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Source link: http://archive.mises.org/9334/seen-and-unseen-cost-of-patents/

Seen and Unseen Cost of Patents

January 29, 2009 by

[This is part 4 of an ongoing live blog of Against Intellectual Monopoly]

Drugs patents took it on the chin a few years ago, when major drug companies refused to sell cheap AIDS drugs in Africa. Presuming the drugs work, countless lives might have been saved. But the desire to protect the high price on the patented drug–despite the low marginal cost for producing additional units–trumped the humanitarian impulse to save lives. The large drug companies refused to budge, despite protests from all over the world.

Defenders of the drug companies say: well, sure it is cheap to produce mass quantities of drugs after they have been developed. But the costs of getting there are sky high. If companies can’t charge high prices, they won’t develop the drugs in the first place.

Boldine and Levine, in chapter four, offer an interesting response to this claim but it requires a bit of thought. They point out that the drugs can still be sold profitably at vastly lower prices, in the same way that many other products can be sold profitably at low prices. Items of super high cost–think of passenger airlines or cruise ships–recoup those costs through volume sales over time. It is the same with drugs, or could be.

So why wouldn’t the pharmaceutical companies budge in the African case? It is due to the fear of re-importation, that is, that the drugs would make their way back to the US and Canada and be sold at cheap prices, thereby undercutting the monopolistic price. Why not just price discriminate? It not so easy to price discriminate in a global economy. Rather than take that risk, companies settled for not selling at all. This reflects a general principle articulated by Boldine and Levine: “Intellectual monopolists often fail to price discriminate because doing so would generate competition from their own consumers.”

Think about this principle. It helps explain why large software manufacturers routinely degrade their products available to consumers while reserving their better products for the more lucrative corporate market. This is why the versions of operating systems and end-user software are dumbed down on the consumer market. The companies don’t want to permit cross selling between markets, even though the costs of selling better products across markets are virtually identical. Only IP allows them to get away with this sort of behavior.

So, yes, there are some benefits to patents in the same way there are benefits to all monopolists. The Post Office benefits from the prohibition against private delivery on letters. Public school benefit by regulations on private education and mandatory funding. The electric company benefits from its statutory guarantee against competitive intrusion.

But that is not the same as saying that all groups benefit. Boldrine and Levine examine data from Total Factor Productivity in cross-national studies and show that the astounding increase in patents in the 1990s–rising more than three-fold from a stable rate in previous decades–has had no effect on increase prosperity and innovation.

Meanwhile, there are huge costs, even for those who acquire and own the patents. Oracle software, for example, spends vast resources on what can be called defensive patents. They must get them before someone else does else risk having to pay huge fees to someone else. Cross-licensing is the only way to develop software now, so the patent route has been forced on everyone. The word “thicket” is the one everyone uses. What it really amounts to is a cold war between patent holders–a patent race that is very much like an arms race. This is why Nokia own 12,000 patents and Microsoft is adding 1,000 patents a month to its arsenal. Intel’s CEO spoke for many when he said he would be glad to cut patents to a tenth of its current rate provided that others did the same.

Conventional patent theory says they are necessary for generating revenue to fund research and development, and to inspire innovation. This is supposedly the economically valuable contribution of patents. Then there is the real world. A Carnegie Endowment survey of firms shows that businesses themselves report that this function of patents is mentioned as important only 6% of the time. The main reason businesses say that they want patents is enforce monopoly–preventing people from developing similar but better and cheaper products–and to prevent lawsuits.

They authors describe the result of patents as not a competitive market for innovation but an oligopolistic market structure around patent-pool mechanisms. This affects every industry, as patent battles hinder economic development. A good example is the ongoing battle over who and what can lay claim to the title “basmati” rice. A Texas company called RiceTec won a patent in 1997, infuriating Indian and Pakistani companies that have been making Basmati for hundreds of years. These companies have been fighting back with their own attempts to register patents on the rice. What this has to do with the consumer and the dinner table and the need for cheap and delicious food being made widely available is the unanswered question.

A peculiar form of patent abuse comes in the form of the submarine patent. This is a patent taken out early while the production of the product itself is delayed as long as possible. When someone else finally goes to market with a product, the patent emerges from the deep as a method of blackmailing the company that has gone to market.

Boldine and Levine explain that this tactic dates to George Seldon’s patent on the “road engine” in 1895. It commanded 1.25% on the sale of every car in the US. He sold his patent for $10,000 and 20% of royalties to a syndicate in 1899. As the car actually started to make it to market, the Associated of Licensed Automobile dealers formed a cartel around the patent. The authors comment: “if you were wondering why the U.S. automobile industry developed so quickly into the oligopoly we know and hate, a fair share of the roots lie in bad ‘intellectual property’ legislation and the intellectual monopoly it created.”

Personally, I find that revelation remarkable. More than a hundred years later, we are still paying the price for this car-cartel-creating patent. Something similar happened to airplanes, when the Wright Brothers managed to get a patent on anything resembling an airplane, despite their own meager contribution to the technology. They were so aggressive in blasting all competitors that all serious innovation in airline technology ended up taking place overseas in France.

The authors make a statement that I wish could be made more prominent, since it comports with everything I know about businesspeople and patents. It is the most common thing in the world for a businessperson who use every market-oriented skill to get a product to market: a good product at a good price that becomes the market leader. At this point, and for some odd reason, the businessperson gets confused. He thinks that it his IP that is the key to his success and ends up fighting for it with all his might, even at his own expense.

Here is the statement by Boldrine and Levine: ” “Being a monopolist” is, apparently, akin to going on drugs or joining some strange religious sect. It seems to lead to a complete loss of any sense of what profitable opportunities are and of how free markets function. Monopolists, apparently, can conceive of only one way of making money, that is bullying consumers and competitors to put up or shut up. Furthermore, it also appears to mean that past mistakes have to be repeated at a larger, and ever more egregious, scale.”

A clear case in point concerns the Recording Industry Association of America, which managed to make itself appear as the devil incarnate in the eyes of an entire generation of music downloaders. Another example concerns Google Print. This work of genius would have brought all the world’s libraries to one central location so that users could search the books and purchase them. Wonderful! But the Authors Guild sued, and the suit has gutted Google Print as a useful tool. The dream of all educated people from the ancient world to the present–a single accessible repository of all the world’s wisdom–was stopped for no good reason.

The authors conclude chapter four with a restatement of the theme: the benefits of patents are small and narrow, while the costs are large and broad. The biggest costs are the unseen ones that Bastiat speaks of. These are innovations we don’t see, the products that don’t come to market, the efficiencies that we never experience, the companies that don’t come into existence, and the investment that would have taken place with the resources that are expended on patent acquisition and enforcement. Here are the real costs of patents, and they are incalculable.

{ 64 comments }

Stephan Kinsella January 29, 2009 at 2:02 pm

“Intel’s CEO spoke for many when he said he would be glad to cut patents to a tenth of its current rate provided that others did the same.”

Jeff, this comment reminded me of this Patent Rights Web Poll I did a while back–I asked “Would you give up your right to sue others for patent infringement in exchange for immunity from all patent lawsuits?”

Out of over 200 respondents, 78% said YES.

Patent Rights

Would you give up your right to sue others for patent infringement in exchange for immunity from all patent lawsuits?

Yes
No



Justin January 29, 2009 at 2:09 pm

Jeff, to be fair, passanger airlines and cruise ships offer discounts on space because they have exploding assets. You have to sell through capacity in order operate profitably or at least at cost. If they could, they’d just not fly the plane or cast off if they didn’t make enough revenue to cover the fixed cost of the service. Sure you could price discriminate, but if it’s a drug that might save your life, your elasticity of demand is going to look very inelastic.

Walt D. January 29, 2009 at 2:11 pm

Jeff
While I am no fan of IP, particularly when it is granted for trivial improvements to non-original ideas in software or trivial modifications in drugs, I’m not convinced that drug patents stifle innovation. There is no reason why a socialist (totalitarian) system such as the old Soviet Union, that had the technology and intellectual talent to put men into space and develop designer military viruses, could not have developed viagra. Given that they did not have the expensive process of FDA clinical trials, why was there no significant drug developments of any type?
Also, in the US, many of the smaller drug companies are funded by venture capital. These funds are currently drying up. With no patents, they would not even have been funded. Even with patents, do you expect the companies and employees to work for nothing, when the funding dries up, for the benefit of humanity.

Stephan Kinsella January 29, 2009 at 2:17 pm

Jeff, great point about businessmen who use market-oriented skills to get a product to market, and then, after becoming a market leader, getting confused and thinking IP is the reason for his success and becoming more IP-monopolistic in their attempts to suppress competition.
This reminds, of course, of the Adam Smith quote:

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices. It is impossible indeed to prevent such meetings, by any law which either could be executed, or would be consistent with liberty and justice. But though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies, much less to render them necessary.

I used to hate this quote–it is often trotted out, sans the last sentence, but unthinking advocates of state antitrust laws. But the statement is correct: businessmen unfortunately too often use the state to suppress competition; and it is also true that the state should not outlaw private cartels, collusion, monopolization–but it should not facilitate it (by granting IP monopolies) or make it more necessary (by impoverishing businesses by its policies, making people more desperate and thus willing to act unethically to make profit; or by having to play the game (lobbying, building patent warchests for defensive purposes) to survive).

(On IP as monopolies, see my posts The Schizo Feds: Patent Monopolies and the FTC and IP vs. Antitrust.)

Martin OB January 29, 2009 at 2:31 pm

Mr. Tucker, I’m glad you changed your mind on this topic, and I commend your honesty for giving credit to the authors of the book which most helped to convince you. Of course, there’s no contradiction in being anti-IP and giving credit where credit is due. It doesn’t mean either that one doesn’t want innovation to be somehow rewarded. IMO, a patent-free economy would shift from a paradigm of “get all the details right, then patent” to a paradigm of “be the first to announce the basic idea, let others fill in the details and take the risks, then enjoy the recognition”, that is, a lower reward for a lower effort than is the case today.
In general, rather than (or besides) insisting on the many nasty effects of intellectual monopoly, it would be interesting to discuss in more detail the ins and outs of a modern, IP-free economy.

More on topic, here’s another nice example of the patent system promoting innovation:

http://www.osnews.com/story/20861/Apple_Granted_Patent_on_Multitouch_Gestures_More

Walt D. January 29, 2009 at 2:42 pm

Stephan
I remember the first time I visited the mansions in Newport, Rhode Island, that were built at the end of the 19th century. What struck me most was not the size of these summer houses (60,000 sq ft for a house that was occupied on 6 weeks a year), but how the owners had amassed such wealth in order to afford them – many had exclusive business contracts with the Federal Government.
If patents and copyrights are a problem, then they are part of a bigger problem of successful businesses lobbying Congress to grant them privileges, or impose impediments on the competition. Perhaps Congress should be required to do the same as PBS and be required to disclose – “This Bankruptcy Legislation has been written and funded by MBNA”.

ktibuk January 29, 2009 at 3:22 pm

Why don’t you address the calculation problem instead of these assertions without any proof?

Authors of the book probably have never heard of Mises and his calculation argument but I hope you guys have.

Again, if there wont be private property when it comes to IP how will the market allocate the time of the producers, which is a scarce resource?

saku January 29, 2009 at 4:53 pm

What calculation problem? The ideas you’re referring to are not a unit of account and there is no physical resource to be allocated that needs to be calculated. So how can a calculation problem occur?

Has the calculation problem occurred in propagation of fire, the wheel or even the many languages of this planet, which are freely open for anyone to learn and use?

Silas Barta January 29, 2009 at 5:07 pm

@saku:What calculation problem? The ideas you’re referring to are not a unit of account and there is no physical resource to be allocated that needs to be calculated. So how can a calculation problem occur?

I thought ktibuk made it clear: it doesn’t matter that ideas are non-physical. Producing new ones *does* require consumption of physical resources, like labor, raw materials, and capital goods. So, if there is no property in the ideas, how do I know how much the market values them? How do I know whether it’s a good idea to hire two engineers, 3 computers, and 1500 sq ft of office space to producing it?

Think about it.

Andras January 29, 2009 at 5:11 pm

@Silas,
I sent you a comment to your blog. Have you found it?

Silas Barta January 29, 2009 at 5:15 pm

@Andras: Yes, I did! Thanks for commenting. I’ll reply to it soon.

Martin OB January 29, 2009 at 6:27 pm

I think the reason for ktibuk bringing up the subject of “the calculation problem” is his contention that anti-IP people are “IP socialists”. The calculation problem is an argument against the viability of a socialist economy. If all property has the same owner (the State) then there are no prices, so there’s no possible calculation of costs and benefits, ie no economic calculation, so there’s no way to determine numerically which form of allocation of scarce means is the most efficient.

Since ideas are not resources, they are not subject to scarcity, there’s no question of how to allocate them and no economic calculation problem regarding ideas qua ideas.

Mental effort OTOH is a kind of labor, that is, a particular use of the scarce resource that is the human body (particularly the brain).

Each person’s brain belongs to this person, so there is indeed a market where mental labor can be integrated in a cost-benefit estimation, and there’s no more of a calculation problem about how to allocate mental effort than there is about how to allocate physical effort.

In order to emphasize that IP opposers are nothing like “IP socialists” let’s consider what a true “IP socialist” would think.

Socialism is, roughly speaking, an economic system where all property belongs to the State. So, a precondition to be an IP-socialist is to believe that there is indeed such a thing as intellectual property, and that it should belong to the State. Since the physical translation of so-called “Intellectual property” is the legal monopoly on the activity of producing and transmitting certain patterns of information, an IP-socialist believes that whoever comes up with an invention or an artistic creation, a legal monopoly on this new idea should be automatically granted to government officials, who would take care of this newfound property. Nothing remotely similar to the anti-IP position.

Max Zorin January 29, 2009 at 6:56 pm

Silas, I have to quibble with your logic. You’re saying that we need a market to determine how to many resources we need to input in order to come up with an idea – something that does not exist yet. In other words, we need a market so as to be able to allocate things that the public does not know exist, and cannot put a value on.

Think of this in real-world terms. How can an entrepreneur be expected to know how many engineers, computers, offices, etc. he needs to produce something that does not exist yet? If ideas are indeed unique (and therefore worthy of patent protection), then producing them cannot ever be a predictable, measurable, quantifiable process.

To the extent that the production of previously-unknown things CAN be predicted and quantified, those things really aren’t “previously-unknown.” It involves merely switching a few I’s to O’s and manufacturing a different variation of the same algorithm.

While I’m skeptical about the idea of abolishing all intellectual property, I certainly don’t see any utility or justification for patents as providing a way to measure the production of heretofore undiscovered “things.”

Inquisitor January 29, 2009 at 8:00 pm

“Why don’t you address the calculation problem instead of these assertions without any proof?”

Perhaps because it applies to, oh, I don’t know, scarce resources, for which economization is actually necessary?

“I thought ktibuk made it clear: it doesn’t matter that ideas are non-physical.”

It does. If the thing can be reproduced at no cost, infinitely, it is not scarce, and need not be economized. So stop spewing ignorant nonsense.

“Producing new ones *does* require consumption of physical resources,”

Na und?

“like labor, raw materials, and capital goods.”

THOSE are scarce and require economization. I breathe when I take any action. Does it then follow air is a scarce good? Get real. I can reproduce an idea by mere thought. There is no need to economize, then. Beyond those scarce goods, for which property rights obtain, there is no point to property rights, given that they apply (I repeat this for paedagogical purposes) to goods which are not scarce, hence in need of economization. Unlike, ideas. All you’ve shown is that the discovery process of ideas includes scarce resources. So what? Once it’s discovered its reproduction is in principle unlimited.

“So, if there is no property in the ideas, how do I know how much the market values them? How do I know whether it’s a good idea to hire two engineers, 3 computers, and 1500 sq ft of office space to producing it?”

See whether they’re willing to buy the end product. If not, then there’s no point into the expenditures involved. The “idea” certainly is not in need of economization, because it is, oh wonders!, non-scarce. Hence, the calculation argument DOES NOT apply to it, as Mises himself realized. Only semi-morons extend the argument to non-scarce resources.

Incorrigible imbecile.

Inquisitor January 29, 2009 at 8:02 pm

which are scarce*

Andras January 29, 2009 at 8:09 pm

@Max Zorin
“To the extent that the production of previously-unknown things CAN be predicted and quantified, those things really aren’t “previously-unknown.” It involves merely switching a few I’s to O’s and manufacturing a different variation of the same algorithm.”
Just read the original entry. Fighting AIDS is hardly solved by switching a few 1′s to 0′s. It is not the idea what is planned but a solution to the problem, preferably the best solution. Plan is concieved, resources are dedicated to reach this solution. When this plan is successful the result is the idea which is new, progressive and practical, the reason that it can be patented, according to current IP law. At the creation of this idea it was absolute scarce, i.e., unique, Fortunately it is not black magic so it is understandable to the layman. And since he could some of them wants more than just to have access to it through the market but also a claim that it is his (then he comes up with an anti-IP ideology to rationalize his grab). What is this if not socialism:
“From each according to his ability, to each according to his need”.

Silas Barta January 29, 2009 at 10:06 pm

Okay, let’s try this again. Could someone respond to the “IP calculation problem argument” without defining the problem away? Remember, classifying ideas as “not economic goods” does not tell me how an entrepreneur estimates how much of any given resource he should sink in to discovering an intellectual work (invention, book, etc.).

jeffrey January 29, 2009 at 10:34 pm

How do entrepreneurs know how much to invest before going to market? Umm, that’s what entrepreneurs function. It’s not a science; it’s an art, ratified by the price system.

Silas, you know, your line of argument could be used for any economic good. If we don’t have a monopoly on bacon, why would anyone produce it? If we don’t have an exclusive privilege for making clocks, why would anyone bother keeping time? If we don’t have competitive restrictions on tin, why would anyone bother with investing in it? And so on. these defenses of IP are indistinguishable from the usual defenses of mercantilism.

Silas Barta January 29, 2009 at 10:56 pm

Before I forget:

@Stephan_Kinsella: Give it up with that poll already. It’s no different from going up to a bunch of bums and asking them, “Would you give up all of your property rights if it meant you could loot people with impunity?” No **** people who haven’t produced anything aren’t going to value the rights in what they’ve produced! Is this what passes for insight here?

@jeffrey: How do entrepreneurs know how much to invest before going to market? Umm, that’s what entrepreneurs function. It’s not a science; it’s an art, ratified by the price system.

Yes, and the question is, how does the price guide entrepreneurs in terms of “idea production”? How does an idea’s greater value get reflected in a higher price that an entrepreneur can see and compare to the cost of the inputs needed to produce it?

Silas, you know, your line of argument could be used for any economic good.

Yes, but you have to draw the parallel carefully and identify the relevant monopoly. Watch:

f we don’t have a monopoly on bacon, why would anyone produce it?

We do have a monopoly on bacon! Everyone has a monopoly on (property rights in) the bacon they own. I am allowed to viciously prevent others from selling my bacon. Horrors!

So, when I see people bidding higher prices for bacon, I can look at the input costs and decide to make more. Or I can see that the inputs are too expensive and risky and decide not to make bacon. That is what entrepreneurs do, that is how prices contain information, that is how demand translates into supply.

When I produce bacon, but it is price-controlled at $0, that puts a kink in things. All information reflecting social preference for bacon is deleted. Sure, I can bundle the bacon with other goods, but the price signal is still massively distorted, and I have yet to see a libertarian argue that price controls are harmless “because you can just bundle it with something else and charge for a related good”.

And so on. these defenses of IP are indistinguishable from the usual defenses of mercantilism.

You mean, you can’t distinguish them. I can do it just fine. Watch: if the monopolist had never existed, tin could still be produced and used. If the inventor of a new idea had never existed, ______.

JackSkylark January 29, 2009 at 11:34 pm

Silas Barta,
I think its great you are bringing up the concept of economic calculation. I have been arguing the same thing for a couple of days on the Forums here and it’s nice to see someone giving a Misesian based defense of IP.

ktibuk January 30, 2009 at 1:44 am

I too have to hand it to Silas. I also can understand Mises better, and actually feel a little sorry for Rothbard because fighting against socialism on ethical grounds is so very hard and frustrating.

It is just a more efficient way to use the calculation argument and get

a. No reponse

b. A response that shows the responder has no clue when it comes to Mises’ calculation argument, thus economics.

Peter Surda January 30, 2009 at 5:51 am

@Silas, ktibuk
Your repeating the economic calculation issue shows that you do not understand intellectual property. You appear to be assuming that the lack of intellectual property means lack of any rights whatsoever regarding immaterial goods, or in other words, it means their “socialisation”, “nationalisation”, “expropriation”, etc. This is incorrect. While IP indeed are rights related to immaterial goods, they are very specific rights. There are other rights that apply to immaterial goods and protect them. They are granted by laws that have nothing to do with IP per se.

In my upcoming paper I am trying to explain this in more detail and conclude that IP is neither required in order to create contracts regarding immaterial goods and to prosecute violators of these contracts, nor is it required for markets with immaterial goods to exist.

Finally, either of you have yet managed to explain how is it possible that I have been earning money as a software engineer for many years without recourse to IP. If you are correct than I should have been broke all that time.

Cheers,
Peter

Drake January 30, 2009 at 6:11 am

@ktibuk

I seem to recall that the price of the factors of production is determined by the price of the final product. By determining the value that innovation adds (in productivity, profits, etc.) to a company, one may then price the factors that produced that innovation.

ktibuk January 30, 2009 at 6:47 am

Peter,

You never seem to get the problem with this IP thing. I suggest you try to understand the issue before trying to comment on it let alone write a paper.

We are arguing against people who want to abolish all rights associated with IP.

They want to abolish all the patent system, copyright system and trade mark system.

If they get their way there will certainly be a calculation problem because the price of IP will be zero in the market.

ktibuk January 30, 2009 at 6:59 am

“By determining the value that innovation adds (in productivity, profits, etc.) to a company, one may then price the factors that produced that innovation.”

How exactly are you going to determine that, with out price signals?

Yes you may bundle IP with some tangible good but as long as IP can not have separate price there can not be differentiation between the tangible goods properties.

Imagine two books using identical physical goods. Same quality and number of pages, same quality binding, same ink. One is a Harry Potter novel, the other is a book by Kinsella arguing for the socialization of property.

What would set these two books apart when it comes to price in a free market? The demand difference of the IP that is embedded in them.

If there would be no laws that protect private intellectual property on the other hand, the two books would cost the same as consumer goods.

This means there would be no way to know on which subject should the authors allocate their time because there wouldn’t be any price signals.

Should the scarce resources be allocated towards production of novels like Harry Potter, or should they be allocated towards books on IP Socialism? Or better yet, should people use their time and other resources to produce songs and movies instead of novels and treatises on socialism?

Who knows?

And that is the problem.

Peter Surda January 30, 2009 at 7:27 am

@ktibuk
> You never seem to get the problem with this IP thing.
Funny, I think the same of you.

> I suggest you try to understand the issue before trying to
> comment on it let alone write a paper.
I assure you I have tried really hard for a long time. I used to be an IP proponent just a few years back, and as a software engineer, I deal with IP all the time.

> We are arguing against people who want to abolish all
> rights associated with IP.
That’s not correct. You appear to argue against people who want to abolish all rights associated with immaterial goods. IP and rights on immaterial goods are not the same thing. IP is much more specific. As far as I see, there are no no-rights-on-immaterial-goods people in these debates on mises.org. Certainly I never claimed that.

> They want to abolish all the patent system, copyright
> system and trade mark system.
I am happy to inform you that my paper deals with all those three (trade secrets too). Again, I conclude that all the immaterial goods underlying them receive certain rights from non-IP laws already, and they are sufficient for both contracts and markets to work. In fact, I refuse to call trademarks IP, because all the relevant rights related to them are defined by non IP laws already.

The issue is therefore not whether there should be rights to protect immaterial goods. I don’t see anyone here objecting to that. Rather, it is the qualitative features of these rights which are in question.

Cheers,
Peter

Joe B January 30, 2009 at 7:40 am

ktibuk et al,

I addressed the calculation problem on one of the earlier posts (http://blog.mises.org/archives/009288.asp), although you may not have seen my last comment there.

An idea is a non-scarce, infinitely durable capital good. It is used solely to produce physical goods (including services), some of which can in turn be used to reproduce the idea, making it accessible to the owners of those physical goods (and in some cases also to anyone who can see or use the good regardless of ownership).

An idea can be protected (preventing others from using it) by contract and physical property rights alone, since it must be manifested in a physical good (even if that good is a conversation) to be disseminated. This protection comes with a cost just as it does with physical property.

There is a market mechanism for implementation of ideas just as there is with any other entrepreneurial endeavor. It’s a transient market. You start out with a monopoly because you are the only one who initially has the right resources in place to bring a new good to market. Eventually others see the profits you are making and they invest resources to take a piece of your pie. Prices may drop, but you have made your profit by being the first to put the good into buyers’ hands. Mises calls this entrepreneurial profit (or just plain “profit”).

If the price of the good falls below the cost of your expenditure to continue producing it, you will stop producing it. Calculation is still occurring, it’s just that the result is “If I want to make more profit, I need to innovate.” Maybe this means finding another good that can be produced using the same idea, or developing a new idea altogether.

If you have not recouped your initial investment (Mises calls this “Loss”), that will affect your decisions on how to best apply your present resources. Maybe you will decide that additional protection in the form of restricted use contracts with your buyers is worth the cost of potentially fewer sales in order to preserve your monopoly for a longer period of time.

Read Mises’ “Profit and Loss”, and substitute the word “inventor” for “entrepreneur”. Both are expending resources up front in hopes of a profitable temporary monopoly that may never materialize, or that may be lost to competition before they have recouped their development costs. I would argue that they are in fact the identical person, in the identical situation, putting different capital goods to work.

Should an entrepreneurs’ idea to develop a new market be protected as IP? Should every entrepreneur have a guaranteed monopoly for an arbitrarily defined period of time? This doesn’t sound like a free market to me.

To everyone who says that patents are the only thing keeping small businesses alive:
I work for a small, privately owned tech company that holds no patents because my boss hates lawyers. We have been a leader in our market for over 30 years, and are regarded by many in this market as consistently being the most innovative (my boss received a lifetime innovation award at our international industry conference last year). Our competition consists of large, publicly traded companies, or spinoffs bankrolled by large companies.

What’s our secret? There are two – we serve a highly specialized niche market and – most importantly – we are CONSTANTLY innovating. This is the advantage that small businesses have over big business – flexibility, low overhead, quick decision making, and specialization. If we were unable to get our products to market more quickly than our competitors, we would struggle. But that would be our problem – and that is our incentive.

We don’t need patents as incentive for innovation – Mises’ concept of profit provides plenty of that as the market continually changes. We also don’t need patents to make a profit, because by the time our competitors catch up, we’re on to the next product. Our customers benefit from this and pay us accordingly.

I don’t see why people on a free market blog even care about big business vs. small business. If the big business gets the product to market first, the consumers benefit and the big business is rewarded. If they have “stolen” the idea from a small business (or from another big business) then the victim should rethink their policies about protecting trade secrets. There will always be niche markets that small businesses can develop before the big boys catch on – this is Entrepreneurship 101. If the small business can’t meet the market’s needs, the big boys will step in.

Inventors who think they can come up with a better mousetrap and retire early on royalties are likely not offering much to a free market, and would be paid accordingly. The market does not care how long it took you to perfect the design, just as it does not care how much an entrepreneur spent to build his production line. If your product is desirable, you may make a profit.

If the bulk of the value is intangible and easily copied, you may consider requiring each investor and customer to agree to a non-disclosure or copyright agreement before selling to them. This is your choice as a producer, and every producer has this choice based on their expectations of the market. IP rights are not required.

Peter Surda January 30, 2009 at 7:56 am

@Joe B
Very well argued, as your other posts are too.

Cheers,
Peter

Silas Barta January 30, 2009 at 8:31 am

@Joe_B: An idea can be protected (preventing others from using it) by contract and physical property rights alone

Well, there’s the crucial flaw: no it can’t. It’s possible for someone to copy ideas without violating any IP-protection contract, no matter what it says, because it can’t bind third parties; and, without violating or purchasing the relevant property rights.

Your post is analogous to saying that physical property rights can be protected by physical possession rights, i.e. that “who ever currently holds it is the owner” can ensure that “whoever homesteaded it or bought it is the owner”. Obviously, it can’t, because the owner by the second definition need not be the owner by the first definition (e.g. thieves).

There is a market mechanism for implementation of ideas just as there is with any other entrepreneurial endeavor. It’s a transient market. You start out with a monopoly because you are the only one who initially has the right resources in place to bring a new good to market.

Sure, and you could just the same say that there is a market mechanism for production in the absence of physical property rights: just sell all you can before it gets stolen! That’s still going to eliminate 99% of worthwhile production, even if you can point to a successful operation here and there.

So yes, for some ideas, the social preference is small enough to be recognizable in the price signal of that transient profit — but not anywhere close to all. And ideas are only going to get *more* copyable, not less.

Read Mises’ “Profit and Loss”, and substitute the word “inventor” for “entrepreneur”. Both are expending resources up front in hopes of a profitable temporary monopoly that may never materialize, or that may be lost to competition before they have recouped their development costs.

And what you may have missed in reading Mises is that the magnitude of the profit is itself a function of the surrounding legal regime — exactly the question under discussion. I could likewise say that people “should” stop producing lumber, “because” its price is zero, ignoring the fact that it’s zero because the overlord is currently looting stockpiles and giving them away.

ktibuk January 30, 2009 at 8:57 am

Peter said, “As far as I see, there are no no-rights-on-immaterial-goods people in these debates on mises.org.”

See that is the problem you are not seeing as far as you can. Go read Kinsellas essay which all IP socialist here base their rejection of IP on this site.

You may have a completely different approach but the main argument here is not what you think it is, and unless you present your idea, getting in between people who argue about completely different things confuses the process.

Peter Surda January 30, 2009 at 8:58 am

@Silas
We can define the following two rights:
- the right to use a good according to one’s wishes
- the right to prevent third parties from doing so

For goods that are rival, or to put it in Joe B’s terms, non-durable, as material goods are, these cannot be applied separately. However, if a good is non-rival/infinitely durable, these rights can be applied separately to a different effect.

I hope that we can at least agree on that.

Now, as I argue in my upcoming paper, the first right is sufficient for both contracts and markets to work correctly. IP does not deal with the first right at all, it implicitly assumes it already exists. It is the result of other, non-IP, laws. IP only deals with the second right. We can obviously argue whether that is “good” or “bad”. However, necessary it is not.

I hope that we can also agree that one does not have the “right” to a value of a good. That is the labour theory of value all over again.

Cheers,
Peter

ktibuk January 30, 2009 at 9:05 am

Joe B,

You are not addressing the calculation issue at all. All you are doing is throwing around economics concepts and Mises’ name loosely and that is it.

Calculation argument follows a chain of reasoning. It is about how property rights make exchange possible and then from that point how prices form and signal what needs to be produced. Without those signals there can not be any “entrepreneurial endeavor”.

“Constantly innovating” means constantly producing and if you knew about economics, you would know that the problem is not “to constantly produce or not”, but “what to produce and how much to produce given scarce factors of production”.

Taking away property rights, and ordering people to “produce constantly” did no work in the soviet union and it wont work in a world where IP is socialized.

Drake January 30, 2009 at 9:09 am

@Joe B

“Future ideas are scarce – they require labor, time, possibly capital to develop. This is where the calculation takes place. Someone who needs a problem solved will trade resources to someone who they think is capable of solving that problem.

Once the problem is solved, the customer has received his solution, and the innovator has received his payment. The idea is no longer scarce – neither the innovator nor his customer lose anything if a third party copies that idea.

The fact that many current business models are built around the notion that the idea continues to be scarce doesn’t magically redefine the completed idea as a scarce good. These models aren’t collapsing because technology has made the ideas less scarce; they collapse because technology is quickly revealing that they were never scarce to begin with.”

Well said. You’ve provided ktibuk with more than enough information to quell any fears he may have about markets without IM. That being said, I’ll throw my two cents in as well.

@ktibuk

“there would be no way to know on which subject should the authors allocate their time because there wouldn’t be any price signals.”

Unfortunately, you have made the most elementary of errors. You have forgotten about demand. Assuming that the supply of two books is the same and the demand is different, we should expect to see a higher price for the more highly demanded book and a lower price for the less highly demanded book.

Perhaps your response will be, “But they will just print more of the popular book and less of the unpopular book, equalizing prices.”

The question you have neglected to ask yourself is, “Which book will make the publisher more money: the unpopular book or the popular book?” The more books the publisher sells, the more money they make, and the more they can pay their authors. Is that not the signal you have been searching for?

Silas Barta January 30, 2009 at 9:12 am

@Peter_Surda: No, I still can’t agree with anything there. As I’ve argued before, you can only claim that there is “no rivalry” by defining away the existing rivalries. If you claim that a conflict over the use of an idea “doesn’t count as rivalry”, then sure, there’s no rivalry. But that’s begging the question. I could, just the same, define away your desire for food and claim that you have no right to stop me from eating your food since your food isn’t scarce. See, I want it, and your wanting of your food somehow doesn’t count.

When someone claims to own IP, they are claiming the right to instantiate an idea, and to stop others from doing the same. Like with physical property rights, not everyone can be satisfied. For you to claim, then, that there is an implicit assumption of existence of the right to use physical goods in contravention of IP, is again just begging the question.

You can see my point far more clearly when it comes to radio waves. I could take your exact same arguments and claim it’s an infringment of my property rights to tell me I can’t form MY radio waves with MY transmitter into “your” frequency.

ktibuk January 30, 2009 at 9:24 am

Drake,

I don’t know where you get the idea that I “forgot” demand, but my post was based on the importance of the demand.

The only way two physically identical books would be valued differently is demand, and the only thing that creates the difference in demand is the IP, the content.

If you make the content, the IP, worth zero by removing private property rights, this means you take away the only signal that allocates the scarce resources need to produce them.

I don’t know how much clearer I can get.

Drake January 30, 2009 at 9:30 am

@ktibuk

If you don’t take some time to fully consider (not just read) what I’ve written, this won’t be much of a discussion now, will it? ;)

ktibuk January 30, 2009 at 9:32 am

Also

Drake said,

“Assuming that the supply of two books is the same and the demand is different, we should expect to see a higher price for the more highly demanded book and a lower price for the less highly demanded book.”

This is the crux of the matter. In a IPless world, there would be no difference between the prices of books highly demanded and books that aren’t demanded at all.

That is because what makes them apart is taken out of the equation by making the price of IP “zero”, I am assuming all the physical qualities are the same of course

Silas Barta January 30, 2009 at 9:33 am

@Drake: You have forgotten about demand. Assuming that the supply of two books is the same and the demand is different, we should expect to see a higher price for the more highly demanded book and a lower price for the less highly demanded book. … The more books the publisher sells, the more money they make, and the more they can pay their authors.

Not true. All we can say is that:

a) People will pay *something* — probably cost of production plus standard profit margins — for non-gibberish books, and

b) People won’t buy gibberish books.

So, yes, the book’s content does influence even the non-IP-regime price — but only in the sense that people won’t buy outright gibberish. The thing is, the price of the non-gibberish books will *not* increase with the value of the informational content, since anyone can produce them and producers will minimize prices. For the same reason, the publisher *can’t* pay more to the authors of more popular books, since they have to compete with publishers who charge just enough to cover production and standard profit.

At best, the publisher actually affiliated with the author will have an advantage on the first run, before everyone else knows it’s worthwhile to print, and before individuals can download and run off their own copy. Still:

1) That effectively puts a price cap on intellectual works, with all the attendant harms of price caps, and

2) Again, ease of duplication is only going to get easier. Hanging your hopes for intellecutal work profitability on remaining technological barriers, is a futile endeavor indeed, and implicitly recognizes the need for potentially-unbounded (but finite) profit on the production of intellectual works that coincides with their social valuation.

***

Note that all I’ve done here is restate the standard case for IP. It could be wrong, but you would have to address these arguments specifically, which you haven’t done.

By the way, how come Jeffrey_Tucker never wonders about the Unseen costs of intellecutal works that don’t get produced because their potential producers expect too little of the market for that work will respect their IP? Hmm…

ktibuk January 30, 2009 at 9:34 am

@ Drake,

Right back at ya.

Mike January 30, 2009 at 9:51 am

“This is the crux of the matter. In a IPless world, there would be no difference between the prices of books highly demanded and books that aren’t demanded at all.

That is because what makes them apart is taken out of the equation by making the price of IP “zero”, I am assuming all the physical qualities are the same of course”

Even in our current environment, there are no patents on things like, say, new business models. And yet firms are constantly refining their method of doing business. Why is that, since other firms could easily copy the new model and render any competitive advantage null?

I think you underestimate the market advantage of being the first to implement an idea.

Deefburger January 30, 2009 at 9:55 am

The problem with patenting and protecting ideas lies entirely in the fact that they are non-physical and that they are never entirely unique.

Take music for example. Musicians face this problem every time they compose a new tune. It is not possible for any musician to compose a score that does not contain any prior art. It’s not that the tune may contain portions that are the same as portions written prior. The problem with the composition being unique lies in the prior art LEARNED by the composer PRIOR to his new composition.

This is not to say the the piece in it’s entirety is not unique, it may be, but that the uniqueness of it cannot be determined by subtracting that which is NOT unique.

This is true for all accdemic thought. Unless one grew up in complete isolation, without exposure to any other ideas, one cannot have an original thought, not entirely. Yet the patent system dissects the thought down to those components that are unique expressions of thought, which, taken by themselves would be meaningless without the support of the prior art.

If the thought is non-physical, yet originates in the physical medium of a brain, then the thought is the product of that brain. Yet, the brain itself is built upon the prior art of the DNA that coded for that body. Should the thought actually be a unique expression of the functioning of that brain, it can be construed that the possibility exist that the thought itself was pre-conceived, carried in the DNA of the individual. We know this is not so. So the only alternative is to assume that the thought is entirely non-physical.

If the thought is non-physical, then it cannot be proved, one way or the other WHERE it came from. We cannot know. We know it came from our selves, somewhat, but not the actual origin. As a non-physical phenomenon, it has no discernible origin.

The thought itself may actually occur simultaneously in many minds.

If this is so, then how can we truly protect the idea? We cannot. And attempts to use the state to do so will ultimately stifle the expression of thought for fear of retaliation.

It is only in the EXPRESSION of the thought that we can claim any originality. And for that, we can only say we thought of it, and then describe the thought. We cannot truly claim temporal right, for we have no means of truly knowing if this is true. Some one else may have thought the thought before and didn’t express it, or at least did not express it openly (See above post on submarine patents), or the thought may have occured to others prior and was expressed in a different language or in a different use of the same language.

The only provable uniqueness of any thought is in the expression, not the thought itself. So, the only truly patentable property of any thought is the expression itself. But what good is the expression when it’s the thought itself that has the value? The expression has no value in and of itself other than the transmission of the thought.

But the actual thought cannot be transmitted in it’s entirety because the brain that thought of it is unique! Only a cursory description of the thought may be expressed, in a medium that is not a carrier of thought itself.

And if the transmission is successful, by any measure, then the brain(s) that recieved it, now possess it too, and the the thought is demonstrably not unique any longer by the very act of successful expression!

Therefore, credit for having expressed a thought may be due, especially if the thought is well expressed, ie. clearly and concisely, but the thought itself belongs to no one and everyone at the same time.

Look at the music industry today. It is a microcosm of the problems facing the other industries that rely on patent and copyright. DRM has failed to protect the thought from free re-expression. Yet the artists that are giving away their recordings are making money on the EXPRESSION of the music that they themselves are capable of UNIQUELY supplying. They are making their money on the performances! It’s not the music that is being sold online, it is the TRANSMISSION from a known original source and a known original content.

Now concider the ideas of drugs or technology. Again, it is not the ideas of them that have value in the market but the expression of them, as PRODUCTS that has value. So what is the point of trying to protect others from knowing your idea? Is it possible that not keeping the secret thought might cost a company more? Look at the drug companies. If the researchers could talk to each other, the new products might actually reach market sooner rather than later, because the ideas can be shared and new knowledge passed between research efforts, like the academics do in the other sciences. It’s the creation of efficient production processes, and distribution and sales, not the research that generate profits. I’m not saying research is less valuable, just that it is more valuable if it is shared, because the cost of it is then spread across many minds and possible methods.

Peter Surda January 30, 2009 at 10:00 am

@Silas
> As I’ve argued before, you can only claim that there
> is “no rivalry” by defining away the existing rivalries.
I define non-rival good thus: if a consumption of a good does not decrease it’s supply, the good is non-rival. It has a very specific meaning. It does not mean that there is no conflict, or noone gets angry. I may get angry when you insult me, it may decrease the market value of my honour, but not many libertarians seem to claim that it is a violation of a right.

This explanation should satisfy also your counterexamples of instantiation and radio waves.

@ ktibuk
> Go read Kinsellas essay which all IP socialist here base
> their rejection of IP on this site.
I just read it (not wholly, but the relevant parts). At no point did I see Mr. Kinsella advocating the abolishing of contract rights. Rather, he said that they are insufficient to validate IP. His goals in argumentation were different from mine; he seems to be arguing that IP cannot be deduced, and is therefore invalid. I do not agree with his arguments regarding scarcity. But he correctly described all the main forms of IP (being an IP lawyer, probably has more experience with them than me), and correctly identified that their purpose is to apply to parties outside of contracts.

My goal, at least for now, is more limited than this. I merely want to show that IP is not necessary for contracts and markets on immaterial goods.

So maybe it is you who is jumping to conclusions?

Cheers,
Peter

Joe B January 30, 2009 at 10:13 am

Silas:”It’s possible for someone to copy ideas without violating any IP-protection contract, no matter what it says, because it can’t bind third parties; and, without violating or purchasing the relevant property rights.”

I agree. But it’s also possible to refrain from selling your product until your customer signs a contract restricting them from taking actions that would reveal the idea to a third party. While this could be costly, it is the cost of exclusivity. It’s also costly to hire security guards to protect your factory 24/7 ensuring that you alone can control its use.

Purely private protection of both ideas and physical property along these lines may have an effect on the decisions made by entrepreneurs/inventors, but it doesn’t preclude a market. It would probably result in more incremental innovation, meaning that fewer resources were required upfront to introduce a new idea. Of course, this would result from loosening of IP protection anyways.

I’m assuming a pure free market in my reasoning, and I’m not even assuming that physical property rights alone are doing their job. This passes all protection costs to the property owner. So “sell all before it gets stolen” becomes “factor in the cost of protection”. And the legal regime is non-existent. I apologize if this may not reflect the Austrian view 100%, but I don’t see why I should pay taxes to protect someone else’s property. Someone has to pay for protection.

ktibuk,
Yeah, I get it. Your assumption is that profits will generally fall quickly enough that every innovation would result in a loss. I see this more as a challenge for business models than a universal truth. Again, if you fear copying, you will be willing to pay more to protect against it.

We are constantly innovating in response to our market. When our competitors catch up to our last innovation, we know that we need a new one ready to stay ahead of them, and this is decided based on the market needs. We don’t just sit around arbitrarily brainstorming for the sake of quantity.

I’m also not proposing taking away property rights in the sense that socialists do. This would mean forcing everybody to share every idea they have in a big idea pool. My argument is simply that, like with physical property, if you want to prevent others from using it, you need to accept the cost of protection.

Peter Surda January 30, 2009 at 10:48 am

> I’m also not proposing taking away property rights in the
> sense that socialists do.
I would go even further and say that noone here is advocating that. The IP plantation masters were just assuming that.

ktibuk January 30, 2009 at 10:55 am

Joe B,

“My argument is simply that, like with physical property, if you want to prevent others from using it, you need to accept the cost of protection.”

I am not disputing the fact that the cost of protection of IP should fall on the owner.

I also know that no matter how much you spend on protection not all IP can in fact be protected.

But these are technical issues. The main issue about IP is an ethical one.

Should the producers of IP own their own production or do anyone who can copy is entitled to the IP.

Or

Will there a be an ethical difference between the rights of someone who creates something, and rights of someone who just copies it.

And the point that no one can really create and idea form nothing, is irrelevant because it is also true that no one can really create a tangible good out of nothing.

Whats important is ideas don’t float around in the universe, they are homesteaded by people.

ktibuk January 30, 2009 at 11:04 am

Mike said,

“Even in our current environment, there are no patents on things like, say, new business models. And yet firms are constantly refining their method of doing business. Why is that, since other firms could easily copy the new model and render any competitive advantage null?

I think you underestimate the market advantage of being the first to implement an idea.”

All you are saying is that

“Yes you can not have private property and own anything, but you always have your labor. Your past labor can not be saved through appropriation of property but if you work hard enough you wont see the difference.”

Leaving aside the fairness of this, this situation can only happen in a primitive society where no division of labor exists as Mises showed.

And relating to IP, there would be no division of labor when it comes to creating IP. There may be lots of performers (because at least you dont want to socialize labor) but no one that produces just songs, novels, software, etc.

Mike January 30, 2009 at 11:20 am

“Yes you can not have private property and own anything, but you always have your labor. Your past labor can not be saved through appropriation of property but if you work hard enough you wont see the difference.”

Huh. Must be easy to refute someone’s argument when you go ahead and redefine it like that. I feel like there’s a word for that…

Let’s go back a step. Do you think business models should be ownable things? Are all factories ripping off Henry Ford’s IP? Hell, someone was the first person to think of the division of labor. All capitalists must be thieves!

Drake January 30, 2009 at 11:24 am

@ktibuk

In that case, let’s try again :) Taking into account your condition that all books be manufactured at the same cost and sold at the same price, I will illustrate the direct causal link between the DEMAND for a particular intellectual product and the PRICE SIGNAL the producer of the intellectual product receives. If you see any flaws in the causal chain I present, please point them out to me (I have labeled each causal link for your convenience).

ktibuk said:

“…there would be no way to know on which subject should the authors allocate their time because there wouldn’t be any price signals.”

1. All else being equal, authors want to make more, rather than less, money.

2. This will lead them to write things that can be sold for more, rather than less, money.

3. Publishers will pay more money for manuscripts that will result in higher profits.

4. Assuming that all books in the universe are manufactured at the same cost and sold at the same price, publishers will make higher total profits by selling more books.

5. Publishers will sell more books by offering books for which there is a higher demand.

Working in the opposite direction:

A) The more people there are that want to buy a certain kind of book, the more books of that kind will be sold.

B) The more books of that kind are sold, the more money the sellers of that kind of book will make.

C) The more money the sellers of that kind of book make, the more money will be paid to the writers of that kind of book.

(Assuming that the prices of all books are the same actually STRENGTHENS this line of reasoning.)

And finally, if more people love fiction than non-fiction, more people will be inclined to buy fiction books than non-fiction books. This means that publishers will sell more fiction books than non-fiction books. This means that they will make more money (in total) selling fiction books than non-fiction books. This will lead them to PAY MORE (think: price signal) for the production of fiction manuscripts as apposed to non-fiction manuscripts. This means that authors will make more money writing fiction than non-fiction.

(Again, this assumes – as you do – that the manufacturing cost and sale price of every book is the same.)

Peter Surda January 30, 2009 at 11:38 am

@ktibuk
> But these are technical issues. The main issue about IP
> is an ethical one.
Before the question of ethics I would highly recommend to consider the question of logic.

> Should the producers of IP own their own production or
> do anyone who can copy is entitled to the IP.
First you need to define what property on non-rival goods means. Otherwise arguments have multiple meanings and confuse everyone.

Does property mean:
- a right to consume a good according to one’s wish, or
- a right to exclude third parties from consuming a good according to their wishes?

With non-rival goods, these definitions have different effects, which means they need to be considered separately.

More details in my upcoming paper.

Andras January 30, 2009 at 12:56 pm

Peter Surda: “Does property mean:
- a right to consume a good according to one’s wish, or
- a right to exclude third parties from consuming a good according to their wishes?”

Thus, the circle has been closed again.

Mises mentions this problem in Human Action, Scholar Edition, p657. “It is beyond the scope of catallactics to enter into an examination of the arguments brought forward for and against the institution of copyrights and patents. It has merely to stress the point that this is a problem of delimitation of property rights and that with the abolition of patents and copyrights authors and inventors would for the most part be producers of external economies.”
(This later part, as far as I know, conveniently left out from Kinsella’s book.) It worths reading all.
This was a dichotomy Mises tellingly rather avoided. Interestingly, he did not say that IP is worthless!

The real question then: Do we want to force it to be part of only external economies again. By the way, being external also means failure to calculate!

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