Economic analysis of Property Law

Lecture 6: Patents v. prizes

Monetary prizes

• Patents may be viewed as a right to tax an innovative good conferred on the inventor

• Governments may retain the right to tax as compensate inventors by means of monetary prizes

• Advantages– Efficient taxation miminizes deadweight losses to

raise any given fiscal revenue– No upper bound on the level of reward (sequential or

complementary innovations)

Monetary prizes

• Rarely used in the past– Longitude prize

• Even more rarely used today

Prizes in innovation races or contest

• In a race, the target is pre-specified and the timing is not

• In a contest, there is a time deadline but no pre-specified target– The prize accrues to whoever has made the

biggest progress by the deadline

Problems

• International coordination

• Corruption or opportunistic behaviour

• Fairness

• Asymmetric information

Asymmetric information

• Two types of innovation, big and small

• When choosing R&D investment, R&D firms know the value of innovation

• When setting the prize level, the government does not know the value of innovation

Baseline model

Two types

• v can be high (vH) or low (vL) with probability q and (1-q), respectively

• To simplify the algebra I set q = ½

• The bigger is the difference vH vL , the more important is asymmetric information

Comparison

• We compare an optimal patent system with an optimal prize system

• Thus, we must first determine the optimal patent and the optimal prize, and then compare

Patents

• We apply the standard analysis we are already familiar with

• Optimal patent life is a half of L, irrespective of the value of innovation

• This is the strength of the patent system: no need of knowing the value of innovation to set optimal patent life

Patents

Prizes

• I denote the monetary prize by P• I suppose raising fiscal revenue entails no

deadweight loss (all that matters is that deadweight losses are lower than with patents)

• Consider first the case of a single innovation of value v

Prizes

Prizes

Asymmetric information

Asymmetric information

Asymmetric information

Comparison

Special cases: = 0

• With no deadweight losses, the patent system is always preferable

Special cases: vH vL

• With no asymmetric information, the prize system is always preferable

General comparison

Combination

• We can also consider a combination of patents and prizes

• The policymaker can offer a menu of options, letting inventors choose their most preferred combination

Patent/prize combination

• When the innovation is large, inventor will choose a small prize/ long patent combination

• When the innovation is small, he will pick up a short patent/big prize combination