Patent Law Needs Update in Age of Apple

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By Evan Soltas

(Removes inaccurate reference to Monopoly's patent status in sixth paragraph.)

Imitation is the most illegal form of flattery, or so nine jurors of U.S. District Court told Samsung Electronics Co. with a billion-dollar intellectual property ruling in Apple Inc.’s favor.

Whether Samsung actually copied seven features of the Apple iPhone is hardly in doubt: Its devices replicate the iPhone from the exterior casing down to the color of application icons on the home screen. What is in doubt is whether such copying is something courts should prevent. What is in jeopardy is the complex relationship between imitation and innovation, the trade-off between a bountiful stock of public knowledge and the incentives that encourage a flow of discovery. What is -- or ought to be -- in question is the proper role of patent law in the 21st century.

Under Article I, Section 8 of the Constitution, patents exist in the U.S. "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." They do not exist to make ideas property but rather to balance the benefits that flow to the innovator on one hand and to the public on the other, and to old discoveries and to the ones that follow.

Firms innovate when innovation is more profitable than imitation. Innovation often requires substantial up-front investments in research and development, which is largely funded by private industry. Innovation declines if a rival firm can sweep in, imitate and avoid the fixed costs and hard work.

But innovation is desirable when it produces positive external benefits for society. Governments thus encourage innovations with patent laws that give firms temporary monopolies, making both society and innovator better off when profits -- economic rents -- compensate them somewhere between the costs of research and the social value of their discovery. If innovators can't make up their research and development costs, they are made worse off by innovation; if innovators overcharge society for every discovery, society is worse off.

Patents resolve this first trade-off between the ends of the innovator and those of the society in a reasonable way. But it undermines the economic rationale for patents if intellectual property remains private in the long run. There is no social value in games of intellectual-property Monopoly.

There are many signs that the economic rents from patents are excessive, in effect short-changing the public interest. Apple, for one, has clearly recouped the value of its investment in R&D and likely even the full social benefit of its touchscreen technology -- its incredible accounting profits and record market capitalization make that clear. Apple has the legal right to pursue Samsung for patent violations, but the larger system of patents is broken and blameworthy.

Government overreach in patents, in fact, can restrain innovation. In what economists call the "tragedy of the anticommons," a tangled mess of intellectual-property ownership makes building on foundational ideas expensive or impossible. Innovation requires imitation to a substantial extent, requiring balance in the trade-off between new and old innovation.

Imagine, for example, if the letter "e" were subject to patent. So much English writing depends on that foundational letter that its transfer to private ownership would make new writing nearly impossible. Authors would trip over themselves trying to work around the patent; the consequence of the patent would be to discourage not just imitation, but innovation itself. (Only two major works, "La Disparition" by Georges Perec and "Gadsby" by Ernest Vincent Wright, avoid "e" entirely.)

Perec and Wright's examples are extreme but not too far from the patent situation today. A year ago, Google Inc. bought Motorola Mobility Holdings Inc. for $12.5 billion -- a value almost entirely determined by its extensive trove of technology patents, not by the actual profits of its operations. Another example: Eastman Kodak Co.'s now-failed survival strategy boiled down to for-profit patent litigation, suing innovators for alleged violations of Kodak patents in hope that they would cough up enough cash to keep Kodak going. Driven by the inflated value of patents, such behavior -- a scramble for intellectual property -- is exactly what the tragedy of the anticommons envisions.

Apple v. Samsung is just one clash in these larger "patent wars," which have done a deep disservice to the public interest. It's  a sign that sweeping change is needed in patent law. Shorter patent durations, the forced expiration of the oldest patents, facilitated licensing for uses which do not directly compete with the original invention, and tighter restrictions on what can be patented in the future should all be on the table.

Evan Soltas is a contributor to the Ticker. Follow him on Twitter.

Read more breaking commentary from Bloomberg View at the Ticker.

-0- Aug/30/2012 14:46 GMT