A Weak Patent System Increases Inequality, Protects Incumbent Monopolies

By Neal Solomon
February 5, 2017

EDITORIAL NOTE: What follows is part III of Neal’s series on the transformation of the American patent system. To start reading from the beginning please see: The Disintegration of the American Patent System. For those who would like a PDF download of Neal Solomon’s series please see: Transformation of the American Patent System: 2006 to 2016.

 

Stepping on the back of smaller businessman.The weakening of patent rights is coupled with a weakening of antitrust enforcement that limits control of market leaders. This combination of weaker patent rights for market entrants and limited antitrust enforcement has uniformly benefited large technology corporations and has served to distort market efficiencies.

The consequences of a weakened patent system are increased inequality, a higher competitive bar for market entrants, protection of incumbent monopoly profits, decreased competition, disincentive to invest in innovation by both small entities that have higher costs and large companies that can free ride, declining productivity growth, slower employment and wage growth and economic malaise.

Economic Consequences of Judicial Decisions

While patentability restrictions, patent validity reviews, reduction of remedies, compulsory licensing and perpetuating PAEs are logical consequences of recent judicial actions, there are numerous additional adverse consequences as well.

A weak patent regime promotes free riding by infringers, particularly technology incumbents and Asian manufacturers that use patented inventions. It is now far easier to steal patented inventions than to actually invent.

Given limited remedies, the voluntary licensing market has been effectively eliminated. Why negotiate when one can steal another’s technologies and most likely only pay a small fee that would have negotiated anyway?

For the most part, in a weak patent regime, it is logical for infringers to refuse to deal with patent holders. This patent hold out is promulgated by the easy choice to asymmetrically challenge patent validity in a PTAB IPR at considerable expense, time and risk to the patent holder. This makes efficient infringement the dominant choice: infringers are practically invited to steal.

With high barriers to enforce patents, there are reduced incentives to invent or invest in risky innovation. In fact, there are disincentives to invent, in a distorted system in which patents are actually a high-cost liability with limited rewards. Recent data show a clear trend in the last decade of reduced investment in innovation manifest in the worst productivity growth data in several generations precisely because of the misplaced incentives from a weak patent regime.

The trend of the last decade in patent law has thus been to help infringers and to hurt innovators and market entrants, precisely the opposite of a healthy patent system.

In addition to market incumbents, who are the winners in the weak patent regime? China. Manufacturers are beneficiaries and since much manufacturing has shifted to China, large state owned manufacturing companies are big winners. In fact, start-ups are beginning to shift to other nations since there are limited benefits of American entrepreneurship in a weak patent regime.

Like the Japanese patent system, the U.S. patent system has shifted towards benefiting companies that pool large patent portfolios. The trend towards large patent portfolios to capture value is capital resource intensive, which locks out small entities from the patent system and the economy.

Anticompetitive Features of a Weak Patent System

Attacking the patent system is a low cost way for technology incumbents to free ride, with courts as unreflective and unwitting accomplices. But attacking the patent system is also anticompetitive.

Patents are critical tools enabling companies to compete. Not only do patents supply an incentive to invest in research to solve complex problems to develop novel and useful technologies, patents are crucial to market entrants to enable them to compete with established incumbents. In a weak patent regime, an oligopoly of incumbents and manufacturers tend to benefit at the expense of market entrants. The courts have thus effectively protected infringers at the expense of innovators.

Market competition is disrupted since innovation costs and enforcement costs are increased. In effect, weak patents harm competition as they drive up costs. Since all matters are driven to the courts in an efficient infringement paradigm, transaction costs increase disproportionately for small entities.

Because patents have been politicized in the courts, with higher costs to defend patent validity in IPRs and for enforcement, along with reduced remedies, incumbents now typically refuse to deal with patent holders. This hold out by incumbents makes patent enforcement the only option for many patent holders.

However, the collective refusal to deal by a group of technology incumbents is clearly anticompetitive. When all incumbents hold out, free ride and engage in efficient infringement, there is an implication that they fix prices in a concerted effort to manipulate patent input prices for incumbents’ goods. In the aggregate, these anticompetitive behaviors benefit from a weak patent system that rewards incumbents at the expense of market entrants. With higher barriers to entry, there are fewer market entrants and these entrants supply subsequently less market competition. With less market competition, there are fewer jobs created in smaller companies, prolongation of market competition asymmetry, perpetuation of incumbent monopoly profits, disincentives for incumbents to invest in R&D and slower aggregate economic growth. The last decade has witnessed all of these dysfunctional economic phenomena in an historically weak economic recovery.

Long-term price fixing results from the implicit cooperation by buyers of technology to ignore seller’s rights. As there appears to be a concerted effort to drive down prices of patented inventions, along with the higher transaction costs, there is a squeeze on sellers of IP.

We have seen this movie before. In the 19th century, railroads moved into a region and hired mercenaries to swindle settlers that worked the land. How is configuring a weak patent system to enable systematic infringement of small entities innovation to benefit large incumbents any different?

Efficient infringement and compulsory licensing are amplified by these collusive behaviors. It is not controversial that large technology incumbents cooperate to ignore patent rights since they happily advertise their disdain for the patent system and the illegitimacy of patent holders (other than themselves).

When the weak patent regime in which efficient infringement thrives is combined with weak federal government or judicial antitrust enforcement, harms to patent holders are further enhanced. Weak antitrust enforcement eliminates the competition in an efficient market when incumbents are able to cooperate to ignore patents and voluntary licensing, suggesting secondary anticompetitive effects of weak patent and antitrust enforcement.

Market Entrants Require Patents

The biggest shift in the last decade has been the requirement of capital-intensive resources to invest in technology research and patent enforcement. The U.S. patent system has thus become de-democratized. Whereas in the period before 2006, anyone could receive a patent for their hard work and ingenuity, now the system has been locked out for all but the most resource rich. This is particularly ironic since patents are critical tools for market entrants that, by definition, tend to lack capital resources.

One upshot of the changes in patent law has been the effective addition of regulations and taxes to the patent system, which unduly burdens market entrants least able to function with these high taxes.

There has been a clear shift towards investors in technology sectors that require patent rights. With more risk, investors have a higher cost of capital and require higher returns. These factors reduce rewards for patent holders relative to investors and reduce inventions on the margins to unfundable ideas that cannot be monetized.

The dramatic one-way changes to patent law in the last decade have tended to completely ignore competition law. While strong patents help market entrants to compete against larger rivals, weak patents only help market incumbents and China. We have thus witnessed in the last decade the rapid destruction of competitive markets, the rise of China as the world’s main manufacturer and the preservation of incumbent monopoly profits at the expense of market entrants. Furthermore, the incentive to invest in innovation has been badly disrupted, with business starts at their lowest rates ever recorded. The changes in patent law have distorted free markets, misplaced incentives for innovators and enabled perverse disincentives for incumbents to invest in innovation.

Furthermore, rather than invest in technology innovation, in a weak patent regime, venture capitalists now focus on short-term business models that avoid risky innovation. For example, the average number of patents of the top 75 U.S. “unicorns” [i.e., companies with a market valuation of $1B or more] in 2015 stood at eight. Start-ups themselves become un-innovative since they have incentives to steal others’ technologies, to complain about the inflexibility of patent system when caught infringing and to invest in neither R&D nor patent enforcement. We can call start-ups that are discouraged to invest in innovation and would rather steal others’ innovation “little free riders.” Free riding becomes the norm, with small ventures becoming revenue-free service- focused levitation acts with no new technology.

With less incentive to invent or invest in innovation, it should be no surprise that in a weak patent regime, productivity growth has declined precipitously and economic growth is substantially reduced.

Constructive Remedies

There is a need to restore balance, moderation and responsibility to the patent system. There are several things that should be done.

First, the Supreme Court needs to review eligibility for injunctions in patent infringement cases. In some ways, eBay was an unfinished work. The Court needs to craft a narrow injunction to protect a property right and promote exclusion without necessarily harming an infringer’s products. The courts need to stop attacking the identity of the patent holder, particularly the original inventor, for justification of instituting an injunction.

Since incumbent hold out is promulgated with weak remedies, it is necessary to apply enhanced damaged to serial infringers. Enhanced damages provide an incentive to negotiate fair patent licenses in good faith. Similarly, fee shifting should be applied to serial infringers to remove the high transaction cost bar to patent holders.

IPRs should only be instituted with a high (clear and convincing) bar to preserve the presumption of patent validity. Third parties should not be allowed to challenge a patent. Only a judge should be allowed to request a patent validity review, typically in egregious cases. The same standards need to be applied to the patent review process in the PTAB and the federal district courts. Moreover, patents in IPRs must be amendable, as originally provided in the statute. In addition, patent obviousness must be narrowed in patent reviews, as an adjunct to novelty, so as to maintain a common sense approach to patent examinations. In sum, due process should apply to patent validity reviews in the PTO as they would in the courts.

Courts need to find logical ways to preserve software and medical diagnostic patents.

Damages need to be fair, reasonable and predictable. There is a need to restore balance to the system. Perhaps FRAND damages are a good start.

The Court in i4i and Halo upheld two hundred years of patent law, suggesting that at its best the court is able to muster some common sense.

When the patent system is strengthened, there is a responsible licensing regime, with clear boundaries for patent rights and fair prices. One goal of the patent system should be to reconstitute the voluntary licensing market. This keeps things out of the courts altogether, something that all sides should agree on.

Further Reading

Solomon, Neal, Lost Profits Analysis for Patent Infringement Damages, 2010, SSRN.

Solomon, Neal, What is a Reasonable Royalty? A Comparative Assessment of Patent Damages Methodologies, 2010, SSRN.

Solomon, Neal, Analysis of the ‘Four-Factor Test’ in Patent Cases Post-eBay, 2010, SSRN.

Solomon, Neal, Three Dogmas of Intellectual Property Jurisprudence, 2010, SSRN.

Solomon, Neal, A Review of Patent Validity Jurisprudence, 2010, SSRN.

Solomon, Neal, Adverse Effects of Moving from Property Rules to Liability Rules in Intellectual Property: A New View of the Cathedral Without the Disintegration of Property Rights in Patent Law, 2010, SSRN.

Solomon, Neal, The Problem of Willfulness in Patent Infringement Litigation, 2010, SSRN.

Solomon, Neal, The Problem of Oligopsonistic Collusion in a Weak Patent Regime, 2010, SSRN.

Solomon, Neal, Policy Solutions to the Productivity Growth Crisis, 2016, SSRN.

The Author

Neal Solomon

Neal Solomon is CEO of Advanced System Technologies Inc. A prolific inventor of technologies involving semiconductors, communications, data management, imaging, robotics and healthcare, he holds degrees from Reed College and the University of Chicago.

Warning & Disclaimer: The pages, articles and comments on IPWatchdog.com do not constitute legal advice, nor do they create any attorney-client relationship. The articles published express the personal opinion and views of the author and should not be attributed to the author’s employer, clients or the sponsors of IPWatchdog.com. Read more.

Discuss this

There are currently 23 Comments comments. Join the discussion.

  1. Bemused February 5, 2017 10:28 am

    Bravo, Neal. I really do hope that you will send a copy of this article (and your previous two articles in this series) to the White House.

    I was about to add to the list of recipients for this article, Messrs. Goodlatte and Issa, but then I remembered that their position on the US patent system is motivated more by big tech campaign donations then any real desire to revive the US economy.

    Thank you for taking the time to write and publish these articles.

    B

  2. Independent Inventor February 5, 2017 10:35 am

    Thanks Neal. A tour de force series that should be required reading in every law school and college in America.

  3. You Know Who I Am February 5, 2017 1:23 pm

    Declining productivity growth & slower employment and wage growth have not occurred with any apparent relationship to the relative “strength” of the patent system. The software business in particular has enjoyed a terrific run in the past decade, which is still ongoing.

    It also seems unusual that of all the powerful special interests frustrated by political gridlock, only the infringers lobby has been effective in implementing their agenda without resistance.

    It’s also unusual that the industrial manufacturers, pharma, and other users of the patent system not dependent on information inventions don’t seem to be very exercised about the weakening of the system.

    It’s not so unusual if one contemplates the possibility that many information inventions are fundamentally not amenable to useful examination or reliable adjudication. and represent more of a liability than an asset when forced into an ancient and finely balanced system not designed to accommodate them.

    Failure to compromise in the face of necessity to compromise tends to lead to entrenched camps unwilling to recognize objective reality. Charlie Munger says it “cabbages up one’s mind” to be locked into a certain ideology. Objective reality does not care; it will do as it does.

    In your experience, semiconductors, imaging, and robotics generally do not include human actors consuming information within patentable methods, while communications, data management (as opposed to data processing) and healthcare methods often do.

    There are compromises available to cleanly separate those information inventions appropriate for our patent system as designed, and those that are not. If folks in your position recognized the value of half-a-loaf, you would not be at risk for molding the whole thing.

    Every intervention in response to the travesty of State Street Bank has moved the system backward. Any honest observer should agree on that.

  4. Anon February 5, 2017 2:15 pm

    Mr. Snyder, your feelings and your comments are inaccurate.

    Across the board.

    That would be the summation of your “honest observer.”

    You very much have a skin – a deeply personal one – in your “avocation” efforts against software.

  5. angry dude February 5, 2017 5:24 pm

    You Know Who I Am @3

    Garbage you wrote

    “anything under the sun that is made by man”

    – that’s all it should be

  6. angry dude February 5, 2017 5:55 pm

    “collective refusal to deal by a group of technology incumbents”

    yes, precisely

    it’s the worst form of cartel

    in a normal competitive system a large incumbent would prefer to buy a blocking patent from a small outsider to press on competition in order to gain competitive advantage

    This is not what we currently have: all large tech incumbents have a pact (an illegal one btw) to force all small newcomers with their stinking patents out of business.
    It goes even further: they’ll spend many times more money to financially kill a patent holder than what would be asked for a patent license
    This is a punitive regime for all small patent holders with valid tech patents

  7. David Lewis February 5, 2017 9:08 pm

    I like your comments. However, I think that demonizing PAEs has been the rally cry behind patent reform, the demonizing of PAEs should end, in recognition that every small inventor without the resources to market their product is a PAE, and that the reforms that the PAE has been used an excuse to alter patent law in favor of big business, without any real concrete data of the “harms” of PAEs. It seem to me that the biggest problem with a company like Intellectual Ventures is that the original inventors should get a bigger percentage of the profits. However, the fact that the small inventor has somewhere to go get compensated for their inventions and have someone that can enforce their inventions is a plus for innovation and the economy, even if there are aspects of such a business model that should altered to further ensure that such a model benefits the economy and innovation as a whole (fix the problem rather than run it out of down whole sale).

    Additionally, regarding China, their government invest in startups in a serious way, which also accounts for their in roads into high-tech markets. We should probably learn form them on that issue.

    -David Lewis

  8. Curious February 5, 2017 10:57 pm

    M. Snyder: unique transformation of a wood block — patentable
    M. Snyder: unique transformation of computer data — unpatentable

    Perhaps Mr. Snyder is a fan of steampunk — where all technology is steam powered and relies upon mechanical devices.

    The problem with his thinking is that the US Constitution does not support such a distinction; 35 USC 101 does not support such a distinction; and no policy argument I’ve read supports such a distinction. Instead, Mr. Synder has a personal interest is having these types of inventions not be patentable — the same type of interest those like Facebook and Google do: they don’t like to be sued for infringing other people’s patents. As such, they are more than happy to burn down the whole system to keep from paying other people to use their technology.

  9. step back February 6, 2017 3:44 am

    First, the Supreme Court needs to review eligibility for injunctions in patent infringement cases.” (quote from “Constructive Remedies” above)

    First the Supreme Court needs to come to realize that they are 200 years behind the curve on science, innovation and fact finding.

    Their intellectual tower pontifications on “fundamental building blocks” of science and of “ingenuity”, on that which can be done by the human “mind”, by pen and pencil and the high probability of “thwarting” innovation more than promoting it are pure Medieval gobbledygook.

    Their ideas about “abstract ideas”, about “general purpose, conventional” computational thing a ma-jigs and plucking leaves off the DNA tree of “natural” phenomenon are the stuff of know it nothing at alls.

    Their procedural normative of accepting at face value the unsworn and uncross-examined amicus briefs of hand selected “friends” of the court smacks of dishonesty and corruption.

    They deserve not our reverence and awe but rather our pointed criticism and ridicule. Dred Scott is part of their blemished history. So too are Benson, Bilski, Alice, Mayo and Myriad.

  10. step back February 6, 2017 4:35 am

    One of the fine points of chiding and ridiculing is that the denizens of Mount Olympus are unlikely to read and comprehend a detailed attack such as may be found in this BilskiBlog post:

    http://www.bilskiblog.com/blog/2016/12/uspto-for-eligibility-roundtable-on-dec-5-2016.html

  11. Inventor Woes February 6, 2017 12:29 pm

    If incumbent monopolies were not in power due to a weak patent system, but rather a strong patent system, would people still be complaining? Imaging that the big tech guys like Google maintained a monopoly by capturing a significant number of “strong” patents. Wouldn’t the small-town inventor then complain that he can’t enter the market because the “strong” patents are getting in his way? What if the world was as Mr. Solomon wanted it to be. I imagine it would be quite the same; the big guys would be in power through strong patents instead of weak ones.

  12. Icare February 6, 2017 2:07 pm

    To: You Know Who I Am.

    The current (and unlawful) antipathy to patents in the courts and USPTPO is crushing my many smaller, entrepreneurial clients, especially those in the field of software. Any argument to the contrary is just plain incorrect.

  13. Gene Quinn February 6, 2017 5:34 pm

    Inventor Woes-

    You say: “the big guys would be in power through strong patents instead of weak ones.”

    Interesting. Were you trying to prove yourself ignorant and biased, or is that just a byproduct of your comment?

    When patents are strong what happens is small companies grow larger because they are the ones with the exciting, revolutionary technology and they acquire meaningful rights. Just ask Google, Apple, HP, pretty much every Silicon Valley giant really. In fact, you’d have to have absolutely no knowledge of how Silicon Valley works and how innovative entrepreneurial companies grow to become the giant companies they are to hold such an asinine viewpoint. Talk about being a biased member of the infringer lobby. LOL.

  14. Inventor Woes February 6, 2017 7:27 pm

    Gene-

    The companies you cite all essentially “infringed” on other patents. Using them as examples actually runs counter to your point. If anything citing those makes you seem as though you support the alleged “infringer lobby.”

  15. Gene Quinn February 6, 2017 7:54 pm

    Inventor Woes-

    It is clear that you are not interested in a discussion of the issues, or perhaps you are as ignorant as your comments seem.

    Are you actually saying that all Silicon Valley giants infringed on the patents of others to become giants? Is your position that Google’s original patent on their algorithms was infringing the patents of someone else? Is it really your view that the Wozniak patented computer infringed on the rights of others?

    Once upon a time all Silicon Valley companies were small and when small they were innovative and revolutionary. They patented their technology and that allowed them to compete against established giants of the time. This is fact whether you choose to believe it or not. These same once small Silicon Valley giants want to stop the next generation of now small companies from doing what they did to become giants. Now that they are giants they want to use their monopoly power and pull up the ladder that is the patent system.

    Please try and keep up or go elsewhere.

  16. Inventor Woes February 6, 2017 11:56 pm

    Gene-

    Google used Stanford’s patent (with permission but still in essence copying). Apple copied Xerox. Everyone copied in the birth of the personal computer and internet era. https://youtu.be/wq5D43qAsVg?t=189

  17. Stephen Curry February 7, 2017 1:54 am

    Kappos and Silicon Valley really got hoodwinked in year 2007 with this “patent crisis” fiction that led to the AIA and ptab because michelle lee was annoyed by the small patent owners.

    How can one who was an unknown in silicon valley be able to do all these damages to the start-up inventors and then become PTO Director with her PTAB “squads”?

    http://cyberlaw.stanford.edu/blog/2007/08/stanford-summit-patent-crisis

    http://www.theregister.co.uk/2007/08/02/google_calls_for_us_patent_reform/

  18. Gene Quinn February 7, 2017 10:24 am

    Inventor Woes-

    “Everyone copied in the birth of the personal computer and internet era.”

    Simply not possible to copy revolutionary inventions. That should be self evident.

    After the revolutionary invention is made by the small company you are correct though. The big companies all copy. That is why they don’t want a patent system or they want a weak patent system after they have used the patent system themselves to attain their giant size.

    Thanks for helping me prove me point!

  19. Stephen Curry February 7, 2017 10:26 am

    @16 the patent system intentionally encouraged google to make use of Stanford’s patents.
    One of the inherent traits of the patent system is to foster innovation. published patents are designed to foster incremental innovation. EPO has discouraged patenting and so european innovation is not so great. Israel encourages patenting and so Israel matches or even beats silicon valley in technological advances.

    these patent reform champions thought they are super-smart but they fostered the PTAB instead.
    http://cyberlaw.stanford.edu/blog/2007/08/stanford-summit-patent-crisis

  20. Inventor Woes February 7, 2017 1:51 pm

    What about this small inventor?

    https://www.youtube.com/watch?v=sDg-Wh0XA-w

  21. Night Writer February 7, 2017 3:15 pm

    @16: >>Everyone copied in the birth of the personal computer and internet era.

    What is interesting about this is that what was happening was trade secrets and protecting designs was escalating to the point that Intel was developing processors so that code could be encrypted so that you could not reverse engineer the code. Microsoft had secret and super-super-secret rooms. Employees were asked/forced to sign trade secret agreements. Etc. Patents broke all this, and now we are seeing the re-birth of this type of behavior.

  22. Chris Gallagher February 10, 2017 2:50 pm

    Bemused is right .

    Once again Neal hits a bull’s eye . Once again he stirs responses that confirm and re-enforce his well articulated position. Well done Neal …keep it up .

  23. Al Penilla February 11, 2017 7:40 pm

    Neal, Great article. It is very sad that so many big companies lose sight of the benefit of having a strong patent system. Market power is intoxicating. In the end, they too will suffer when their IP is efficiently infringed by the next big player.

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