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Antitrust Innovation Patents

Foreign Antitrust Regulators Are Threatening American Innovation

By David Lund & Matthew Barblan

U.S. Capitol buildingAmerican businesses are suffering as foreign governments improperly use their antitrust laws to discriminate against American companies. Recently, the United States Chamber of Commerce assembled an International Competition Policy Expert Group to examine this problem. The Group released a report describing particular harmful and inappropriate uses of antitrust law and providing recommendations for U.S. policymakers to address these harms.

Although the report addresses foreign antitrust law abuses broadly, there has been a recent upsurge in the misapplication of these laws in the context of intellectual property. The report itself identifies several unique ways that innovative industries have been harmed by this unfortunate trend, noting that “legitimate IP rights are often not respected for their role in incentivizing investment in innovation that can have an enormously positive long term impact on competition.”

This is a critically important issue, and it is becoming increasingly relevant in DC policy circles. For example, later this week the House Judiciary Committee will be holding a hearing on Recent Trends in International Antitrust Enforcement, including testimony from Deborah Garza (Co-Chair of the Chamber’s International Competition Policy Expert Group) and Scalia Law’s Koren Wong-Ervin (Director of the Global Antitrust Institute), among others.

Over the next couple of months, CPIP will be writing a series of essays highlighting issues discussed in the report that are of particular relevance to the intellectual property policy community.

Industrial Policy Masquerading as Antitrust Law

By securing to innovators exclusive property rights to the fruits of their productive labors, intellectual property law incentivizes innovation and forms the foundation of the myriad partnerships and transactions that enable creators and innovators to commercialize their inventions. In theory, antitrust law is supposed to support the IP system by providing a fair marketplace where innovative companies thrive according to their own merit. The main thesis of the Chamber’s report, however, is that several countries are misusing their antitrust laws to pursue domestic industrial policy goals that allow the government to pick particular winners and losers. The report notes:

[Competition law enforcement] may reflect an effort to improperly discriminate against a U.S. competitor to further “industrial policy” goals, such as by favoring domestic commercial interests or state-owned enterprises over foreign competitors. Report, Page 24.

When antitrust law is used for industrial policy goals or simple political favoritism, it undermines the basic premise of the IP system. Often the selected winners are cherry-picked nationals of the countries at issue. This harms the ability of innovative American companies to compete in these markets based on the actual economic value of their products and IP. As the report states:

Commercial success may turn on political cronyism, rather than on the ability of a firm to efficiently provide the goods and services consumers desire at a competitive price (the result the consumer welfare approach to antitrust law is designed to foster). Report, Pages 20-21.

The misuse of antitrust law is particularly damaging in IP-intensive industries. IP incentivizes research and investment based on the property rights it secures to creators. These property rights are only valuable—and thus only function as an incentive—when IP owners deploy them in the marketplace without undue interference. When countries use antitrust laws to devalue the IP rights of foreign companies in order to favor their own local businesses, it undermines the purpose and function of the IP system as a whole.

Inconsistent Notions of “Fairness”

The Chamber’s report discusses several improper uses of antitrust law that undermine IP owners’ ability to freely deploy their property rights in the marketplace. One key problem is the inconsistent application of vague “fairness” considerations. As the report states:

Where competition rules include inherently subjective concepts such as substantive “fairness” (as is the case in many jurisdictions), for example, the legal treatment of business conduct may differ profoundly on a case-by-case basis, often driven by ad hoc political considerations. Report, Page 20.

“Fairness” may be an important value for children to learn, but when it is vaguely applied to a complex body of law it can result in inconsistent and even contradictory outcomes. The report highlights one particular dichotomy to show just how problematic vague conceptions of fairness can be: pricing. Jurisdictions have used antitrust law to scrutinize prices as being “unfair” both for being too high and too low. But high prices often simply reflect higher consumer demand for a better product. Conversely, low prices often reflect more efficient business practices, precisely the kind of improvements antitrust law is supposedly designed to promote.

Importantly, businesses have no way of knowing ahead of time whether a country’s antitrust regulators will find “fairness” violations for their prices. This prevents companies from taking affirmative steps to comply with the law, thereby increasing volatility, increasing costs to set up and maintain a business, and undermining sound business planning and investment.

Because subjective considerations such as “fairness” can easily be applied arbitrarily, the real-world application of these laws often brings in more nefarious purposes. When there is no objective guide or lodestar to the legal system, cronyism runs rampant. It no longer matters who is the most efficient producer or who invented the technology. What matters is who is friends with the antitrust law enforcement agency. As a result, subjective doctrines of “fairness” perversely create an unfair playing field, making it easy for foreign governments to discriminate against American businesses, even when it ultimately works to the detriment of consumers in their country.

IP-intensive industries are particularly subject to being victimized in the name of “fairness.” The business benefits that come from property rights in innovation can include the ability to set prices that far exceed marginal costs. This makes sense from both an economic and a moral standpoint—innovative companies routinely make millions (if not billions) of dollars worth of up-front R&D investments before commercializing their inventions. And the fruits of their labor are justly secured to them as their property in the form of IP. But from a antitrust law enforcement perspective, pricing far above marginal costs makes IP owners particularly vulnerable to claims that their prices are “unfair.”

Even though it makes perfect sense for an IP license fee to be high when the IP enables important functionality in a product, antitrust law authorities are adept at minimizing the economic value of the IP while criticizing the price of the license as unfair. This is particularly true in industries where American companies are leaders in researching and developing foundational innovations that foreign companies want to integrate into their products. As a result, IP-intensive American companies are particularly vulnerable to abusive and inconsistent antitrust law scrutiny under supposed considerations of “fairness.”

A Worrisome Lack of Due Process and Regulatory Humility

In another troubling trend for American IP owners, foreign antitrust authorities are increasingly pursuing investigations that go beyond the scope of any reasonable antitrust concerns. Despite being baseless, these investigations have serious negative consequences for the targeted firms, particularly in the case of innovative firms trying to license their IP or get their products to market while their patents are still in force and while their technology is still cutting-edge. As the Chamber’s report notes:

Enforcement activities may reflect local case law that allows an agency to exercise its powers of investigation and its decision-making authority in an expansive and highly discretionary way. Where this occurs, competition authorities can tend to discount the costs and disruption that their enforcement activities impose on legitimate business conduct, give too little weight the costs of wrongfully condemning conduct that is procompetitive, and exaggerate the likelihood and consequences of wrongfully exonerating conduct that might have anticompetitive impact. Report, Page 22.

In parallel with overly expansive investigations, many jurisdictions do not offer the basic procedural due process safeguards necessary for businesses to defend themselves. Once again, this effectively allows authorities to pick winners and losers based on political cronyism or domestic industrial policy goals rather than actually promoting competition. The report states:

[L]eading U.S. companies have complained that in certain jurisdictions they are subject to investigations and enforcement actions in which they are not given adequate notice or time for responses to questions; are not informed of the particular acts or practices which are a subject of concern; are not allowed to obtain from enforcers information about the theory of anticompetitive harm…. Report, Page 29.

The report further notes that IP-intensive industries suffer additional harms from poorly conducted enforcement activities because of their novel, complex, and dynamic nature. Unfortunately, the regulatory pendulum is swinging in the wrong direction. The report notes that some countries are considering creating liability simply for failing to license patents, including for failing to license outside of the country in question. This will create a whole new burden on IP owners that does not exist for any other industry.

How Should the US Respond?

The report provides several potential solutions to the harms it identifies, some of which will be familiar to the IP community. These solutions include actions that can be taken by the United States alone as well as actions that utilize international organizations. We will discuss these in more detail in a future essay, but two general points are worth mentioning here.

First, the report notes that Section 301 of the Trade Act of 1974 has expansive language that could be more widely used to “respond to unjustifiable, unreasonable or discriminatory practices of foreign governments that burden or restrict U.S. commerce.” The “Special 301 Report,” which names countries that are failing to live up to their IP law commitments, is the most widely known use of this section, but as the report notes, the Trade Act provides for much more.

Second, the report notes the possibility that existing mechanisms in the WTO or OECD may provide internationally-recognized means to examine the substantive and procedural aspects of antitrust law that may be in conflict with international agreements. Such recognition would be valuable to promote harmonization of antitrust law not just across jurisdictions, but also with the underlying principles of antitrust law itself.

The report provides an important examination of the harms caused by improper use of antitrust law across the globe. Over the coming weeks, we will provide more commentary on how this is playing out in particular places, for particular industries, and what the United States should do to fix it.

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Intellectual Property, Innovation and Economic Growth: Mercatus Gets it Wrong

By Mark Schultz & Adam Mossoff

A handful of increasingly noisy critics of intellectual property (IP) have emerged within free market organizations. Both the emergence and vehemence of this group has surprised most observers, since free market advocates generally support property rights. It’s true that there has long been a strain of IP skepticism among some libertarian intellectuals. However, the surprised observer would be correct to think that the latest critique is something new. In our experience, most free market advocates see the benefit and importance of protecting the property rights of all who perform productive labor – whether the results are tangible or intangible.

How do the claims of this emerging critique stand up? We have had occasion to examine the arguments of free market IP skeptics before. (For example, see here, here, here.) So far, we have largely found their claims wanting.

We have yet another occasion to examine their arguments, and once again we are underwhelmed and disappointed. We recently posted an essay at AEI’s Tech Policy Daily prompted by an odd report recently released by the Mercatus Center, a free-market think tank. The Mercatus report attacks recent research that supposedly asserts, in the words of the authors of the Mercatus report, that “the existence of intellectual property in an industry creates the jobs in that industry.” They contend that this research “provide[s] no theoretical or empirical evidence to support” its claims of the importance of intellectual property to the U.S. economy.

Our AEI essay responds to these claims by explaining how these IP skeptics both mischaracterize the studies that they are attacking and fail to acknowledge the actual historical and economic evidence on the connections between IP, innovation, and economic prosperity. We recommend that anyone who may be confused by the assertions of any IP skeptics waving the banner of property rights and the free market read our essay at AEI, as well as our previous essays in which we have called out similarly odd statements from Mercatus about IP rights.

The Mercatus report, though, exemplifies many of the concerns we raise about these IP skeptics, and so it deserves to be considered at greater length.

For instance, something we touched on briefly in our AEI essay is the fact that the authors of this Mercatus report offer no empirical evidence of their own within their lengthy critique of several empirical studies, and at best they invoke thin theoretical support for their contentions.

This is odd if only because they are critiquing several empirical studies that develop careful, balanced and rigorous models for testing one of the biggest economic questions in innovation policy: What is the relationship between intellectual property and jobs and economic growth?

Apparently, the authors of the Mercatus report presume that the burden of proof is entirely on the proponents of IP, and that a bit of hand waving using abstract economic concepts and generalized theory is enough to defeat arguments supported by empirical data and plausible methodology.

This move raises a foundational question that frames all debates about IP rights today: On whom should the burden rest? On those who claim that IP has beneficial economic effects? Or on those who claim otherwise, such as the authors of the Mercatus report?

The burden of proof here is an important issue. Too often, recent debates about IP rights have started from an assumption that the entire burden of proof rests on those investigating or defending IP rights. Quite often, IP skeptics appear to believe that their criticism of IP rights needs little empirical or theoretical validation, beyond talismanic invocations of “monopoly” and anachronistic assertions that the Framers of the US Constitution were utilitarians.

As we detail in our AEI essay, though, the problem with arguments like those made in the Mercatus report is that they contradict history and empirics. For the evidence that supports this claim, including citations to the many studies that are ignored by the IP skeptics at Mercatus and elsewhere, check out the essay.

Despite these historical and economic facts, one may still believe that the US would enjoy even greater prosperity without IP. But IP skeptics who believe in this counterfactual world face a challenge. As a preliminary matter, they ought to acknowledge that they are the ones swimming against the tide of history and prevailing belief. More important, the burden of proof is on them – the IP skeptics – to explain why the U.S. has long prospered under an IP system they find so odious and destructive of property rights and economic progress, while countries that largely eschew IP have languished. This obligation is especially heavy for one who seeks to undermine empirical work such as the USPTO Report and other studies.

In sum, you can’t beat something with nothing. For IP skeptics to contest this evidence, they should offer more than polemical and theoretical broadsides. They ought to stop making faux originalist arguments that misstate basic legal facts about property and IP, and instead offer their own empirical evidence. The Mercatus report, however, is content to confine its empirics to critiques of others’ methodology – including claims their targets did not make.

For example, in addition to the several strawman attacks identified in our AEI essay, the Mercatus report constructs another strawman in its discussion of studies of copyright piracy done by Stephen Siwek for the Institute for Policy Innovation (IPI). Mercatus inaccurately and unfairly implies that Siwek’s studies on the impact of piracy in film and music assumed that every copy pirated was a sale lost – this is known as “the substitution rate problem.” In fact, Siwek’s methodology tackled that exact problem.

IPI and Siwek never seem to get credit for this, but Siwek was careful to avoid the one-to-one substitution rate estimate that Mercatus and others foist on him and then critique as empirically unsound. If one actually reads his report, it is clear that Siwek assumes that bootleg physical copies resulted in a 65.7% substitution rate, while illegal downloads resulted in a 20% substitution rate. Siwek’s methodology anticipates and renders moot the critique that Mercatus makes anyway.

After mischaracterizing these studies and their claims, the Mercatus report goes further in attacking them as supporting advocacy on behalf of IP rights. Yes, the empirical results have been used by think tanks, trade associations and others to support advocacy on behalf of IP rights. But does that advocacy make the questions asked and resulting research invalid? IP skeptics would have trumpeted results showing that IP-intensive industries had a minimal economic impact, just as Mercatus policy analysts have done with alleged empirical claims about IP in other contexts. In fact, IP skeptics at free-market institutions repeatedly invoke studies in policy advocacy that allegedly show harm from patent litigation, despite these studies suffering from far worse problems than anything alleged in their critiques of the USPTO and other studies.

Finally, we noted in our AEI essay how it was odd to hear a well-known libertarian think tank like Mercatus advocate for more government-funded programs, such as direct grants or prizes, as viable alternatives to individual property rights secured to inventors and creators. There is even more economic work being done beyond the empirical studies we cited in our AEI essay on the critical role that property rights in innovation serve in a flourishing free market, as well as work on the economic benefits of IP rights over other governmental programs like prizes.

Today, we are in the midst of a full-blown moral panic about the alleged evils of IP. It’s alarming that libertarians – the very people who should be defending all property rights – have jumped on this populist bandwagon. Imagine if free market advocates at the turn of the Twentieth Century had asserted that there was no evidence that property rights had contributed to the Industrial Revolution. Imagine them joining in common cause with the populist Progressives to suppress the enforcement of private rights and the enjoyment of economic liberty. It’s a bizarre image, but we are seeing its modern-day equivalent, as these libertarians join the chorus of voices arguing against property and private ordering in markets for innovation and creativity.

It’s also disconcerting that Mercatus appears to abandon its exceptionally high standards for scholarly work-product when it comes to IP rights. Its economic analyses and policy briefs on such subjects as telecommunications regulation, financial and healthcare markets, and the regulatory state have rightly made Mercatus a respected free-market institution. It’s unfortunate that it has lent this justly earned prestige and legitimacy to stale and derivative arguments against property and private ordering in the innovation and creative industries. It’s time to embrace the sound evidence and back off the rhetoric.