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"More patents in more industries and with greater breadth are not always the best ways to maximize consumer welfare" (page 21).
"Many panelists and participants expressed the view that software and Internet patents are impeding innovation" (page 165).
The U.S. Federal Trade Commission was asked to research the interface between patent policy and competition policy. After extensive hearings, its report "To Promote Innovation: The Proper Balance of Competition and Patent Law and Policy" was published in October 2003.
The FTC looked especially closely at the different effects of patents on the competitive environment in four key high-tech industries: pharmaceuticals, biotech, computer hardware/semiconductors, and computer software/internet. In its quietly-stated, deeply-researched governmental way, its conclusions are fascinating and devastating: positive effects of software patents are questionable at best; but software patents have serious negative effects on competition -- and competition, not patentability, is what drives innovation in this sector.
The FTC's full report, including much very interesting material on the competition economics of patents (Chapter 2), is available in pdf format (2.3 Mb).
The Hearings highlighted both the potential benefits and potential harms of patents. Clearly, they help foster innovation. At the same time, the testimony identified a number of potential adverse effects, including greater market power, higher costs and risks for competitors, and higher costs and reduced incentives for independent follow-on innovation. The presence of both potential benefits and potential harms implied a need for making tradeoffs and judicious policy choices. In deciding issues at the interstices of the patent statutes, in amending those statutes, and in making determinations about patentable subject matter, policymakers should strive to take conscious account of the likely effects on innovation and on competition, with the goal of adopting policies that contribute most to consumer welfare over time. |
 Patents keep competition from bringing down prices; but patents can also prevent competition from spurring on innovation |
Recommendation: Consider Possible Harm to Competition Along with Other Possible Benefits and Costs Before Extending the Scope of Patentable Subject Matter.
... Decisionmakers should ask whether granting patents on certain subject matter in fact will promote such progress or instead will hinder competition that can effectively spur innovation. Such consideration is consistent with the historical interpretation of patentable subject matter, which implicitly recognizes that granting patent protection to certain things, such as phenomena of nature and abstract intellectual concepts, would not advance the progress of science and the useful arts. For future issues, it will be highly desirable to consider possible harms to competition that spurs innovation as well as other possible benefits and costs before extending the scope of patentable subject matter.
Over six days of Hearings, business representatives from four high-tech industries discussed the drivers of innovation in their industries...
Representatives from the pharmaceutical, biotechnology, Internet, and computer hardware and software industries described their real-world experience with how patents and competition affect incentives to innovate. Their discussions confirmed many of the principles summarized in Chapter 2 and sometimes shed additional light and offered new perspectives on the topics. They highlighted both the benefits and costs of current patent and antitrust policies applied in their industries. This chapter discusses the diverse views presented by the panelists, and also incorporates the results of business surveys and other industry-specific scholarship.
The panelists identified various attributes that characterized innovation in the different industries. Panelists discussed whether innovation in their industries tends to be discrete or cumulative, building incrementally on prior discoveries. Panelists also addressed sources and amounts of capital required for entry, barriers to entry, the extent to which industries are vertically integrated, and difficulties in commercializing new products. They raised issues of fixed cost recovery, alternative appropriability mechanisms, and relationships between initial and follow-on innovation, adding business insights and practical experience to the analysis of Chapter 2. According to both panelists and academics, factors such as these shape the role of competition and patents in spurring or discouraging innovation in their industries.
Pharmaceutical and biotechnology representatives testified that strong patent protection is essential to innovation in their industries. Business representatives characterized innovation in these industries as costly and unpredictable, requiring significant amounts of pioneering research to discover and test new drug products. By preventing rival firms from free riding on discoveries, patents allow pharmaceutical firms to recoup the substantial capital investments made to discover, test, and obtain regulatory approval of new drug products. Biotech representatives emphasized that patent protection is critical to attract the capital necessary to fund this high-risk investment. Indeed, firms believed that the biotech industry would not exist but for patents...
By contrast, computer hardware and software industry representatives generally emphasized competition to develop more advanced technologies as a driver of innovation in these rapidly changing industries. These representatives, particularly those from the software industry, described an innovation process that is generally significantly less costly than in the pharmaceutical and biotech industries, and they spoke of a product life cycle that is generally much shorter. Some software representatives observed that copyrights or open source code policies facilitate the incremental and dynamic nature of software innovation. They discounted the value of patent disclosures, because they do not require the disclosure of a software product's underlying source code...
Representatives from both the computer hardware and software industries observed that firms in their industries are obtaining patents for defensive purposes at rapidly increasing rates. They explained that the increased likelihood of firms holding overlapping intellectual property rights creates a "patent thicket" that they must clear away to commercialize new technology. They discussed how patent thickets divert funds away from R&D, make it difficult to commercialize new products, and raise uncertainty and investment risks. Some computer hardware and software representatives highlighted their growing concern that companies operating in a patent thicket are increasingly vulnerable to threats to enjoin their production from non-practicing entities (NPEs) that hold patents necessary to make the manufacturer's product.
The innovation that the patent system spurs for the discovery and commercialization of NCEs in the pharmaceutical industry in many ways showcases the patent system's benefits. Such innovation entails the high fixed research costs, relative ease of imitation, and free riding problems that patent protection effectively manages. Fewer patent thicket issues arise in the pharmaceutical context than in industries where innovation is less discrete and individual products are covered by many patents. Subsequent sections examine how the roles of patents and competition vary in industries that exhibit different characteristics.
Biotechnology, with its heavy investment in basic research and research tools, poses more issues of cumulative innovation than pharmaceutical drugs, for which much of the innovation process was discrete. Biotechnology patents might harm follow-on innovation through the creation of an anticommons and by restricting access to inventions...ew panelists suggested that these problems can be mitigated by mechanisms such as reach-through royalty agreements, cross-licensing, and patent pools. It is also possible that recent uncertainty about the scope of the research exemption may hinder non-commercial research.
The hearing record highlighted many of the issues that economists suggested might arise in contexts that involve cumulative innovation and a multiplicity of patents. Specifically, the participants from these industries confirmed a trend toward defensive patenting and stated that patents can deter innovation: (1) by contributing to patent thickets, and (2) through their use by NPEs to hold up PPEs. Panelists also observed that various patent licensing arrangements - cross-licensing, patent pools, and the licensing requirements of standard setting organizations - have helped to mitigate the potential harm to innovation caused by patent thickets.
Panelists consistently stated that competition drives innovation in these industries. Innovation is also fostered by some industry participants' use of copyright protection or open source software. Several panelists discounted the value of patent disclosures, because the disclosure of a software product's underlying source code is not required.
Many panelists and participants expressed the view that software and Internet patents are impeding innovation. They stated that such patents are impairing follow-on incentives, increasing entry barriers, creating uncertainty that harms incentives to invest in innovation, and producing patent thickets. Panelists discussed how defensive patenting increases the complexity of patent thickets and forces companies to divert resources from R&D into obtaining patents. Commentators noted that patent thickets make it more difficult to commercialize new products and raise uncertainty and investment risks. Some panelists also noted that hold-up has become a problem that can result in higher prices being passed along to consumers.
Three panelists, two of whom were entirely opposed to the issuance of business method patents, commented that the patent term for business methods should be reduced to between three and five years [316]. One of these panelists commented, "three years is more in line with the development time and cost that ... business methods face." [317].
Some of the panelists expressed concern that the possibility of exposing oneself to allegations of willful infringement by reading another firm's patents reduces the value of patent disclosures. One panelist stated that "the [patent] system discourages you from looking very hard [at patent disclosures] because ... simply by virtue of poking around to find out what patents exist you expose yourself to willfulness claims which can triple the amount of damages and exposure to attorney's fees." [322]. A second panelist confirmed that the potential for being accused of willful infringement had deterred him from reading patents. [323]. Another panelist reported that uncertainty in the patent system hinders the use of patent disclosures in a competitive manner. [324] The panelist summed up the problem with the statement "there's too much information and it is no longer meaningful." [325].
Defensive patenting has accelerated the development of a patent thicket in the software industry. Panelists explained that firms pursue defensive patenting: (1) to maintain detente with rivals; (2) to obtain portfolio cross-licenses from rivals; and (3) to raise a patent infringement counter-claim should a rival sue a firm for patent infringement [345]. One panelist commented that the process of obtaining defensive patents to obtain portfolio cross-licenses from rivals, and thereby maintain freedom to operate, is essentially an attempt "to solve the problem you're creating" by issuing patents on software in the first place [346]. Another panelist observed that defensive patents have implications for innovation. Companies may have to divert resources from R&D to fund their defensive patent programs. The panelist issued a directive to his company requiring that they "reallocate roughly 20 to 35 percent of [their] developer's resources and sign on two separate law firms to increase [their] patent portfolio" for purely defensive reasons [347]. The engineers' time dedicated to assisting in the filing of defensive patents, which "have no ... innovative value in and of themselves," could have been spent on developing new technologies, this panelist asserted [348]. The existence of a software patent thicket significantly increases the likelihood of companies being held-up due to the difficulty of avoiding patent infringement. Commentators reported that a software program with hundreds of thousands of patentable ideas can be held-up by a patent that claims a single routine in the program [349]. Building up a patent portfolio by engaging in defensive patenting cannot always protect against hold-up; when small companies or NPEs engage in hold-up, they generally are not susceptible to pressure from patent infringement counter-claims [350].
By contrast, one panelist observed that patents can be preferable to copyright for software, because patent protection also covers processes. [300] This perspective finds support in an analytical study that concluded that certain aspects of computer programs not protected by copyright law "are vulnerable to rapid imitation that, left unchecked, would undermine incentives to invest in software development." [301] The authors also noted that the extended period of protection available under copyright law has the potential to harm innovation and consumer welfare "by banning for seventyfive years functionally indistinguishable products, having independently created texts." [302] [[Not the case in the EU]]. The scholars, however, expressed some concern that applying two intellectual property rights regimes to software may not always work smoothly: "No one knows just where the boundary line between these domains does or should lie." [303] The use of overlapping regimes has left "considerable uncertainty about the scope of protection available from each." [304]
The development of open source software occurs through the use of three key organizational principles. [306] These include: (1) the absence of most legal constraints on copying and use common to proprietary materials; (2) the accepting (and frequent public dissemination) of contributions from many developers; and (3) the confining of the right to modify the official version of the program to a smaller subset of individuals or a leader closely involved with the project. [307]
Open source software has received considerable attention in recent years due to: (1) its rapid adoption, particularly by expert users and corporations; (2) significant capital investments in open source projects by corporations such as Hewlett Packard, IBM, and Sun Microsystems; and (3) the hailing of its collaborative nature of development by business and trade press as an important organizational innovation. [308]. Scholars have identified both disadvantages and advantages to open source methods. On one hand, "[c]ommercial projects have an edge on the current-compensation dimension because the proprietary nature of the code generates income." [309]. On the other hand, open source may have certain cost advantages, [310] and may permit programmers to benefit from a range of delayed rewards. [311].
In some cases, "but for" thinking can provide useful guidance for overall policy directions. For example, to the extent that the suggestion test for nonobviousness [A U.S. test used to evaluate prior art] lacks convincing correlation to the likelihood that invention would occur or that it would be disclosed and developed without the patent, the test raises the potential for conferring exclusionary rights without offsetting social benefit. The Commission, therefore, urges that in assessing obviousness, the analysis should ascribe to the person having ordinary skill in the art an ability to combine or modify prior art references consistent with the creativity and problem-solving skills that in fact are characteristic of those having ordinary skill in the art. Failure to give weight to suggestions implicit from the prior art as a whole, suggestions from the nature of the problem to be solved, and the ability and knowledge of one of ordinary skill in the art may be unnecessarily detrimental to competition.
Questionable patents may have a disproportionally adverse impact on entry by small firms and individuals who lack the resources to challenge such patents. As one software programmer commented, "the ease with which the US Patent Office has been granting patents in the last few years has already dampened my plans to write software as a primary business." [358] In contrast, a panelist from a larger firm suggested that incentives to innovate are not undermined by questionable patents. [359] The panelist observed that it is "a fairly straightforward exercise for our research department to investigate the relevant prior art [for an overly broad patent] and therefore obviate any further discussion on the matter." [360]
The lack of effective mechanisms for third-party challenges to patents compounds the harm to innovation caused by questionable patents, according to some. Panelists contended that the court system is too uncertain, time-consuming, and costly to examine questionable patents effectively. [361]. They argued that the reexamination process also has significant defects: the challenging party is at a significant disadvantage procedurally and is then estopped from raising key issues in the courts. [362]. Panelists advocated that reforms be made to the reexamination procedures so as to increase their effectiveness for challenging questionable patents and that the possibilities for pre-grant comment also be more fully utilized. [363]. A number of commentators maintained that the PTO's issuance of questionable patents results in part from a lack of funding that is attributable to the diversion of PTO user fees to non-patent related matters. [364]. Several panelists argued that if the PTO had more examiners, made a greater effort to keep experienced examiners, and gave patent examiners more time to spend on their initial examination, the PTO would issue fewer questionable patents. [365]. "Improving patent quality will increase confidence in the validity of patents, thus making it easier for patent owners to commercialize their inventions and decreasing the possibility that potential defendants will have to address infringement allegations that ultimately prove to be without merit," one commentator stressed. [366].