RICHARD C. LEVIN
Yale University
ALVIN K.
KLEVORICK
Yale University
RICHARD R. NELSON
Columbia University
SIDNEY
G. WINTER
Yale University
Appropriating
the
Returns
from
Industrial
Research
and
Development
To HAVE
the incentive to
undertake research and
development,
a firm
must be able to appropriate returns sufficient to make the investment
worthwhile. The benefits consumers derive from an
innovation, how-
ever,
are
increased
if
competitors
can
imitate
and
improve
on the
innovation to ensure
its
availability
on favorable terms. Patent law seeks
to
resolve this tension
between
incentives
for innovation
and
widespread
diffusion of benefits. A patent confers, in theory, perfect
appropriability
(monopoly of the invention)
for a
limited
time
in return
for
a
public
We
are grateful for the support
of the National
Science
Foundation
and especially to
Rolf Piekarz of the NSF's Division of
Policy Research and Analysis.
We also wish to thank the 650
respondents
to
our
survey
and the R&D executives
who
helped us pretest it-especially Ralph
Gomory, Bruce Hannay, and Lowell Steele. Donald
DeLuca, Wendy Horowitz, and other
members of the Roper Center for Survey Research
helped manage the survey. Robert W.
Wilson, and Margaret Blair, Marc Chupka, Emily
Lawrance, Constance Helfat, Andrew
Joskow, Kathleen Rodenrys, Somi Seong, Andrea
Shepard, and Hal Van Gieson also
provided valuable assistance.
783
784
Brookings
Paper-s on
Economic
Activity,
3:1987
disclosure that
ensures, again
in
theory,
widespread diffusion
of
benefits
when
the patent
expires.
Previous
investigations of the
system suggest
that
patents do
not
always work
in
practice as
they do
in
theory.' On
the
one
hand,
appropriability is not
perfect.
Many patents can be
circumvented;
others
provide little
protection
because of
stringent legal
requirements for
proof
that
they are valid
or
that
they
are
being infringed.
On
the
other
hand,
public
disclosure
does not
always
ensure ultimate
diffusion
of an inven-
tion on
competitive terms. For
example, investments
to
establish the
brand name
of
a
patented
product
may
outlive the
patent
itself.2 And
patents may not
always
be
necessary.
Studies
of the
aircraft
and
semiconductor
industries
have shown
that
gaining
lead
time and
exploit-
ing
learning
curve advantages are the
primary
methods of
appropriating
returns. Other
studies have
emphasized
the
importance of
complemen-
tary
investments
in
marketing
and
customer service.3
Evidence
on the nature and
strength
of conditions for
appropriability
and
on the
working of
the
patent system
is,
however,
scattered
and
unsystematic.
Because
imperfect
appropriability
may
lead
to
underin-
vestment
in
new
technology,
and
because
technological
progress
is a
primary source
of economic
growth,
it
would
be useful
to have a
more
comprehensive
empirical
understanding
of
appropriability,
in
particular,
to
identify
those industries
and
technologies
in
which
patents
are
effective
in
preventing
competitive
imitation of
a new
process
or
product.
It
would also be
desirable
to
know
where
patents
can
be
profitably
licensed. Where
patents
are not
effective,
it
would
be useful to under-
stand
why they
are
not
and whether other
mechanisms
are.
1. F. M.
Scherer and
others, Patents and the
Coiporation: A
Report
on
Industrial
Technology
under
Changing Public
Policy,
2d ed.
(privately
published,
1959);
and C.
T.
Taylor and Z.
A.
Silberston, The Economic
Impact of the Patent
System:
A
Stludy
of
the
British
Exper-ience
(Cambridge
University Press,
1973).
2. See, for
example,
Meir
Statman,
"The
Effect of Patent
Expiration
on
the
Market
Position of
Drugs,"
in
Robert B.
Helms, ed.,
Drulgs and Health:
Economic Issues anid
Policy Objectives
(Washington,
D.C.: American
Enterprise
Institute,
1981), pp.
140-51.
3. The
importance of
lead time and
learning
curve
advantages
is documented in
Almarin
Phillips,
Technology and Market
Structure:
A
Study of
the
Aircraft
Indiustry
(Lexington
Books, 1971);
and John
E.
Tilton,
International
Diffuision of
Technology:
The
Case
of Semicondiuctors
(Brookings, 197
1).
For the
importance
of
marketing
and customer
service, see
Marie-Therese Flaherty, "Field
Research on the Link
between
Technological
Innovation
and Growth:
Evidence from
the
International
Semiconductor
Industry,"
working paper
84-83
(Harvard
University,
Graduate School
of Business
Administration,
no
date).
R. C.
Levin,
A. K.
Klevorick,
R.
R.
Nelson,
and S.
G.
Winter
785
This
paper
describes the
results
of an
inquiry into
appropriability
conditions
in
more
than
one hundred
manufacturing
industries.
We
discuss
how this
information
has been and
might
be used
to cast
light on
important issues
in
the
economics of innovation and
public
policy. Our
data,
derived from
a
survey
of
high-level R&D
executives,
are
informed
opinions
about
an
industry's
technological
and
economic
environment
rather
than quantitative
measures of inputs
and
outputs.
Although our use of semantic scales to
assess,
for
example,
the
effectiveness of
alternative means
of
appropriation
introduces consid-
erable
measurement
error,
more
readily
quantifiable
proxies
would
probably not serve
as well.
Remarkable
progress has been
made
toward
developing
a
methodology
to estimate the
economic value of
patents.4
But suitable data are
as yet unavailable
in
the
United
States,
and
European
data lack
sufficiently reliable detail
to support
inferences
about
interindustry
differences
in the value
of
patents.
Ourjudgment
was that
asking
knowledgeable
respondents about
the
effectiveness of
patents
and
alternative
means of
appropriation
was at least as
likely to
produce
useful
answers as
asking for
quantitative
estimates of the
economic
value
of a typical patent.
We
have
taken
considerable
care to
establish
the
robustness of our
findings
in
the
presence
of
possibly
substantial
measurement
error,
but
ultimately the value
of
the data will
depend on their
contribution to
better
empirical
understanding
of
technological
change
and
more dis-
criminating
discussion of
public
policy.
To view the
empirical
contribu-
tion
of
the
data from the
simplest
perspective,
consider
their
potential
for
improving
the
quality
of
research that uses
patent
counts to measure
innovative
activity.5
This line of
inquiry
has
shown,
among
other
results,
that
industries
vary
significantly
in the
average
number of
patents
generated
by
each
dollar of
R&D investment.6
Our
findings
on
industry
4. See,
especially, Ariel
Pakes, "Patents as
Options:
Some
Estimates
of the Value of
Holding
European Patent
Stocks,"
Econometrica,
vol. 54
(July 1986), pp.
755-84.
5.
For a
summary of the
best
of
this
work,
see Zvi
Griliches, Ariel
Pakes,
and
Bronwyn
H.
Hall,
"The Value of
Patents
as
Indicators
of
Inventive
Activity,"
working paper 2083
(Cambridge,
Mass.: National Bureau of Economic
Research,
November
1986).
For
other
perspectives on
the
usefulness of patent
data,
see the
special
issue of Research
Policy,
vol. 16
(August 1987).
6.
F.
M.
Scherer,
"The Propensity to
Patent,"
International
Journal of Industrial
Organization,
vol.
1
(March
1983), pp.
107-28;
and
John
Bound
and
others,
"Who Does
R&D and
Who Patents?"
in
Zvi Griliches,
ed., R&D,
Patents
andPProductivity
(University
of
Chicago
Press for National
Bureau
of
Economic
Research, 1984), pp.
21-54.
786 Brookings Papers
on Economic
Activity,
3:1987
differences in patent effectiveness may help explain
this variation in the
apparent productivity of R&D.
More fundamentally, large
and
persistent interindustry
differences
in
R&D investment and innovative performance have
resisted satisfactory
explanation,
in
part for lack of data
that
adequately
represent the
theoretically important concepts of appropriability
and
technological
opportunity. Promising
but
ultimately
unsatisfactory
results have been
obtained
in
exploratory
work that used crude
proxy
variables and
econometric ingenuity
to
capture
the influence of appropriability
and
opportunity
conditions.7
Our
desire
to
provide
a
stronger
basis
for this
line of inquiry was
a
prominent motive
for our survey research and
helped to shape
its
design.
Finally, gathering
better information on the
nature and
strength
of
appropriability is particularly timely
in
view of
the
prominence
of current
debates
on the
adequacy
of
laws and
institutions
to
protect intellectual
property. One impetus
for
change
has
been
the need to clarify
and
perhaps strengthen
the
system
of
property rights
at
various
new
frontiers
of
technology. Thus,
for
example,
recent
legislation
has
adapted copy-
right law to protect the rights of the creator of new
computer software,
a
new legal framework has been constructed to
protect intellectual
property embodied
in
semiconductor chip designs,
and
important court
decisions and administrative actions
have
shaped
the
development
of a
property rights system
in
biotechnology.8
Another spur
to
change has
been the
need
to resolve conflicts between
the aims of social
regulation
and the exercise of intellectual
property
rights.
For
example,
the
Drug
Price
Competition
and Patent
Term
Restoration Act of 1984
extended
patent
lives of
pharmaceuticals
to
compensate
for
regulatory requirements
that
delay
the introduction
of
new drugs.
7. Richard C.
Levin,
"Toward an
Empirical
Model
of Schumpeterian
Competition,"
working paper 43
(Yale University, School of
Organization
and
Management,
1981);
Richard
C.
Levin
and
Peter
C.
Reiss, "Tests
of a
Schumpeterian
Model of
R&D
and
Market Structure,"
in
Griliches, ed., R&D, Patents and
Productivity, pp. 175-204;
and
Ariel Pakes and
Mark Schankerman, "An
Exploration into the Determinants of
Research
Intensity," in
Griliches,
ed., R&D, Patents and
Productivity, pp. 209-32.
8. See
Computer
Software Act of
1980;
Semiconductor
Chip
Protection
Act
of
1984;
Diamond v.
Chakrabarty, 447 U.S. 305 (1980),
holding
that
plant
and animal
life is
patentable under
U.S. patent law; and
D.
J.
Quigg,
memorandum of
April 7,
1987,
explaining the
policies of the U.S. Patent and Trademark Office
concerning applications
to patent life
forms.
R.
C. Levin,
A. K.
Klevorick, R.
R.
Nelson, and S.
G. Winter
787
Intellectual
property rights
also
figure
prominently
among
policy
issues
milling under the
banner of
competitiveness.
Recent
annual
reports of
the U.S.
trade
representative
have
focused on
the
difficulties
U.S.
manufacturers encounter
in
protecting
intellectual
property
rights
in
foreign
markets.
The trade bill
passed
in
1987
by
the
House
of
Representatives contains
several
provisions
that
increase the
scope of
protection
and the
opportunities for relief
available to U.S.
manufactur-
ers
confronted
with
imports
that
infringe
these
rights.9
Proposed
antitrust
legislation,
motivated by
a
concern that courts
have
kept
inventors
from
reaping
rewards that
patent
laws are
intended to
provide,
stipulates
that
patent
license
agreements
and similar
contracts
relating
to use
of
intellectual
property
"shall
not be deemed
illegal
per
se under
any
of the
antitrust
laws."
10
To the extent
that
all this
activity
attempts
to
rectify
obvious
inade-
quacies
in
existing
institutions,
the case for
reform
appears
strong
and
straightforward.
It
is
easy
to
deplore
the blatant
copying
of
innovative
integrated
circuit
designs,
the
importation
of
"knock off"
copies
of
trademarked
or
patented
U.S.
products,
and the
piracy
of
copyrighted
written
matter and
audio and video
cassettes.
But
reforms
may yield
unintended
consequences.
In its
simplest
form,
this
concern translates
into wariness about
Trojan horses:
provisions
brought
into the
law
by
the rhetorical
tug
of
"competitiveness" and
"intellectual
property"
may
harbor
instruments of
protectionism
and
price
fixing.
Other
potential
consequences
are subtler but
no less
important.
For
example,
seemingly
uniform
adjustments
of
intellectual
property,
antitrust,
or trade
law
may
affect some
industries quite
differently
than
others.
And it
should not be
taken
for
granted
that
more
appropriability
is
better,
that better
protection
necessarily
leads to
more
innovation,
which
yields
better
economic
performance-higher standards of
living,
better
competitiveness,
and
so
on.
Better
protection
may yield
more
innovation
at
the
cost of
incrementally
increasing
resources
devoted to
producing
the innovation: the
larger prize
may
merely
encourage duplicative
private
effort to
capture
it."I
Alternatively,
better
protection
may
induce
inno-
9. See
H.R. 3, the
Omnibus Trade and
Competitiveness
Reform Act
of
1987, which is
currently
under
consideration by a
House-Senate conference
committee.
10. H.R.
557 and S.
438,
100
Cong.,
1
sess.
11. This
is the "free
access"
externality, first
emphasized
in
the context of
innovation
in
Yoram
Barzel, "Optimal
Timing
of
Innovations," Review
of
Economics and
Statistics,
vol. 50
(1968), pp. 348-55.
For a survey
of the
literature on patent
races, see
Jennifer