Patents prompting or restricting innovation

Patents

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Smart Innovation Set
coordinated by
Dimitri Uzunidis

Volume 12

Patents
Prompting or Restricting Innovation?

Marc Baudry
Béatrice Dumont


First published 2017 in Great Britain and the United States by ISTE Ltd and John Wiley & Sons, Inc.

Apart from any fair dealing for the purposes of research or private study, or criticism or review, as
permitted under the Copyright, Designs and Patents Act 1988, this publication may only be reproduced,
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© ISTE Ltd 2017
The rights of Marc Baudry and Béatrice Dumont to be identified as the authors of this work have been
asserted by them in accordance with the Copyright, Designs and Patents Act 1988.
Library of Congress Control Number: 2017949782
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ISBN 978-1-78630-118-5

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Contents

Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

ix

Chapter 1. The Purpose of Patents . . . . . . . . . . . . . . . . . . . . . . .

1

1.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1.2. Patents as an incentive mechanism . . . . . . . . . . . . . . . . . . .
1.2.1. The key question of appropriability of returns
for innovation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1.2.2. Patents as a solution for the lack of appropriability . . . . . . .
1.2.3. Patents and their design . . . . . . . . . . . . . . . . . . . . . . .
1.2.4. Are patents a property right like any other? . . . . . . . . . .
1.3. Patents as intangible assets . . . . . . . . . . . . . . . . . . . . . . . .
1.3.1. From factory to fabless: the growing role of the obligation
to disclose the content of patents. . . . . . . . . . . . . . . . . . . . . .
1.3.2. The emergence of patents as intangible assets . . . . . . . . . .
1.3.3. The delicate question of assessing patents as intangible assets
1.3.4. Patents as funding leverage . . . . . . . . . . . . . . . . . . . . .
1.3.5. The commoditization of patents . . . . . . . . . . . . . . . . . .
1.4. Case study: Intellectual Ventures Inc. . . . . . . . . . . . . . . . .

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Chapter 2. The Imprimatur of Patent Offices in the Face
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2.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . .
2.2. The exponential demography of patents . . . . . . . . . .
2.3. The impact of regulatory factors and legal decisions in
the United States . . . . . . . . . . . . . . . . . . . . . . . . . .
2.3.1. Patent continuations or “evergreening” . . . . . . .
2.3.2. Reform attempts . . . . . . . . . . . . . . . . . . . . .

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2.4. Regulatory developments in Europe . . . . . . . . . . . . . . . .
2.4.1. The unitary patent and the unified court: the final stage
of a European patent system? . . . . . . . . . . . . . . . . . . . . .
2.4.2. The supposed economic advantages of the unitary system.
2.4.3. From intention to reality . . . . . . . . . . . . . . . . . . . . .

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Chapter 3. The Judiciarization of Patents . . . . . . . . . . . . . . . . . .

111

3.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3.2. Should patent trolls be tracked down? . . . . . . . . . . .
3.2.1. A class of heterogeneous actors . . . . . . . . . . . . .
3.2.2. The business model of litigation PAEs . . . . . . . . .
3.2.3. What is the scale of this phenomenon? . . . . . . . .
3.2.4. The consequences for innovation . . . . . . . . . . . .
3.2.5. A longstanding and potentially beneficial role . . . . .
3.2.6. Proposals for reforms . . . . . . . . . . . . . . . . . . .
3.3. Standards and patents: a necessary but tense coexistence .
3.3.1. FRAND licenses as safeguards for essential patents .
3.3.2. The hold-up theory faced with the facts . . . . . . . . .
3.3.3. The availability of injunctions . . . . . . . . . . . . . .
3.3.4. Patent ambushes . . . . . . . . . . . . . . . . . . . . . .
3.3.5. Royalty-stacking . . . . . . . . . . . . . . . . . . . . . .
3.3.6. “Best FRAND forever” or the delicate question of
royalty amounts . . . . . . . . . . . . . . . . . . . . . . . . . . .
3.4. Case study: sovereign patent funds . . . . . . . . . . . . . .

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Chapter 4. A New Place under the Sun for Patents? . . . . . . . . . .

177

4.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
4.2. The patent as one innovation policy instrument among many .
4.2.1. Innovation awards, or how to rehabilitate an old approach
4.2.2. Could innovation awards replace patents? . . . . . . . . .
4.2.3. Complementarity with support for R&D efforts . . . . . . .
4.2.4. An example of complementarity between instruments:
low-carbon innovation . . . . . . . . . . . . . . . . . . . . . . . . . .
4.3. Patents in support of open innovation strategies . . . . . . . . .
4.3.1. Patent pools as a premise for open innovation . . . . . . . .
4.3.2. From R&D cooperation to open innovation . . . . . . . . .
4.3.3. Why is open innovation so “patent-compatible?” . . . . .

4.3.4. Patents at the center of intermediate innovation . . . . . . .
4.4. Case study: “My patents are yours” – development in the
Tesla case . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

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Contents

vii

Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

217

Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

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Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

251


Introduction

It is tempting to see the debate about the relevance of patents for
supporting innovation as a contemporary, updated version of the
tongue anecdote from Aesop, the famous ancient Greek fabulist who was
also a slave. When his master asked him to go to market to buy the choicest
dainties to honor some special guests, Aesop only bought tongues, which he
served with different sauces. When his master questioned his choice, Aesop
responded, “There is nothing better than the tongue, the connection to civil
life, the key to science, the organ of truth, reason and prayer. Through it, we
build cities and govern them, we teach, we persuade, we hold assemblies,
and we carry out the most important of all work, which is to praise the
gods”. Offended by this answer, Xanthos, Aesop’s master, asked him to
choose the worst meal for the same guests to try the next night. Again,

Aesop bought only tongues, and served them with different sauces. To his
puzzled master, he responded: “There is nothing worse than the tongue, the
mother of all disputes, the source of all conflict and wars, the organ of error
and slander, blasphemy and impiety. Through it, we destroy cities, we
convince people of evil things, and we utter blasphemy about the power of
the gods”1.
Patents are at least as ambivalent as Aesop characterizes the tongue. This
ambivalence has long been recognized. When concluding his report for the
U.S. Senate about patents, Machlup [MAC 58, pp. 79–80] wrote: “No
economist, on the basis of present knowledge, could possible state with
certainty that the patent system, as it now operates, confers a net benefit or a
net loss upon society. The best he can do is state assumptions and make

1 See Mayvis [MAY 06], Chapter 8.

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guesses about the extent to which reality corresponds to these assumptions.
[...] If one does not know whether a system as a whole is good or bad, the
safest policy conclusion is to “muddle through” either with it, if one has long
lived with it or without it, if one has long lived without it. If we did not have
a patent system, it would be irresponsible, on the basis of our present
knowledge of its economic consequences, to recommend instituting one. But
since we have had a patent system for a long time, it would be irresponsible,
on the basis of our present knowledge, to recommend abolishing it”. After

emerging in England, as a system of exceptions in the context of laws to
counter monopoly rents, patents were conversely consecrated as a natural
right of all men over what they produced following the French Revolution in
1789. Over the course of the 19th Century, calls to put an end to the patent
system increased. In Great Britain, the news magazine The Economist
openly took a position in favor of abandoning them in an article published in
18512. In France, the Saint-Simonian economist Michel Chevalier wrote as
early as 1862 that “the legislation of invention patents is harmful to industry
today” (Chevalier [CHE 62]). Some countries, such as Switzerland, refused
all protection by patents, a system judged in principle to be “pernicious and
indefensible” in itself3. The Netherlands abandoned the legal protection of
inventions between 1869 and 1912 (Schiff [SCH 71]). The movement in
support of abolishing the patent system – its “reform” as it was called –
nearly carried the day between 1850 and 1875, but those in favor of
maintaining the system were victorious in the end owing to the “protectionist
reaction” at the turn of the century (Machlup and Penrose [MAC 50]).
The inability, for more than a century and a half now, of industrialized or
industrializing countries to develop a sustainable mechanism that encourages
innovation that could substitute for patents and displace them may be seen as
“default” proof that patents are the best system. Even though the academic
literature has considered, and continues to actively consider, the question of
the best support mechanism for innovation, it must be said that no alternative
solution seems able to fully eclipse patents. So, we can justify maintaining
the patent system in light of Oliver Williamson’s criterion of
“remediableness” [WIL 96], which is to say that an existing practice for
which there exists no feasible better alternative, which can be described and
implemented with a reduced net gain, is presumed to be efficient. This does
2 See />3 Patent protection dates from 1888 in Switzerland, with an extension of the breadth of the
protection in 1912.

Introduction

xi

not mean that the patent system does not have a certain number of flaws and
quirks, only that the alternative solutions are not exempt from those either.
Because of this, several economists defend the system as being the lesser
evil, somewhat in the manner of Winston Churchill, who said that
democracy was the least objectionable of the political systems. Therefore,
according to a law and economics logic, strong patents are indicative of a
system of intellectual property, just like property on tangible assets, that is
indispensable for the good working of the economy (Kitch [KIT 77], Posner
[POS 05]).
The demography of patents, however, compels us to be somewhat
alarmist. In the last four decades, the increase in the number of patents
requested and granted around the world seems out of control. Just as a
population living in too great a concentration in a given space generates
stress, illness, aggressiveness, and conflicts, the system seems to be
becoming “ill.” Some people see evidence of this in the overlap of rights
conferred by patents, generating “patent thickets,” which would lead to a
prolific rise in litigation or blocking the dissemination of innovations by a
stacking in license fees. Similarly, some authors indicate the weakness of
empirical evidence regarding the link between the demography of patents
and productivity growth, and only see an unhealthy outgrowth of the system,
almost like a cancerous tumor, in the increase of this demography. The
typical agent, according to this perspective, would be the “patent troll” who
hides behind patents that are superficial in substance, only to capture rents at
the expense of “real” innovators. For instance, Boldrin and Levine [BOL
08], who are at the forefront of the contemporary movement of patent

contestation, criticize the idea that patents would lead to a higher rate of
innovations. Based on the number of innovations presented at international
trade fairs, they argue that in the 19th Century, countries that did not have a
patent system were no less innovative than the countries that did have one.
According to economists who support this slightly Manichean approach to
patents (and they are no less numerous than their opponents), the staggering
growth of patents is negative. For them, we must, at the very least, practice a
technological “Malthusianism” by drastically narrowing the qualifying
conditions for patents, or even abolish the patent system itself.
What can we contribute to such a polarized debate about the relevance of
patents? First of all, we can trace the events and reasoning that led to this
polarization. We can also re-situate it in a larger context. The last three
decades of the 20th Century were marked by a number of economic changes.
At the end of the 30 glorious years, the economic system characterized by a

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kind of capitalism that was tightly regulated by the State, has been replaced
by a new economic system where the prevalence of markets is affirmed. It
consists of goods markets based on the development of international trade
and the advent of globalization. It also involves financial markets with
unprecedented mobility for capital. It is not at all surprising that the model
for innovation also changed in such a context. Confronted by markets for
goods and services where competition is stimulated by new actors struggling
to gain entry, the model of innovation necessarily led to change in the 21st

Century. More actors also means that smaller actors cannot exist without
specializing, including in the production of innovative solutions intended for
others. However, smaller actors are also more subject to financial
constraints. In order to bypass these constraints, what is more logical than to
turn to the financial actors for whom obstacles were removed regarding the
possibility of involvement? More actors can also mean more interactions
among them. What we see emerging in this systemic logic is a shift away
from a vertically integrated model of innovation “à la Schumpeter” where
large firms create inventions internally, fund R&D themselves, and attempt
to produce and commercialize innovations by themselves, toward a
fragmented and intermediated model where a large number of actors interact
with each other. These interactions require guarding against imitation as best
as possible, but also sharing inventions while still being able to protect them.
Patents can respond to these requirements. They ensure what economists call
the appropriability of returns from inventions, and thereby encourage
innovation. Aside from this traditional perspective on their role, patents also
make it possible to demonstrate inventive capacities and reduce information
asymmetry in transactions concerning new technologies, in partnerships
forged to design these technologies, or in the access to external funding for
R&D to support these technologies. This does not mean that the new system
guarantees more innovations. It is only said that, while the vertically
integrated system of innovation could more easily do without patents, the
new fragmented system of innovation is much more constructed with, and
even around, patents. That is what this book will attempt to demonstrate.
To understand this logic, it is important to start by recalling the purpose
of patents. This is the goal of Chapter 1, which begins by reiterating the
incentivizing role of patents. As the right to forbid others from exploiting an
invention, in cases of successful inventions, it provides a rent that
compensates ex post the inventor for having taken ex ante a risk and
dedicated the means to develop the invention. The patent is therefore

basically a sequential compromise for according a return ex post by creating
an incentive ex ante. However, this right of intellectual property must not


Introduction

xiii

only be enacted by public authorities, it must also be defined. This
delimitation is much more complex than for other property rights, especially
land-related ones. It relies on the choice of multiple parameters and because
of this, it can give rise to the best or the worst results, as the devil is often in
the details. Aside from the incentivizing role of patents, which is
traditionally emphasized, patents also have a transactional role. Chapter 1
discusses this as extensively as the incentivizing role. It shows how patents
are intimately connected to the move by certain actors to specialize in the
design of inventions, and then their transfer to other actors. The transactional
role of patents is not limited to the transfer of innovative technical solutions.
It also concerns access to external funding for R&D, as soon as it is subject
to information asymmetry. In the sense of the economy of information, the
patent becomes a credible signal of the capacity for innovation by young
companies that are not yet well known. It facilitates the introduction of startups to venture capitalists. This shift is significant because it is no longer
what the patent protects that is the most important, but the signal that it
sends, whether or not the patented invention is developed.
The different facets of the delimitation of patents presented in Chapter 1
all offer room for a patent office to maneuver. Chapter 2 focuses on
demonstrating how legal and institutional adjustments can have serious
consequences on patent demography. This chapter begins with a factual
analysis of the evolution of this demography and its connection with the
evolution of productivity increases. It not only confirms a certain disconnect

between the two evolutions but also indicates that the idea of an uncontrolled
demography without the tangible benefits of patents is to be nuanced
depending on the patent office under consideration. The problem is not only
first and foremost an American issue, but also increasingly a Chinese issue,
that is recent but whose scale will multiply several fold. Chapter 2 then
focuses on a comparative study of American and European cases and their
recent developments to highlight how different approaches and problems
hide behind apparent procedural similarities. Today, it is well known that the
European Patent Office does not easily grant its imprimatur. In this sense, it
is representative of what we can characterize as “top of the line” in terms of
requirements on the part of a patent office. In contrast, the US Patent and
Trademark Office is known for its principle of “rational ignorance”, which
consists of relying heavily on the legal system to regulate the question of
patent delimitation and assertion.
From the principle of “rational ignorance” employed by the patent office,
there logically follows a phenomenon of litigiousness around patents. The

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full extent of this phenomenon is detailed in Chapter 3. Often perceived
negatively, this litigiousness is addressed by presenting the so-called “holdup” problem concerning, on the one hand, the development of patent
assertion entities (including the infamous “patent trolls”) and, on the other
hand, the case of patents that are essential for a standard. The position taken
in Chapter 3 is to consider that patent trolls are to patents what arbitrageurs
are to finance: they play the maligned role of exploiting the flaws in the

system, but in doing so, they prevent these flaws from developing. They are
therefore all the more useful when patents are delimited vaguely and have a
considerable risk of overlapping, which also explains why they “prosper”
primarily in the new world, not the old one. The case of patents that are
essential for a standard illustrates how the road to hell is paved with good
intentions. Standards are a common reference point on which potentially
competing companies can rely to develop a technology while guaranteeing
compatibility for users, regardless of the technology provider. However,
when standards are constructed around patents, the market power of the
patent holder can be increased or even amplified by supposedly
anticompetitive conduct. So-called FRAND (Fair Reasonable And NonDiscriminatory) licenses are supposed to remedy this. Even if, in reality,
they can prove complex to implement because they are too imprecise, they
demonstrate the ability of the system to adapt to problems it encounters.
To paraphrase a famous quote in American jurisprudence, “everything
under the sun that is made by man can be patented”4. Chapter 4 addresses the
emergence of a new “place in the sun” for patents in the context of a system
of innovation that is not vertically integrated but fragmented between
multiple actors. To this end, it supports the idea that there are other tools to
support innovation besides patents. More specifically, it addresses prizes in
innovation competitions that are often presented as alternatives to patents
while still constituting, like patents, a tool to compensate inventors. It
demonstrates that these competition prizes do not represent more of an
alternative to patents than financial support tools for R&D. Rather, Chapter 4
argues that these tools are complementary to patents. Chapter 4 then goes
further, supporting the idea that patents are paradoxically useful in a system
of innovation that is not only fragmented and intermediated, but also open.
Indeed, the notion of open innovation is often presented as contradictory to
4 See Case Diamond v. Chakrabarty 447 US. 30 (1980) and the opinion of Chief Justice W.
E. Burger declaring “Congress had intended patentable subject matter to include anything
under the sun that is made by man”. For a discussion of the origin of this expression, see also

Kauble [KAU 11].


Introduction

xv

the “proprietary” approach generally illustrated by patents. A significant part
of the academic literature tends, on the other hand, to show that an open
innovation approach often requires spreading information about inventions
while protecting them, and that patents allow for this better than other
protection strategies, such as the secret. A more systematic use of patents
could thus support the development of open innovation.
Throughout these chapters, this book seeks to inform the reader about a
“middle ground” regarding patents. It moves away from a “traditionalist”
conception which, by insisting on the incentivizing role of patents, tends to
neglect their informational role, especially as a signal. Without contesting
the relative disconnect between the upward demography of patents and the
significantly more moderate productivity gains, this book proposes an
alternative interpretation to that of the “abolitionists”. It suggests that the
position of patents within the system of innovation is renewing itself, with
the shift toward a more fragmented, more intermediated innovation that is
also more open and which guides the contemporary evolution of the most
developed economies.

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1
The Purpose of Patents

1.1. Introduction
Proponents of a patent system for inventions often present it as
indispensable for supporting innovation, in the sense that innovation would
not be fully realized without patents. From the outset, this perspective relies
on the assumption that innovation cannot emerge from a “laissez faire”
situation, or at least not in a complete and satisfactory way. Even before
questioning the relevance of the patent system, it is important to consider the
necessity, or lack thereof, of promoting innovation. This does not mean
questioning the social utility of innovation, although technology divagations
can sometimes lead us to consider some innovations to be more harmful than
beneficial to society and call for a kind of precautionary principle. Without
denying this problem, it is not the focus of our reflection here. Rather, we
intend to discuss why public intervention would be necessary and, more
particularly, if patents are in fine a more or less appropriate mode of
regulation.
The discussion has two stages. In a first stage (section 1.2), the traditional
approach to the role of patents to incentivize innovation is presented. By
articulating the non-rivalry and non-excludability properties of patents in the
use of ideas and inventions that result from them, it is shown that a lack of
private incentives for innovation affects the economy. The emergence of the
patent as an intellectual property right in response to this lack is discussed.
The specificities of this type of property right are emphasized in order to
provide a first glimpse into the debate about the relevance of patents. In a
second stage (section 1.3), patents as intangible assets are addressed. Their
importance as intangible assets is twofold. Not only are they assignable and
make it possible for companies to specialize in the production of
Patents: Prompting or Restricting Innovation? First Edition.
Marc Baudry and Béatrice Dumont.
© ISTE Ltd 2017. Published by ISTE Ltd and John Wiley & Sons, Inc.

2

Patents

innovations, but they also play a facilitative role in the access to external
funding for innovating companies. Reflecting a relatively recent
development in the literature, the role of patents as a signal for
innovativeness appears just as important as their role as an incentive. Above
all, the recognition of this role leads us to consider the debate about the
relevance of patents differently, even if it means shifting to other questions
inherent to this movement of financialization.
1.2. Patents as an incentive mechanism
The main idea that is generally put forward to justify public intervention
in matters of innovation is that innovation results from “flashes of genius”
which are not subject to rivalry in use. This means that once an individual
has developed an idea in the form of an invention, that invention can be used
almost without cost by others. This is a simplistic view of things, because an
effort to understand the ideas that led to the invention is generally required to
mobilize it, but the main principle is that the cost of understanding with the
view of reproducing the invention is minimal, compared to the cost of the
rediscovery ex nihilo of the invention. It is therefore collectively desirable to
spread the idea and its realization in the form of an invention to everyone.
This prevents wasting resources, even if only time, in the economy1.
Nevertheless, non-rivalry in the use of ideas has economic consequences
that are quite different if it intersects with another property: the possibility of
precluding use (or not). The impossibility of preventing use can result in a
potentially strong disconnect between the private valuation that the
economic agent who came up with the idea can expect from the invention he

or she created and what the invention contributes to the community. Pushed
to an extreme, such a disconnect eliminates all monetary incentives that
endeavor to support innovation. It therefore greatly slows the rate at which
innovations appear, limiting them to innovations that occur by chance or
through motivations other than the pursuit of private interest. Long
recognized by public authorities, this problem is at the root of the patent
system, which is supposed to respond to it by establishing a right of
intellectual property over inventions that result from flashes of genius. It is
this incentivizing role of the patent that has long prevailed, and still largely

1 Inversely, a good which is rival in use can only benefit one individual or company at a time.
It must be reproduced for a cost as many times as it is demanded by different individuals or
companies, multiplied by the number of units that each of them wants.

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prevails, over the debate about the relevance of the patent system. If there is
a debate, it is because patents do not establish a property right like any other.
This is what the first section intends to demonstrate.
1.2.1. The key question of appropriability of returns for
innovation
What economists call “club goods” are the result of the combination
between non-rivalry and the possibility to preclude usage. The economic
model of club goods consists of requiring payment in exchange for access to
the good. It is therefore possible for the individual or company who produces

a club good to receive a part of their return from the use by each individual
to whom access to the good has been granted. The compensation for the
producer of this kind of good is therefore proportionate to the number of
individuals who are willing to pay the asking price, and when applicable, the
number of units that each individual wants. A live performance is generally a
club good. Provided that the number of spectators does not damage the
perception that each individual has of the performance, there is a non-rivalry.
It is also possible to exclude individuals from accessing the location where
the performance is occurring. On the other hand, when it is not possible to
exclude usage, the individual or company who produces the good finds
themself unable to derive returns from individual beneficiaries through an
appropriate price structure. It is therefore not a viable economic model in the
context of private production. An air show is an example of this. Even if,
like the live performance, there is indeed non-rivalry as long as the number
of spectators remains limited so that no one interferes with one another while
watching the air show, it is generally impossible to prevent individuals
outside of the airfield from watching the show. In the absence of market
incentives to produce them, goods that have both properties of non-rivalry
and non-excludability are produced either directly by public authorities or
indirectly by public commission of private actors. What about innovations?
To answer this, it is necessary to distinguish different steps in the process of
creating innovations and, at the same time, clarify the term “innovation”.
Innovations are a link in a larger process of knowledge creation in which
we can identify three major steps:
– the domain in which they are implemented;
– the primary activity that characterizes them;
– the result that they produce.


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The first step falls under the domain of science and is characterized by
research that can be either purely speculative or oriented toward a concrete
goal but its result is always a kind of scientific discovery. The application
perspectives are generally too distant in time to be correctly predicted or
even suspected. Their production therefore cannot rely on a market process.
As scientific discoveries are a base for the following steps, it is nonetheless
necessary to ensure their production with adequate incentives. The
economics of science tends to highlight the role of peer evaluation in the
careers of scientists, even simply the personal satisfaction derived from
moral recognition by others or from the very fact of having solved a
problem2. The absence of rivalry in the use of scientific knowledge is
obvious. There is a possibility of direct excludability, for instance by
controlling access to conferences or to publications that present discoveries.
In contrast, there is generally an impossibility for indirect excludability, in
the sense that we cannot often prevent a person who has had access to the
discovery from passing on the discovery to others. Consequently, scientific
production is essentially supported by public funds.
The second step falls under the domain of technology and is
characterized by the production of inventions that make it possible to solve a
practical problem. The concrete character of the problem solved makes it
possible to consider a more or less short-term application for the invention
and therefore a potential market value. There is no rivalry in the use, as one
application can be developed without preventing other applications. The
possibility to exclude is, however, subject to discussion. It can be imposed
by force3. It also partly depends on the technological field under
2 On the topic of science economics, see the summary by Stephan [STE 96], among others.
3 For instance, Frumkin [FRU 45] explains that Venetian glassblowers in the 15th Century

had state of the art technology for their time. They were forbidden to communicate their
fabrication processes to any person outside of their trade association. Anyone who violated
this rule, if he was caught, was sentenced to death. Nevertheless, the threat of the death
penalty did not deter many of them from fleeing abroad and peddling their knowledge in
return for a production monopoly related to “revealing the mystery”. In return, they had to
agree to train apprentices. The potential for earnings was a major factor for excluding access
by force. In the same vein, Huygue and Huygue [HUY 17, pp. 99–117] demonstrate that the
secret of silk was one of the longest lasting secrets in history because it lasted about 4,000
years. The keys to the “mystery”, the existence of a worm (the silkworm, bombyx mori,
whose cocoon produces silk), the technique of the sericulture and the substrate (mulberry
seeds and silkworm eggs) were forbidden to be exported outside of China under the death
penalty. The prevailing idea was that the possession of technology was synonymous with
power, because the ownership of that knowledge could change the fortune of a people.

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consideration and the possibility for reverse engineering in that field. This
consists of finding the concept for the invention by examining what is
produced thanks to the invention. This is a common practice in the
engineering industries. It is more difficult in the tire industry, which relies on
tacit knowledge, appropriable with difficulty, as opposed to explicit
knowledge. Where the possibility of excludability is not imposed by the very
nature of the inventions, notably by the difficulty to proceed with reverse
engineering, it can be imposed by law. This can happen through
prohibitions. Over time, the law has moved more toward the attribution of

rights. This is how the issue of patents, the subject of this book, emerged.
Before discussing this issue in more detail, we will present the third step of
the process.
The third step falls under the domain of the economy, and is
characterized by the creation of value within a society. The creation of value
can be achieved in a marketable form, such as through the successful
commercialization of a new product, or a non-marketable form, through the
dissemination of best practices regarding how to produce a good. It is only
when the creation of value becomes effective that we are talking about
innovation. It then becomes important to distinguish innovations, which are
inventions that have created value, from inventions in general that have not,
or not yet, led to the creation of value. In addition, innovations are not
exclusively technological. A typology by object, directly inspired by the
definition given by Schumpeter [SCH 11], led to the present distinction
between four types of innovations (Oslo Manual [OEC 05]):
– Process innovation (implementation of a new production technique).
Thanks to this kind of innovation, a company can produce an existing good
for a lower cost than its competitors. This type of innovation follows a logic
of vertical differentiation in production tools. A classic example is the
process invented and patented by the English engineer and inventor Henry
Bessemer in 1855 to manufacture steel in a more efficient way.
– Product innovation (commercialization of a product that offers new
features or responds to needs that were hitherto not satisfied or poorly
satisfied). Thanks to this kind of innovation, a company can be the only one
to supply the new good on the market. This type of innovation follows a
logic of differentiation that is at least as much horizontal as vertical. A
relatively recent example is the development of mobile phones in the 1990s
Between the 6th and 3rd Centuries before the Common Era, silk even had been a currency
stallion in China.

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and then smartphones in the 2000s. The iPhone from Apple Inc.,
commercialized as of June 2007 in the United States, was the first
smartphone with a touch screen interface available at that time.
– Organizational innovation (rethinking the organization of tasks, human
resources, decision procedures, and client and supplier relations). Thanks to
this kind of innovation, a company can reduce its production inefficiencies
or informational inefficiencies. This type of innovation is the responsibility
of management and can be paired with an engineering logic. One widely
documented example is the Taylor system adopted for the assembly-line
production of the Model T by the Ford Motor Company from 1908 to 1927.
– Marketing innovation (modification to the design of a product or the
way of selling it). Thanks to this kind of innovation, a company can succeed
in attracting new customers. This type of innovation follows a marketing
logic. The site Amazon.com introduced the idea of an online library in 1994.
The different types of innovation are not incompatible. It is possible to
combine a product or process innovation, an organizational or marketing
innovation. For instance, it is with the batteries developed by its subsidiary
Batscap that the Bolloré group produces the Blue Car, the iconic model of
the car-sharing service known as Autolib’ implemented by the city of Paris.
In this example, there is a product innovation based on batteries. However,
to create value from this product, rather than selling the batteries to
automobile manufacturers, the group decided to offer a turnkey solution to
the city of Paris that included a network of charging stations and the supply
and maintenance of the vehicles for that network. This is an organizational
innovation that makes it possible to circumvent the issue of the critical mass

of users beyond which a network becomes profitable. This organization
breaks with the strategy of automobile manufacturers who are often content
to offer electric car models without getting involved in setting up charging
stations networks, with the noticeable exception of Tesla Motors. The
organizational innovation led to a marketing innovation because the firm
generates its income not through vehicle sales but through automated, shortterm rentals to customers.
The problem of the impossibility of excludability raised by the second
step of the development of applications takes on its full meaning when
inventions are likely to result in innovations, meaning the creation of value.
However, it should be emphasized that the impossibility of excluding is
contingent on the application; for instance, it is stronger where reverse
engineering is simple. When this impossibility prevails, it is very difficult for

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inventors to get financial compensation through the commercialization of
their invention even if it has a high value for the community. This difficulty,
referred to as the problem of appropriability of returns from the innovation,
comes from the early entrance of competitors copying the invention at low
cost, so that the rent of the inventor is very quickly eroded4. The competition
forces the selling price down to a level that covers the production or
reproduction costs of the invention, but does not often allow the inventor to
cover her own costs for research and development. Since the inventor is the
only one to be subjected to the cost of R&D, she can find herself in a
paradoxical situation where imitators earn profits, even small ones, while she

is losing money. If this problem is anticipated by the inventor, she may
refrain from engaging in the activity of R&D. The community will then
suffer from a lack of incentive because innovations whose social value
exceeds the cost of R&D will not be created. The problem of the
appropriability of returns from the innovation by the inventor is at the heart
of the economic analysis of patents5. In order to best understand the
importance of patents to respond to this, it is important to highlight two
points. The first point is, as noted by Schankerman and Schuett [SCH 16],
that a good patent system is able to only target innovations that are
appropriable with difficulty, and which would not be created without this
system. Innovations that are not subject to this difficulty not only do not
need a patent system, but also should not solicit one in order to avoid it
serving to claim undue rents. The second point is that there are alternatives
to the patent system to remedy the flaw of appropriability. It is essentially
information imperfections that create a context where the patent system
appears a priori to be more specifically appropriate.
1.2.2. Patents as a solution for the lack of appropriability
In a utopian world where information would be perfect, public authorities
would be able to identify the innovations that suffer as a result of this lack of
incentive and to plan for their realization. They would also be able to
identify which inventors are capable of realizing a given innovation at the
lowest cost of R&D and to precisely evaluate that cost. In such a world,
the public authorities could thus overcome the lack of incentives with the
planning of inventions and the efficient allocation of funds for R&D. But the

4 The term appropriability is preferred to that of appropriation because it refers to the idea of
the ability that an inventor has, or does not have, to receive returns.
5 See Langinier and Moschini [LAN 02] or Stiglitz [STI 08].

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real world is made of imperfections, especially in the quality of information
and its distribution among economic agents. In many ways, it is these
information flaws that are at the basis of innovation policy and that underlie
the patent system.
The first fundamental flaw comes from the inherently random character
of any R&D activity. It is difficult for any person other than the researchers
themselves to determine if an R&D program fails because the researcher
encountered insurmountable difficulties or whether the absence of results
reflects a lack of effort or skill on the part of the researcher. This problem is
one variation among many in economics of the so-called “moral hazard”
phenomenon. To encourage an appropriate level of effort on the researchers’
part, it is essential to implement incentives, to make their compensation and
career somewhat dependent on obtaining results. In the case where the
research in question occurs upstream in the process of innovation, and
therefore more in the domain of science, the incentive is necessarily largely
disconnected from the value created, which is itself highly uncertain. It
therefore generally takes the form of a job promotion and an increase in
autonomy at work. In the case where the research in question occurs
downstream and where its impact in terms of value creation is more explicit,
the incentives are generally more tied to profit-sharing6. The exact forms of
this profit-sharing can a priori be very diverse, and notably, nothing makes it
possible to say at this stage whether an innovation prize is more or less
appropriate than a patent. The arguments to choose between one or the other
are based on a second informational problem.
The second informational flaw that it is important to consider in matters
of innovation is linked to the social returns created. Unless a specific

scientific or technical problem has been clearly identified as an obstacle to
be overcome in order to implement one or several applications that create
value, the returns generated by an innovation are most often only correctly
understood, and assessed, after the invention has been developed. Similarly,
different competing solutions are often studied simultaneously until one of
them manages to take the lead. When the automobile was being developed at
the end of the 19th Century, it was not clear that the internal combustion
engine that ran on liquid fuel would win out. Natural gas, electricity and
steam were all considered as options for power before proving less
6 Profit-sharing is framed by the rules of compensation relative to employees’ invention, see
/>
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interesting7. It is also the case that inventors often have a better idea of the
advantages and disadvantages of their inventions, if only through the
prototype testing that they carry out, and consequently of their chances of
success. There are three consequences to this. First, innovators may be more
inclined to take on the risks inherent to an invention, based on a more
favorable belief in its success. Second, it is generally more difficult for the
community to evaluate what is worth supporting or not before the invention
is available and begins to spread. Third, inventions can have belated success,
unforeseen applications, or a context that is favorable for their development
may not emerge until later8. It is therefore often admitted that the incentive
mechanism must operate ex post, must moderate compensation as a function
of the observed value and not only the predicted value, and must be generic,

in the sense that the compensation need not be negotiated for every
invention. This perspective advocates for a technological neutrality for
incentives, in the sense where they must support innovations but without
making an a priori choice between the various options initially considered.
The patent system responds to these different criteria and also offers a
solution for the problem of temporal inconsistency that is likely to affect
support for the innovation.
Like the moral hazard mentioned above, the problem of temporal
inconsistency applies in economics to many more questions than simply
innovation. Applied to innovation, it refers to the idea that it is in the interest
of public authorities to incentivize innovation ex ante, before an innovation
has emerged, by committing to compensate inventors when they are
successful, but not to respect this commitment ex post. Indeed, once an
innovation is available, the collective interest would be to spread it as widely
as possible at the lowest cost, and therefore promote its free imitation by the
inventor’s competitors. The problem is that if they anticipate this reversal,

7 The dray invented in 1769 by the Frenchman Nicolas Joseph Cugnot, considered the first
motor vehicle, was steam-powered. In 1884, Edouard Delamarre-Deboutteville and Léon
Maladin were the first to design a vehicle powered by a four-stroke internal combustion
engine which ran on gas and then fuel oil. In 1899, the “Jamais-Contente” designed by the
Belgian company Jenatzy was the first vehicle to go over 100 kilometers per hour. It was
powered by an electric motor.
8 In 1893, the German Rudolf Diesel invented the self-igniting internal combustion engine. It
was not until much later, during the second half of the 20th Century, that this type of motor
had great success for individual automobile vehicles. We can also cite the example of 3D
printing. The first patents for it date from the mid-1980s but the applications (and therefore
commercial interest) did not come to light until the 2000s.

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inventors will not trust commitments formulated ex ante and the incentive
will be ineffective. To avoid the problem of temporal inconsistency in
incentives, it is essential that commitments made ex ante be binding. For
this, they must pass through mechanisms in which the discretionary power of
public authorities is low. To do this, the support system must be established
at a high level in the hierarchy of standards, which is the case for patents,
which rely on a system of intellectual property rights (IPRs). IPRs are
basically a bundle of legal standards used as a means of protection,
compensation, conservation, and valuation of rights related to an
“intellectual creation”. As will be detailed later in this text, because this type
of right has major particularities, it is a public institution or independent
administrative authority, namely the patent office, that grants and regulates
intellectual property titles9. It is this relative independence vis-à-vis the
legislative and executive powers10 that limits the issue of temporal
inconsistency and guarantees a certain efficiency of patents as an
incentivizing tool11.
A third information issue pertains to the apparent contradiction of
designing a support system that is generic, but should only address
innovations that, without such a system, would not be created. It is important
to remember that a “good” patent system is a system which is only solicited
for this type of innovation. However, a patent office cannot immediately
identify innovations that it should target and rule out the others. For this, a
mechanism encouraging inventors to self-select has to be put in place. One
strategy to achieve this is to make the inventor pay to obtain a patent,
through filing12 and processing13 fees, for example. The appealing feature of

9 The European Patent Organization is an international organization. It is based on two
bodies: the Administrative Council (made up of representatives who are almost exclusively
the heads of national patent offices from States that adhere to the European Patent
Convention, which acts as a legal power) and the European Patent Office, taking the role of
the executive. Although the Board of Appeals of the European Patent Office is an
independent legal authority, it is an integral part.
10 Relations with legal powers will be addressed later in the text.
11 We can, however, emphasize that the interaction between the intellectual property offices
and applicants is such that the latter have a tendency to be treated like clients who must be
satisfied. Additionally, the fact that the budgets of offices are funded by fees of patent holders
can contribute to accepting the requests of patent holders rather than refusing them.
12 Filing fees correspond to administrative fees, research report costs, and include fees for a
patent consultant, if applicable.

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a patent is to allow for the appropriability of returns from the invention in
case of success. When appropriability is already high, the gain supplement
provided by a patent is relatively low and there is a strong chance that it will
be canceled out by the filing fee if that fee is expensive enough. Conversely,
when the appropriability is initially low, the gain supplement provided by a
patent is relatively high and it has a good chance of staying positive once the
filing and processing fees are subtracted. These fees therefore serve to
discourage filing patents on inventions for which the appropriability is
initially high, while encouraging it for inventions whose appropriability is

initially low. This view assumes, however, that appropriability is an
exogenous factor in every invention. In practice, appropriability is
constructed and, more specifically, the ability to exclude competitors is not
totally independent from the inventor. A protection strategy based on
secrecy, for example, can consist in dividing the activity of R&D between
different centers, even different countries, in order to prevent a competitor
from easily copying the invention by poaching researchers. Such a strategy
is costly and, in the presence of a generic patent protection mechanism, the
trade-off could be made in favor of the latter. This means that patents tend to
lessen the excludability effort by other means, such as secrecy or lead time,
and are therefore subject to the moral hazard phenomenon which fuels the
belief that patents would be obtained for inventions that do not require them.
Patents also have another quirk that has long attracted attention: they confer
a market power to their holder, and this power is exercised to the detriment
of the community and must be balanced with the incentives created. From
this point of view, patents (and beyond that, intellectual property rights)
contrast strongly with more classic property rights, such as land ownership
rights.
1.2.3. Patents and their design
The controversy over the merits of patents is old, as it struck most
European countries between 1830 and 1870. Some authors refer back to the
origin of patents to highlight the ambiguities to which they are subject. In
this vein Frumkin [FRU 45], recalled that in different countries of Western
Europe, kings granted privileges (“Litterae Patentes”) in the form of rights

13 Processing fees up to the granting of a patent include the examination fee, official letters
(with professional fees for local agents abroad), the granting fee, a printing fee, and if
applicable, fees for appeals and oppositions.

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to economic exclusivity in very varied domains14. An opposition developed
against these rights, particularly in England, due to the obstacles that they
presented to the freedom to pursue economic activities. Rights protecting
inventions, or more generally the development of new industries, were a
notable exception to this opposition. The Statute of Monopolies adopted in
1624 in England is often considered to be a founding act for the modern
patent system (Holdsworth [HOL 45]), especially because, as highlighted by
Machlup and Penrose [MAC 50], it proposed the idea of granting exclusive
rights to the first inventor. France, in 1791, followed closely by the United
States in 179315, also instituted the patent system for inventors and would be
14 For instance, the French philosopher and mathematician Blaise Pascal obtained the exclusive
rights to produce and sell the first calculating machine that he invented from King Louis XIV in
1649. Starting from the 14th Century, the rights of inventors were subject to the whims of
princes and privileges were granted arbitrarily, until the King of England (James 1st: 1603–
1625) went too far in granting royal monopolies to individuals who were not so much inventors
as favorites of the king, or those who owed him money. Faced with mounting criticisms, the
king accepted parliamentary control over the privileges granted (the Statute of Monopolies of
1624), in an ideological context that supported challenging monopolies. This text revoked all
privileges except those concerning “all manner of new manufacturing in this Kingdom” (Dent
[DEN 09]). Abuses continued nonetheless, which led to the discredit of the institution and its
dismantling by the “Long Parliament” in 1640. The system was reinstituted in 1660.
15 In the United States, patents were enshrined in the American Constitution from the start
and considered to be “the dearest and most valuable rights that society acknowledges”
(Article 1, section 8, of the US Constitution). Khan [KHA 09] shows that, convinced that
individuals respond to incentive measures, the system was systematically calibrated to
promote inventiveness. A comparison between Europe and the United States indicates that

American inventors represented a larger spectrum of the population than in Europe (the
infamous inventor hidden away in the garage) and that the different approach to IPRs affected
the direction and perhaps the pace of their inventive activities, which could explain why the
markets of patent rights prospered more there than in Europe. These observations are
confirmed by models of productivity and economic growth. In the United States, productivity
increases were evident in all fields, even those with a high level of labor force, and the growth
models were balanced. In Great Britain on the other hand, patented inventions were generally
capital-intensive inventions that were also concentrated in a small number of fields, such as
steel or textiles. It is not by chance that British productivity levels were lower and limited to
these few branches and that growth was not balanced. History strongly encourages us to
believe that the design of patent systems is of importance. Nevertheless, these systems are a
part of a set of related institutions, such as the legal system, technology markets and teaching
establishments. If the other institutions do not play their role of cooperation and stimulation, a
patent system can, regardless of how well-designed it may be, end up being ineffective. See
Lundvall [LUN 92] about the role of institutions in the promotion (or not) of innovations.

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