognizing that inventors and innovators exchange ideas as a matter of course and that secrecy occurs, in those cases in which it occurs, only in the final stages of an innovation process, when some ambitious inventors hope to corner the market for a functioning device by patenting it.


The market for software and hardware may be viewed as a somewhat special case. Generally the fixed cost of producing software is low – although it is estimated that Apple spent 150 million USD developing the iPhone. This, however, pales in comparison to the cost of developing new medicines – which is estimated to have a present value of closer to 1 billion USD – the same way it does in front of that for developing a new model of automobile, which is in the same range. Interestingly it is also true that – according to both survey and anecdotal evidence – patents play an important role in encouraging innovation in the pharmaceutical industry while playing a minor one in that of cars, insofar as new components and even plants are often developed by consortia or joint-ventures of otherwise fiercely competitive producers marketing different automobile’s brands. The relevance of patents in the pharmaceutical industry – then, and contrary to “Schumpeterian” theories – is most likely not due to the high fixed costs but rather the fact that disclosure in the case of drugs is more meaningful than in that of cars and most other products. The chemical formula and the efficacy of the cure as established by clinical trials are available to competitors essentially for free and it is the second (a public good, privately produced due to a political choice) that accounts for about 80% of the initial fixed cost. On the other side, the downstream cost of monopoly pricing of pharmaceutical products is much higher for life-saving drugs, and the cost of monopoly pricing of other pharmaceutical products is also quite high. Hence various economists, holding differring views about intellectual property, have nevertheless argued that if government intervention is indeed needed in this market a system of prizes would be far superior to the existing system of monopolies.


We have made mention of the loss of human life due to the pricing of AIDS drugs. More revealing is the empirical study of the Quinolones family of drugs (Chaudhuri, et al. [2006]). It measures the economic consequences to India of the introduction of pharmaceutical patents for this family of drugs and concludes that the consequence to third world India will be nearly 300 million USD in welfare losses – while the gain to the first world pharmaceutical companies will be less than 20 million USD.


In 1958 the distinguished economist Fritz Machlup in a report to Congress famously said

'If we did not have a patent system, it would be irresponsible, on the basis of our present knowledge of its economic consequences, to recommend instituting one. But since we have had a patent system for a long time, it would be irresponsible, on the basis of our present knowledge, to recommend abolishing it.'

One might imagine that if it would be irresponsible to recommend abolishing it, it would be even more irresponsible to further extend it. Moreover, one might hope that if it is indeed worth preserving such a large government intrusion into private activity that that during the intervening six decades evidence would emerge that patents do indeed serve the desired purpose of encouraging innovation. Sadly the story of the past six decades is the opposite. In new industries such as biotechnology and software where innovation was thriving in the absence of patents – patents have been introduced. Given this continued extension has there been a substantial increase in innovation in recent years? On the contary, it is apparent that the recent explosion of patents in the U.S., the E.U. and Japan, has not brought about anything comparable in terms of useful innovations and aggregate productivity.

Abolishing patents may seem “pie-in-the-sky” and there are certainly many interim measures that can be taken to mitigate the damage: properly interpreting obviousness, requiring genuine disclosure of working methods and an independent invention defense against patent infringement are useful and – among economists – relatively uncontroversial measures. But why use a band-aid to staunch a major wound? Economists fought for decades – and ultimately with great success – to abolish trade restrictions. It will not escape the careful reader that patents are very much akin to trade restrictions as they prevent the free entry of competitors in national markets, thereby reducing the growth of productive capacity and slowing down economic growth. The same way that trade restrictions were progressively reduced until reaching (almost complete) abolition, a similar (albeit, hopefully less slow) approach should be adopted to “get rid” of patents. Moreover the nature of patents as time-limited makes it relatively easy to phase them out by phasing in ever shorter patent durations. This conservative approach has also the advantage that if reducing patent terms indeed has a catastrophic effect on innovation the process can easily be reversed.


There are of course many transitional issues to be worked out. This is particularly the case withrespect to pharmaceutical products where patents are only one piece of a complicated regulatory jungle including the approval process and the market exclusivity protections all of which would need to be adjusted as patents are phased out. Because policy proposals are better digested and metabolized when served in the form of small pills, here is our list of small reforms that could be easily implemented.


(6) Prizes and competition. An interesting approach is that of operating to change the role that the NSF and the NIH play in fostering innovation. The basic goal, in this case, is that of reversing the principle according to which federally financed investigation can lead to private patents. As a first step we would advocating going back to the old rule according to which the results of federally subsidized research cannot lead to the creation of new private monopolies but should be available to all market participants. This reform would be particularly useful for the pharmaceutical industry.

(7) With regards to the latter, we advocate reforming pharmaceutical regulation to either treat stage II and III clinical trials as public goods (to be financed by NIH on a competitive basis) or by allowing the commercialization (at regulated prices equal to the economic costs) of drugs that satisfy the FDA requirements for safety even if they do not yet satisfy the current, over-demanding, requisites for proving efficacy. It is ensuring the efficacy—not the safety—of drugs that is most expensive, time-consuming and difficult. All the usual mechanisms of ensuring the safety of drugs would remain firmly in place. While pharmaceutical companies would be requested to sell new drugs at “economic cost” until efficacy is proved, they could start selling at market prices after that. In this way, companies would face strong incentives to conduct or fund appropriate efficacy studies where they deem the potential market for such drugs to be large enough to bear the additional costs. At the same time this “progressive” approval system would give cures for rare diseases the fighting chance they currently do not have. This solution would substantially reduce the risks and cost of developing new drugs.

(8) If this progressive approval approach works for rare diseases, there is no reason is should not be adopted across the board. The current system favors a small number of blockbuster drugs that can be sold to millions of patients. The coming revolution in medicine will rely on carefully targeting hundreds or even thousands of drugs to the correct patients. But lawmakers must first usher in a new system that makes developing these precision treatments possible. The regulation reform we are suggesting would be a first important step to achieve such goal.

The aim of policy, in general, should be that of slowly but surely decreasing the strength of intellectual property interventions but the final goal cannot be anything short of abolition. Once again, if at the times of Machlup one could still nurture doubts and wonder if the system could not be reformed in a credible and stable form, in 2012 one must ask: is not six decades of failure enough time? Is it not time to take seriously the idea of patent abolition and begin the discussion of these transitional issues?"


Thiru Balasubramaniam
Geneva Representative
Knowledge Ecology International (KEI)

thiru at keionline.org

Tel: +41 22 791 6727
Mobile: +41 76 508 0997

More information about the Ip-health mailing list