Another draft extract from my book-in-progress, Economics in Two Lessons. It’s the last part of the section on “predistribution”, dealing with Intellectual Property. Next up, “redistribution” through taxation and public expenditure.
As always, encouragement is welcome, constructive criticism even more so.
The system of property rights in market societies is based primarily on private property rights, that is, the exclusive allocation of control over some asset to a single person (or, in modern forms of capitalism to a corporate entity). The concept of ‘private goods’ in economics refers to goods that are rival and excludable in consumption. There obvious similarity between these concepts, which often leads to the assumption that the two are identical
In reality, the are crucial differences. The economic concept of private goods relates to the technological properties of the good in question. Private property is a right created and ultimately enforced by law, which may be applied, or not, to almost anything, whether or not it corresponds to the economic idea of a private good.
In particular, public goods (in the economic sense) may be the subject of private property rights. The most important example is that of ‘intellectual property’, that is, rights to control the use of information, such as copyrights, patents and trade marks. Enforcement of such rights typically involves the imposition, after the fact, or penalties for reproducing information without the consent of the owner of the rights.
More than any other kind of property, intellectual property rights such as patents are obviously creations of the states that define and enforce them. Patents were originally monopolies over common goods such as playing cards, used by the Tudor and Stuart monarchs in England to reward favorites or sold off to raise money to fund wars and other expenditure.
The creation of intellectual property rights provides an incentive to generate new ideas, or at least ideas that are sufficiently distinctive in their formulation to attract intellectual property protection. But the enforcement of these rights means that use of the ideas in question is restricted, even though, since ideas are non-rival, there is a social benefit to unrestricted use. Economists have examined the trade off between the costs and benefits of intellectual property protection and have concluded, in general, that the costs of strong forms of intellectual property protection outweigh the benefits.
By the time the US Constitution was drawn up in the 18th century, patents and copyrights were recognised as a way to encourage innovation, as were the dangers of excessive restrictions on the flow of information. The powers of Congress included (emphasis added)
To promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries.
The first Copyright Act passed in 1790, granted authors the exclusive right to publish and vend “maps, charts and books” for a term of 14 years. This 14-year term was renewable for one additional 14-year term, if the author was alive at the end of the first time. Similarly, inventors could patent their ideas for 14 years.
The terms of copyrights and patents were extended moderately over the subsequent two centuries. Since the resurgence of market liberalism in the 1970s, however, both the duration and the scope of what now became known as ‘intellectual property’ have expanded massively.
Just about anything, from colours to chromosomes has now been made the subject of intellectual property. In 2010, Apple Computer even attempted to claim a trademark the letter ‘i’ but an Australian court rejected the claim.
The duration of copyright was extended to the life of the author plus 50 years in 1976, and to life plus 70 years by the Sonny Bono Copyright Term Extension Act of 1998, with corporate owners of ‘work for hire’ getting a further 25 years. The passage of the Act was due in part to pressure from the European Union, which has generally supported strong versions of IP , and in part to the efforts of the Disney Corporation, whose copyrights on cartoon characters such as Mickey Mouse and Winnie the Pooh were in danger of expiry (leading to the derisive label of the Mickey Mouse Protection Act,
The claims of IP have also been used to suppress public debate and support secrecy about wrongdoing by governments and corporations. The Church of Scientology is particularly notorious for its use of copyright claims to silence critics. Less spectacular, but almost certainly more damaging is the development of the doctrine of ‘commercial in confidence’ intellectual property. This doctrine is used, in particular to suppress information about dealings between corporations and governments, providing a convenient cloak for misrepresentation and corruption.
The expansion of patents is equally problematic. The barriers to claiming a patent have been steadily lowered, and the scope of patents expanded. Among the most problematic results have been the patenting of obvious and well-known ideas in computer programming and the development of ‘business method’ patents. The two coincided during the ‘dotcom’ boom of the 1990s, when just about any business transaction, from corporate procurement to selling dogfood, could be patented with the simple addition of the words ‘on the Internet’.
Paradoxically, this expansion of intellectual property rights has happened at the same time as the explosive developments in information and communications technology. Ideas, in the form of text, audiovisual material, open source software and the designs required to make physical products can now be shared globally on a massive scale and at almost no cost.
The result is a mess. On the one hand, intellectual property rights are routinely violated, on a massive scale, by just about everybody. On the other hand, the combination of massive scope and haphazard enforcement creates a minefield for anyone in a position to be sued. A snatch of an old song playing in the background of a movie or a few lines of recycled computer code can open up scope for costly litigation, with the result that it is usually easier to pay up than to fight.
“Patent trolls” make a profitable living in this fashion. And despite the name, these trolls include major corporations. Warner Brothers made millions suing anyone who had the temerity to perform the song “Happy Birthday to You” in public, even though the song had been in the public domain for at least a century. (The tune, with different lyrics, dates back to 1893. The words we sing evolved over time, through what is sometimes called the ‘folk process’)
Economic studies of patents and copyright have reached the similar conclusion that the damage caused by IP enforcement exceeds the benefits in terms of innovation. Is there a good survey on this?
The Copyright Term Extension Act of 1998 provoked an extraordinary response from the economics profession, spanning the gamut from free market advocates like Milton Friedman to interventionists like Akerlog. These and others (including a total of five winners of the Economics Nobel) joined an amicus brief to the US Supreme Court in a case challenging the constitutionality of the Act, a challenge which unfortunately failed.
The conversion of ideas into IP has had even more corrosive implications, by providing one of the key vehicles for global corporate tax avoidance. The basic method is simple: ideas developed or bought by corporations based in the US and other large countries are turned into the IP of a subsidiary located in a tax haven which specialises in concessional treatment of such property. Ireland, for example, charges only 6.25 per cent on income from IP. Companies then pay themselves (or rather their Irish subsidiaries) large amounts for the right to use their own ideas. This payment reduces their profits at home, while the Irish subsidiary pays almost no tax.
The basic method was, until recently, improved by using a second Irish company located in a Caribbean tax haven (the ‘double Irish’) and then rerouting the profits through the Netherlands (the ‘Dutch sandwich’) thereby eliminating tax altogether.
The problems of international tax avoidance and evasion are complex and the effort to curb such avoidance will take many years to succeed, if indeed it does. But reversing the shift towards stronger and stronger IP would be an important step in the process, as well as being beneficial in itself.
What could take the place of strong IP? In many cases, no replacement is needed. No social purpose is served by restricting publication of the works of long-dead authors, who could not possibly have anticipated this outcome when they wrote. Even looking forward, it’s absurd to suppose that I (or any author writing today) am writing in the hope of providing an income for my unborn great-grandchildren.
Similarly, most of the new categories of patents that have exploded in recent decades (business methods, adaptations of standard ideas to the Internet and so on) are positively undesirable. If a new patent required a positive demonstration that the alleged invention was in fact novel, non-obvious and socially beneficial most of these patents would disappear, along with the ‘patent trolls’ who exploit them to blackmail genuine innovators.
In some cases, such as pharmaceuticals, it is necessary to reward the private corporations that produce new medicines. Around 15 per cent of the total revenue of pharmaceutical companies is allocated to research and development, a figure matched only by the information technology and communications sector.
But nearly all of the money these corporations receive from patent-protected medicines comes, directly or indirectly, from governments. In the United States, and other developed countries, governments contribute to the pharmaceutical industry through support for basic research. Much more important, however, are payments through Medicaid and Medicare, which have greatly expanded as a result of Medicare Part D, introduced under the Bush Administration. In addition, the US government subsidises health insurance for most of the population through tax benefits for employer-provided health insurance and through the Affordable Care Act (Obamacare). A substantial part of this subsidy flows through to support the purchase of prescription drugs.
Unlike other governments, the US government does not bargain with pharmaceutical companies over the price of medications (Medicare is explicitly banned from doing so). Rather, companies set their own prices in bargains with private insurers. Unsurprisingly US pharmaceutical prices are around 50 per cent higher than those in other developed countries.
Advocates for the pharmaceutical industry claim that this system enables funding for research and development, and that other countries are effectively being subsidised by the United States. There is some truth in this claim, but the higher prices in the US owe at least as much to marketing efforts and to the ability of pharmaceutical companies to secure monopoly profits thanks to the protection of intellectual property.
It would be far better for the US to follow the example of other countries and negotiate directly with pharmaceutical companies through mechanisms like the Australian Pharmaceutical Benefits Scheme. Companies with a new medication (or even a prospective new medication) could negotiate for an agreed rate of payment and a period after which generic alternatives would be allowed. Ideally, the current exemptions for poor countries would be expanded to allow immediate access to lifesaving treatments at or near the cost of production.
There would certainly be difficulties in sharing the global costs of such an arrangement between the US, EU and other national governments, replacing the current effective US subsidy. But these would be minor compared to that amounts currently wasted through the IP system.
Finally, and most importantly, governments could do more to support contributions to the public domain. Historically, the most important form of government support has been the funding of (mainly university) research through bodies like the National Science Foundation. However, the public good motivation for funding research sits uneasily with continuing pressure to ‘commercialise’ research through patents and other forms of intellectual property.
The emergence of the Internet creates a vast range of possibilities for expansion of the public domain. While much of this will take place spontaneously, governments could help in many ways. First, and most importantly, ‘fair use’ exemptions from …
A more active form of support would be the provision of grants to assist creative projects, ranging from cultural work to open source software that make their outcomes available through the public domain or through variants like the Creative Commons licensing. Repositories such as Github (for open source software) would be an obvious model. While it would be undesirable for governments to seek to control the outcomes of such projects, this is an area where relatively modest financial support could yield substantial social benefits.
As far as intellectual property rights were concerned, the drafters of the US Constitution2 understood the Two Lessons better than their successors two hundred years later. Property rights are social constructions, with both benefits and opportunity costs. Markets cannot determine the appropriate balance between the two because they only permit trade in property rights that have already been created. So, the determination of property rights is a crucial aspect of predistribution.
1 For example in Britain, army officers could buy and sell their commissions, a practice which continued until 1871 https://en.wikipedia.org/wiki/Purchase_of_commissions_in_the_British_Army
 Anecdotally, one of the forces pushing for protection was the Bavarian government, which held the copyright over Hitler’s Mein Kampf and had prohibited publication. While we might sympathise with the desire to suppress this evil book, the case indicates the way in which copyright limits the flow of ideas of all kinds
3. The absence of direct bargaining contributes substantially to this outcome, but it is not the only causal factor here. The quasi-private system prevailing in the United States produces higher costs in almost all areas of health care.
2 Of course, in other respects, most importantly the implicit acceptance of slavery, the Constitution’s treatment of property rights was appalling.