[Economic Report of the President (2006)]
[Administration of George W. Bush]
[Online through the Government Printing Office, www.gpo.gov]


 
CHAPTER 10

The Role of Intellectual Property
in the Economy

Certainly an inventor ought to be allowed a right
to the benefit of his invention for some certain time.
It is equally certain it ought not to be perpetual;
for to embarrass society with monopolies for
every utensil existing, and in all the details
of life, would be more injurious to them than
had the supposed inventors never existed...
How long the term should be is the difficult question.

-- Thomas Jefferson, 1807

The founders of this country believed that intellectual property was
so important that one of the specific grants of power to Congress
under Article I, Section 8 of the Constitution was the power "To
promote the Progress of Science and the useful Arts, by securing for
limited Times to Authors and Inventors the exclusive Right to their
respective Writings and Discoveries." This grant gives Congress the
power to define and to protect intellectual property through measures
such as the issuance of patents and copyrights.
Other powers granted to Congress by Article I, Section 8 of the
Constitution include taxation, regulating interstate commerce,
coining money, borrowing, and naturalization. (For more on the
early history of intellectual property rights in the U.S. see
Box 10-1.)
Economic research over the past two centuries confirms the Founders'
wisdom regarding the importance of intellectual property. This
chapter examines how intellectual property differs from other, more
tangible, forms of property, the justification for having a formal
system for its protection, and its role in economic growth. The
chapter also looks at certain policy challenges in ensuring that
intellectual property protection continues to promote U.S. economic
growth and development. The key points of this chapter are:
Intellectual property rights create incentives for
individuals and firms to invest in research and development,
and to commercialize inventions and other creations by
allowing individuals and firms to profit from their creative
activities.
Well-defined and enforced intellectual property rights are an
important element of the American economy and can contribute
to the economic growth of all countries.
The Administration continues to vigorously enforce the laws
that protect the rights of American intellectual property
owners.

Knowledge Is Different from Other Types of Goods

Economists generally recognize that intellectual property (such as
knowing how to make bread) differs from physical property (such as a
loaf of bread) in two basic attributes:
1.   Can more than one person use the good at a time? Physical
property, like a slice of bread, can be effectively used for
only one purpose at a time, and that use precludes other
uses. For instance, a slice of bread used to make a ham
sandwich for one person cannot be used to make a grilled
cheese sandwich or a ham sandwich for another person. This
makes bread a good that is rival in consumption, which means
that one use or one person's use of the product partially or
wholly prevents another use or another person from using it.
2.   Can other people be effectively prevented from using the
good? The owner of physical property, such as a slice of
bread, can prevent others from using that slice with relative
ease. This makes physical goods like bread excludable, which
means that others can readily be prevented from using the
good.
Something that could be intellectual property, such as bread-making
knowledge, differs from physical property in both of these
attributes. Unlike a slice of bread, any person can use bread-making
knowledge without diminishing the practical usefulness of that
knowledge to anyone else. This makes bread-making knowledge, like all
knowledge, a good that is nonrival in consumption.
In addition, it is very difficult to exclude others from using
knowledge such as the knowledge of bread-making once it is created
and publicized. If someone wanted to reap the economic rewards for
his creation of such knowledge, his only option may be to not
disclose the information at all. Even this approach may not be
sufficient if others take active measures, such as reverse
engineering, to learn how the knowledge was used to produce a
product. Once others learn such knowledge, the person who developed
it will be unable to prevent others from using it. Under the rules
that apply to physical property, this makes knowledge a nonexcludable
good.
Most knowledge also differs from physical goods in that the costs of
developing knowledge are upfront, fixed costs that do not vary with
the number of times the knowledge is used. Once it is produced,
knowledge can be replicated repeatedly at effectively no cost. For a
firm to have an incentive to create new forms of knowledge, such as
a formula for a new drug or a software program, it must be able to
recoup its initial costs of development. It may not be able to do
this if the knowledge becomes publicly available and competition
forces prices down to the level at which they reimburse the seller
only for the material costs of the products produced using this
knowledge.
Treating Knowledge as Intellectual Property
Because knowledge is nonrival in consumption and nonexcludable, any
person who incurs the fixed cost of developing a new or better
product or process will soon find that others, including competitors,
are using that knowledge. Competition could drive the price of the
product down to the cost of the physical inputs used to make one unit
of the product. The innovator would receive little or no financial
return for paying the cost and undertaking the risk involved in
developing such knowledge. Without the potential to profit from such
innovation, most individuals will be unwilling to incur the fixed
costs and financial risks associated with creating new knowledge.
This is not to say that there is no innovation without the potential
for profit. Some innovations might occur as a by-product of the
normal production process. Other innovators might still invest in
research and development but try to prevent the use of their
discoveries by keeping them secret. For many types of innovations
this is likely to be costly and ineffective. However, if innovators
cannot control the knowledge they have developed, they are
significantly less likely to invest in developing such new knowledge.
An intellectual property system creates an incentive to develop
certain types of knowledge by granting exclusive rights, enforceable
through government action and a well-functioning legal system, to use
that knowledge. These exclusive rights enable individuals to profit
from their inventions by excluding others from using the innovation.
Most intellectual property systems offer innovators an exchange. The
innovator is given the right to exclude others--for a limited
time--from the use of the innovation, but must provide the public with
the complete details of the innovation. This public disclosure
furthers the development of the knowledge base by enabling others to
build on the knowledge embodied in the intellectual property and
avoids the duplication of research efforts.
The Social Costs of an Intellectual Property System
Social costs could arise from making intellectual property protection
too strong. These costs go beyond the obvious bureaucratic costs of
intellectual property systems. Economics tends to focus on two of
these social costs: the potential for creating monopoly power and the
restrictions on exploiting useful technologies.
______________________________________________________________________
Box 10-1:  Intellectual Property in the Early American Republic

While the phrase "intellectual property" is the product of more
modern times, the concept in American thought harkens back to the
Constitution. The gradual recognition of intellectual property rights
in early America predates the Constitutional Convention, where it was
formalized in the Constitution. By 1787, every state but one had
passed copyright laws and many had already begun granting patents to
inventors. Two delegates to the Constitutional Convention of 1787,
James Madison and Charles Pinckney, were ardent advocates of
assigning copyrights and patents to promote and protect the rights
of the authors and innovators. The Framers of the Constitution
assented to giving Congress its mandate in Article I, Section 8 to
"promote the Progress of Science and useful Arts."
This is not surprising. The founders, among them Jefferson and
Franklin, were deeply influenced by the British common law system
and the preeminence of scientific achievements throughout the Age
of Enlightenment. Copyright and patent rights in early America, while distinguishable from their English predecessors, were justified on
the same basic premise that defense of property rights precipitated
economic growth. George Washington noted in his first inaugural
address that the ownership of intellectual property is a necessary
means of encouraging "exertions of skill and genius" to foster
technological development.
Article I, Section 8 (Clause 8) provided the necessary authorization
for Congress to extend intellectual property rights in the form of
the patent statutes of 1790, 1793, 1800, 1836, and 1839 that were in
effect until the Civil War period. Manufacturing productivity at the
firm level in early nineteenth-century America has been documented
to have varied directly with the level of patent protections afforded
to inventors.  Spurred by their belief in individual enterprise and
the maximization of social returns through private protections, the
early policymakers of the American Republic were prescient in their
recognition of the importance of intellectual property rights in a
market economy.
_______________________________________________________________________

As Thomas Jefferson noted in the passage quoted at the start of this
chapter, the power to exclude, depending on its length, has the
potential to create monopoly power. Modern economic analysis supports
this conclusion. The holder of intellectual property has a monopoly
over the use of that intellectual property, but this control may not
result in monopoly power in any meaningful sense. The potential for
monopoly power is related to the breadth and length of the power to
exclude others from making use of the intellectual property. If this
power is narrow or for a short duration, others can enter the market
and compete in a timely manner, and the innovator will have little
or no market power. Overly long or broad grants of exclusivity
potentially limit the ability of others to compete and create a
greater possibility of market power.
Economic research over the past two decades suggests that another
social cost of an intellectual property system is that the power to
exclude may deter others from advancing the state of knowledge by
building on protected intellectual property since permission to use
the property may be too expensive or may not be granted. Finally,
the expiration of intellectual property protection after a specific
time period may also spur firms to continue to innovate to ensure
continued market success.

Intellectual Property Rights Basics

Intellectual property protection allows individuals to profit from
their innovative or creative activities thereby creating an incentive
to innovate and promote technological progress. Balanced against this
benefit are the potential costs of giving the innovator monopoly
power and limiting the ability of subsequent innovators to build on
that invention. In crafting the existing intellectual property laws,
Congress and the states have considered these associated costs and
benefits and have granted differing levels of protection for four
basic types of intellectual property: patents, copyrights,
trademarks, and trade secrets. In recognition of the potential social
costs of intellectual property protection for some kinds of
knowledge, Congress has refused to allow individuals to claim
intellectual property protection for certain types of knowledge.
The boundary between what can and cannot be protected is sometimes
difficult to define. However, it is generally understood that
intellectual property rights cannot protect things like intellectual
concepts, mental processes, and basic laws of nature. While many
justifications have been offered for these exclusions, one possible
explanation, consistent with an economic understanding of the social
costs of intellectual property, is that allowing ownership of any of
these types of knowledge will create broad restrictions on innovators
and will slow technical progress. To prevent stifling of innovation,
intellectual property rights are granted only after fulfilling
specific legislatively defined criteria and protect only a particular
implementation, expression, or representation of an idea.

Patents: Protecting a Particular Implementation of an Idea
Thomas Jefferson wrote the original statute defining what may be
patented. The language was brief and has changed little since the
passage of the original patent act. "[A]ny new and useful process,
machine, manufacture, or composition of matter, or any new and useful
improvement thereof" may be patented. Patents protect what is
normally called an invention but not the idea the machine or process
is implementing.
The Constitution grants Congress the power to establish the
requirements an inventor must satisfy before a patent is granted.
Under current law, Congress requires that an inventor submit plans
describing the invention to the United States Patent and Trademark
Office (USPTO). To be granted a patent, the invention or innovation
must satisfy a patent examiner under a "preponderance of the evidence
standard" that the invention is useful, novel, and nonobvious. Once
a patent is granted, its holder can exclude others from making,
selling, or using the patented invention or substantially similar
inventions for up to a Congressionally mandated 20 years after the
patent application was initially filed. (A subset of patents called
"design patents," which protect an ornamental design of a product,
provide patent protection for only 14 years.) The scope of this right
to exclude depends on the legitimate breadth of the patent's claims.
In general, the more novel and innovative a patented product is, the
broader are its claims and its protection.
Copyrights: Protecting the Expression of an Idea
Copyrights protect a particular expression of an idea and are
generally associated with a variety of creative works including
books, music, movies, magazines, paintings, sculptures, and any other
expressive work. The key factor for obtaining a copyright is
originality, and only a minimal amount of that is necessary.
Registering a work with the Copyright Office in the Library of
Congress provides some important litigation benefits -- including the
ability to obtain monetary damages when suing for infringement -- but
such registration is not necessary. A copyright exists the moment
an expressive work is created and, except for work for hire, becomes
the property of the author creating the work.
A copyright entitles the holder to exclude others from performing,
publishing, or otherwise copying the work. It also entitles the
holder to exclude others from producing "derivative works," such as
a movie adaptation of a book or its translation into a foreign
language. Copyright protection generally lasts the life of the author
plus 70 years.  In the case of work for hire or anonymous works,
copyright lasts 95 years from publication or 120 years from creation,
whichever is shorter.

Trademarks: Protecting the Symbol of an Idea, Product, or Service
Trademarks can be words, phrases, designs, colors, sounds, or any
combination of these that are used to distinguish the products or
services of one entity from those of another. Trademarks reduce
consumer search costs because they make it easier for consumers to
identify and find products and services. Trademarks also protect
consumers by providing an assurance of quality or attributes that
can be expected with the trademarked product. Because the key
function of a trademark is to uniquely identify a company, a product,
or a service, the qualifying factor for a trademark is
distinctiveness. Generic terms for a product and, in some cases,
even descriptive terms cannot be a trademark.
Trademarks do not have to be registered with the USPTO but such
registration provides the benefit of a legal presumption of
nationwide ownership and exclusive right to use the mark for the
goods or services identified in the registration. However, a
trademark only becomes intellectual property when it is used in
commerce to identify a product, service, or company. Trademarks
give the holder the ability to exclude others from using that mark
to identify any similar product and, in some cases, exclude others
from using their mark if that use dilutes or weakens consumer
association of the product or service with that mark. Validity of
the trademark lasts as long as the trademark continues to identify
the product or the company, which in some cases may be for centuries.
The oldest U.S. registered trademark still in use today is for Samson
Rope and was registered in 1884. However, trademark protection may be
lost if the mark becomes associated with a product generically rather
than a particular brand as occurred with the term "escalator," which
was once a trademark for escalators sold by the Otis Elevator company.

Trade Secrets: Limited Protection for Knowledge
Kept Secret
Trade secrets consist of any information possessed by a firm that the
firm takes reasonable measures to keep secret, is legitimately kept
secret, and has commercial value because it is secret. This
information may include information that could be protected as other
forms of intellectual property but also includes knowledge that
cannot be so protected, including customer lists, contracts, and
other information whose value is diminished if it becomes publicly
available.

Trade secrets are not formally protected in the way other
intellectual property is protected. Protection is provided under
state, rather than Federal, law.  For example, protection occurs
through the enforcement of the firm's confidentiality provisions in
contracts and the use of the legal system to block those who have
improperly or illegally obtained a firm's trade secrets from using
or disclosing them. In general, however, a firm has no legal recourse
to prevent others from using its trade secrets if they become
publicly available. Trade-secret protection lasts only as long as the
firm can maintain secrecy. One of the most successful trade secrets
in this regard is the formula for Coca-Cola.

Intellectual Property, the American Economy, and Economic Growth

Intellectual property played an important role in the growth of the
American economy from a primarily agrarian society through an
industrial economy to the current information age. One researcher
notes that even in the early part of the nineteenth century, the
American patent system granted effective intellectual property rights
that led to the development and diffusion of new technologies that
fueled economic growth and prosperity. Today intellectual property
protection plays an important role in many industries in which the
United States has a comparative advantage and contributes to the
size, growth, and exports of the American economy.

Intellectual Property and the American Economy
Industries such as chemicals, pharmaceuticals, information
technology, and transportation are highly dependent on patent
protection to provide the incentives to innovate. Some industries,
such as software, entertainment, publishing, broadcasting, and other
broadly defined communication industries, are highly dependent on
copyright protection to ensure that the creators of such content are
fully compensated for their efforts and continue to have the
incentive to create such works. The combination of these patent and
copyright-dependent industries and any such support industries that
are necessary for these industries to function can be grouped
together as intellectual property industries. Chart 10-1 shows the
total economic activity generated by this group of industries. In
2003, these industries represented approximately 17.3 percent of
total U.S. economic activity and approximately one-fifth of private
economic activity. Their combined activity exceeds the total economic
activity of all levels of government in the United States.
The estimate in Chart 10-1 represents the income generated in
intellectual property industries. Equally important is the stock of
intellectual property assets that generates these returns.
Intellectual property is one of many intangible assets a firm may
hold. Other intangible assets include brand value, organizational
efficiencies, and firm-specific human capital. It has been
estimated that approximately 70 percent of the value of publicly
traded companies comes from intangible assets.



Chart 10-2 shows the total asset value of U.S. publicly traded firms
broken out by the value of tangible assets, the value that can be
inferred for various types of intellectual property, and the value
of other intangible assets.  Intellectual property accounts for
approximately 33 percent of the value of U.S. corporations -- with
software and other copyright-protected materials representing nearly
two-fifths of this value, patents representing one-third, and trade
secrets representing the rest. In all, U.S. intellectual property
may be worth more than $5 trillion.
The one type of intellectual property excluded from the estimate in
Chart 10-2 is trademarks. While there is no doubt that trademarks
represent an important element of any firm's assets, it is difficult
to separate the value of a trademark from the value of the rest of
the value of branding. However, the sources used to create Chart
10-2 also suggest that the combined value of branding and trademarks
represents approximately 14 percent of the total value of publicly
traded U.S. firms. In some instances, this value may be a company's
most important asset.

Other studies have indicated that intellectual property-related
industries tend to grow at approximately twice the rate of the
economy as a whole and are an important contributing factor not only
to the productivity growth of the intellectual property-related
sectors of the economy but also to the growth of all sectors of the
economy. These industries also represent a growing share



of exports. Chart 10-3 shows the annual growth rates for the exports
from U.S. copyright-based industries from 1991 to 2002. In all but
one of those years (1995), exports from copyright industries grew at
a faster rate than total exports. Indeed, on average, U.S. copyright
exports grew faster by approximately six percentage points than total
exports and have become an increasing share of our total exports.
This analysis, however, obscures an important point about the role of
intellectual property in the economy and undervalues its
contribution. There are many industries that are not counted among
the intellectual property industries but generate innovations and
rely on patent and other intellectual property protection to create
incentives for innovation and growth. More importantly, many
innovations from the past have led to significant productivity
advances in industries such as medicines, textiles, railroads, steel
manufacture, and farm equipment. The capital value of these
innovations was dissipated as the intellectual property protecting
these innovations expired and the innovative knowledge and
information entered the public domain.  Even after these innovations
become public knowledge, however, the country still benefits from
the productivity gains the innovations produced. Any complete
consideration of the overall importance of intellectual property
to the American economy should include the value of these advances.
Such a consideration is beyond the scope of this chapter but would
suggest that the



estimates discussed above underestimate the importance of
intellectual property to the American economy.
Intellectual Property Protection and Economic Growth
The protection of intellectual property rights plays an important
role in inducing technological change and facilitating economic
growth. Intellectual property protection does not directly lead to
growth, but it helps create an incentive structure that encourages
research and development, which in turn leads to increased
innovation. Increased innovation generates greater rates of economic
growth.
The link between improved intellectual property protection and
increased innovation can be seen at the firm level for companies in
developing and developed countries. One study showed that 80 percent
of 377 firms surveyed in Brazil would invest more in internal
research if more legal protection, such as improved intellectual
property-right protection, were available. A similar study of U.S.
firms showed that the availability of patent protection in the United
States was a critical factor in research and development decisions.
Using a random sample of 100 U.S. manufacturing firms, this study
found that had it not been for the availability of patents, 60
percent of the inventions in the pharmaceutical industry and nearly
40 percent of the inventions in the chemical industry would not have
been developed.
A number of other recent economic studies have shown a more direct
link between greater intellectual property protection and capital
investment. One study of the relationship between patent protection
and investment in research and development found that countries with
the lowest level of patent protection invested less than one-third
of 1 percent of their GNP in research and development while countries
with the highest level of protection invested six times as much.
Likewise, another study suggests that increasing intellectual
property protection increases capital and research investment. As
intellectual property protection makes investment in research and
development more attractive, the supply of knowledge is increased,
lowering the cost of innovation. The increase in innovation leads to
an increase in the rate at which new products are introduced,
resulting in greater economic growth.
Intellectual property protection alone does not drive economic
growth.  There must be an existing research base in the country, a
relatively unconstrained trade regime, a stable macroeconomic
environment, the rule of law, and well-functioning institutions that
grant, monitor, and enforce the intellectual property rights.
Intellectual Property Policy Challenges
Technological and economic change sometimes expose weaknesses in
existing intellectual property laws and necessitate modifications of
those laws to ensure their continued effectiveness in protecting
intellectual property and ensuring economic growth. The
Administration has continually reviewed and implemented policies to
improve the intellectual property laws to ensure the efficiency of
the patent review process, to protect the intellectual property of
American firms engaged in international trade, and to prevent
potentially dangerous counterfeit products from entering U.S. and
foreign markets.
Ensuring the Integrity of the Patent Process
As noted earlier, patents have broader protection than copyrights or
trademarks and, of these three, patents have the only formal review
process prior to being granted. The effectiveness of the patent
system in fostering technical progress and economic growth is tied
to the efficiency of this review process.  Patents granted in error
may create market power without any offsetting benefit of inducing
innovation. If a patent increases the cost of using existing
technology, it may deter innovation or simply cause a firm to use
a less-efficient technology. In 2004, the USPTO issued 187,170
patents. Occasionally a very small percentage of patents are
challenged or overturned, and it is this particular process within
the patent system that is examined below.
Challenging a patent's validity can be costly and time-consuming.
Estimates suggest that median litigation costs average $4 million
each for the plaintiff and defendant when more than $25 million is
at stake in a patent suit. Research has found that on average it
takes approximately three and a half years to challenge a patent
through litigation and that the typical patent challenge is initiated
after the patent has been in force for approximately eight and half
years. An unwarranted patent could be in force for more than twelve
years of a twenty-year term before the legal system would find it to
be invalid.
Challenging a patent's validity can also be financially risky.
Generally a firm cannot sue to have a patent invalidated. It must
first infringe on that patent, wait for the patent holder to sue,
and then claim patent invalidity as a defense to infringement. Firms
that do this incur a great financial risk because intentional
infringement of a patent may result in triple damages. Patents are
presumed to be valid and an accused infringer must prove it is
invalid by "clear and convincing evidence" to overturn this
presumption. This is greater than the burden that a patent
application must satisfy before a patent is issued. Despite the
hurdles faced by a firm challenging the validity of a patent,
researchers have found that 46 percent of the fully litigated patent
challenges between 1989 and 1996 ultimately resulted in the patent
being judged to be invalid.
In recent years, businesses and commentators have noted substantial
increases in the number of patent applications received by the USPTO.
This trend, combined with an increased availability of patents in
areas such as business methods, has led some to question whether
wrongly issued patents might affect the competitiveness of the U.S.
economy. Patent policy can foster innovation, but must also be
balanced with the consumer protection provided by competition in the
marketplace.
Because of increased interest in how best to balance patent and
competition interests, in 2002, the Federal Trade Commission (FTC),
together with the Antitrust Division of the Department of Justice
(DOJ), held extensive hearings with testimony and written comments
from investors, entrepreneurs, antitrust organizations, and scholars.
While hearing participants praised many aspects of the current patent
system, many participants expressed concerns about poor patent
quality and legal standards that may inadvertently create market
power and reduce innovation.
In 2003, the FTC issued a report based on the information gained in
the hearings conducted in the prior year. This report contained
several recommendations to alleviate the problems discussed above.
Two of these recommendations were also supported by a subsequent
report issued by the National Academy of Sciences.
The first recommendation was to create an administrative post-grant
appeal procedure that would allow firms to challenge the validity of
a questionable patent within a limited period after it has been
issued. This procedure could significantly shorten the time period
in which a wrongly issued patent is in force and reduce the risk of
some patent challenges. The second recommendation was to reduce the
firm's risk of triple damages in cases in which firms infringe a
patent with knowledge of that patent. This change would encourage
firms to read their competitors' patents more frequently, to develop
noninfringing business plans, and to reduce wasteful duplication of
effort.
Intellectual Property and International Trade
As intellectual property became a more important element of
international trade starting in the 1980s, differences in the level
of protection for intellectual property across various countries
started to lead to an increasing number of trade disputes about the
use and alleged misuse of the intellectual property belonging to
others. These trade frictions had the potential to disrupt the
benefits of increased worldwide trade. In the Uruguay Round of trade
negotiations from 1986 to 1994, the members of the World Trade
Organization (WTO) negotiated an agreement to introduce more order
and predictability into the international protection of intellectual
property rights. The WTO Agreement on Trade-Related Aspects of
Intellectual Property Rights (TRIPs) is the first comprehensive and
enforceable global set of rules covering intellectual property rights.
The TRIPs Agreement helps alleviate trade frictions by reducing
nontariff trade barriers related to differing intellectual property
protection regimes and by setting minimum intellectual property
rights standards for all WTO members. The agreement established
transparency standards that require all members to publish laws,
regulations, judicial decisions, and administrative findings that
affect the treatment of intellectual property. The agreement also
requires nondiscrimination between nationals and non-nationals and
for the first time applies the Most-Favored Nations (MFN) obligation
(prohibiting discrimination across trading partners) to international
intellectual property rights.
The TRIPs Agreement took effect in 1995, but only industrialized
countries had to ensure that their laws and practices conformed to
it by January 1, 1996. Developing countries and transition economies
were given five years, until 2000, and the least-developed countries
were given 11 years, until 2006 to comply. The 2006 deadline
applicable to least-developed countries was recently extended to 2016
for pharmaceutical patents and July 2013 for other obligations.
Questions remain, however, about the extent to which some developing
countries are in compliance with their TRIPs obligations, and many
least-developed countries are unlikely to be in full compliance by
July 2013. In addition, many developed countries have implemented a
variety of cost-containment efforts that greatly reduce the value of
intellectual property. Thus, an apparent strong patent protection
stance may, in fact, not be a completely accurate representation, at
least across all industries. Consequently, the level of intellectual
property-rights protection varies across countries.

Developing Countries Tend to Have Weaker Intellectual Property
Regimes
Economists have developed a number of indices to determine the
strength of various countries' intellectual property protection
regimes. While the results of the research using these indices are
not uniform, they suggest that the level of intellectual property
protection increases with a country's real gross domestic product
per capita. Economists have offered some explanations for this
relationship. Rising income increases the demand for higher-quality,
differentiated products. This increase in demand leads to growing
preferences for the protection of intellectual property, such as
patents, copyrights, and trademarks, which provide an innovator with
certain protections when producing such products.
Countries with lower per capita gross domestic product may prefer
intellectual property regimes with little or weak intellectual
property protection because they believe it allows free access to
information that would otherwise have to be paid for. These countries
may also believe that lack of intellectual property protection allows
them to access technological development through imitation and
domestic efforts to build upon the existing stock of worldwide
knowledge. However, the lack of intellectual property protection may
slow development in these countries by inhibiting the development of
domestic innovative and creative industries that generate much of
the economic growth in more-developed countries. Furthermore, the
ubiquity of counterfeit products that is generally associated with
weak intellectual property protection may have health and safety
implications because it is difficult for consumers to be certain of
the origin and efficiency of medicines, machine parts, and other
critical products.
Countries like the United States, with greater levels of intellectual
property protection and with comparative advantages in
knowledge-intensive goods and services, place a high priority on
intellectual property-rights protection.  Most indices of the
strength of intellectual property protection tend to show that the
United States is among the countries with the highest level of
protection. More objective measures also suggest that the United
States has a comparative advantage in knowledge-intensive goods. The
United States holds one of the highest shares of global patents and
has a trade surplus in intellectual property-dependent services and
in royalties and license fees.
Economic Costs of Intellectual Property Theft in Foreign Markets
Theft in foreign markets of intellectual property belonging to
American companies is significant. In China alone, industry estimates
suggest that in 2003 and 2004 the piracy rate was 90 percent or more,
which means that at least 90 percent of the existing copies of a
particular work (such as CDs and DVDs) in China were produced without
the copyright holder's permission.  Industry estimates show that the
piracy rates in Latin America were more than 60 percent and the
global software piracy rate was approximately 35 percent.  Some of
these pirated copies are exported to the United States. Piracy is an
especially serious problem for American companies because of the
strong comparative advantage they hold in intellectual
property-related goods.
Turning these estimates of piracy rates into estimates of lost
revenues involves consideration of two factors: (1) how many copies
would have been sold by legitimate producers in the absence of the
pirated copies, and (2) the price that would have been charged for
those copies. Without the competition from pirated copies, the
legitimate holder of the copyright might have been able to sell the
product for a higher price and earn higher revenues. In addition,
because pirated products are generally sold at a much lower price
than what a legitimate producer charges, fewer copies might have
been sold if consumers had to pay the higher prices for the
legitimate copies. Many estimates assume that sales of intellectual
property-protected goods would correspond to the current sales of
the infringing goods. Under this assumption, industry estimates
suggest that in 2004 software piracy alone cost U.S. developers at
least $6.6 billion.

Preventing Global Intellectual Property Piracy

The Administration is strongly committed to addressing the issues of
piracy (unauthorized copies of copyrighted materials) and
counterfeiting (unauthorized reproduction of trademarked or patented
goods) without sacrificing the benefits to be gained through trade
and specialization. To accomplish these goals, the White House
initiated the Strategy Targeting Organized Piracy (STOP!) in October
2004. The STOP! initiative brings together nine federal agencies,
including the Office of the U.S. Trade Representative, the Department
of Commerce, the Department of Justice, the Department of Homeland
Security, and the State Department. Under STOP!, these agencies and
departments have and continue to develop new tools to help U.S.
businesses better protect their intellectual property, increase
efforts to seize counterfeit goods at our borders, pursue criminal
enterprises involved in piracy and counterfeiting, and aggressively
engage our trading partners to join our efforts. Through STOP!, new
forms of federal assistance are being provided to U.S. companies,
increased law enforcement resources are being provided, and the
Administration has developed an international law enforcement network
to increase criminal enforcement abroad.
Domestically, the Department of Justice has created a Task Force on
Intellectual Property and increased from 5 to 18 the number of
Computer Hacking and Intellectual Property Units in U.S. Attorneys'
Offices across the country. This increased to 229 (one in each
Federal district) the number of specially trained prosecutors
available to focus on intellectual property and high-tech crimes.
Internationally, the United States has conducted several hundred
intellectual property rights enforcement and technical assistance
projects around the world. The Administration has established a
"Global Intellectual Property Rights Academy," located within the
USPTO, to consolidate and expand intellectual property training
programs for foreign judges, enforcement officials, and relevant
administrators. These programs are designed to foster respect for
intellectual property, encourage governmental and rights holders'
efforts to combat infringement, and promote best practices in the
enforcement of intellectual property rights. The Administration is
also expanding its intellectual property attachï¿½ program at our
embassies in China, India, Brazil, and Russia. These attachï¿½s will
assist American businesses, advocate U.S. intellectual property
policy, and conduct intellectual property rights training. STOP!
objectives have also been endorsed in numerous multilateral forums
including the G-8, Organization for Economic Cooperation and
Development, the U.S.-EU summit, and Asia-Pacific Economic
Cooperation sphere.
The Administration also created a new senior-level office of the
Coordinator for International Intellectual Property Enforcement.
This office will coordinate the strategies of the Federal Government
to use its capabilities and resources to provide an internationally
secure and predictable environment for American intellectual property.

Technological Change and Intellectual Property Reform
As technology has advanced, it has become cheaper for legitimate
producers to produce many types of intellectual property-related
products, including medicines, CDs, DVDs, automotive and airplane
parts, and other products.  Technology also holds the promise for
new, more efficient means of distribution of intellectual
property-related products, including digital music and video
content. Producers of these products have a great opportunity to
take advantage of changing technologies and a great challenge to
limit the use of these technologies to legitimate producers of these
products. Based on current distribution preferences, intellectual
property holders have lost some control over the distribution of
their products.
There are many manifestations of this loss in control. For instance,
some peer-to-peer networks provided technology that enabled
individuals to freely download copyrighted music from the computers
of other individuals on these networks. Moreover, current technology
can less expensively and more faithfully reproduce some intellectual
property-protected materials than previous technologies could. These
illegal copies are difficult to detect. In the United States and
internationally, this has resulted in a significant increase in the
production and sale of counterfeit products. These counterfeit copies
may directly harm consumers through the sale of fake medicines and
defective products, such as batteries, automobile parts, and airplane
parts. Furthermore, in the long run, counterfeiting harms all
consumers by reducing the profitability of and the incentive to
produce new and interesting innovative products and creative works.
______________________________________________________________________
Box 10-2:  The Free Software Licensing Movement

In the early stages of computing, a number of software developers
wanted to put their work in the public domain, but also wanted to
prevent individuals who modified the software from limiting its
accessibility. This resulted in the development of free software
licensing, sometimes called open source, wherein software is licensed
for free use and modification but requires that any subsequent
modifications also remain available for free use and modification
by others. Many of the developers of free, or open-source, software
are individuals in academic environments where open and cooperative
development projects are especially important. Others are hobbyists
or companies that are in the business of providing computing support
services to third parties.
General Public Licenses (GPLs) and other free software licenses
differ from traditional commercial licenses by granting to their
users the freedom to run, study, improve, and redistribute copies of
the program.  A GPL uses traditional copyright law to ensure that
these freedoms are retained in derivative works by requiring those
works to also be licensed under GPL terms. Many advocates of these
types of licenses believe that they increase network benefits by
creating a pool of commonly accessible work and requiring any
improvements made to the original software code to be contributed to
that pool. These advocates believe that by having an unlimited
number of developers viewing the source code and working to modify
and improve it, the quality and testing of software are improved.
GPL licensees are permitted to charge for copying or distribution of
their works. Further, nothing prevents software from being licensed
under both GPL and traditional licensing. Dual-licensing was
developed to respond to consumers of free software who were unwilling
or unable to accept the reciprocity requirements of an open-source
license and were willing to pay to avoid them. Open-source licensing
such as GPL licenses is just another business model of software
development that has been embraced by such companies as Sun
Microsystems, Intel Corporation, and IBM.
Traditional and open-source development models currently compete in
the market. Different developers are motivated by different aims and
have different target customers. A system that neither favors nor
discourages either licensing model would best serve a market
consisting of diverse customers and developers. Competition on a
level playing field would ensure that the better licensing system
becomes the most successful. If each system has different advantages,
it is likely that both systems will survive and find success.
______________________________________________________________________

In November 2005, the Administration forwarded proposed legislation
to Congress that would implement some of the changes necessary to
respond to these technical developments. The Intellectual Property
Protection Act of 2005 would strengthen intellectual property
protection, toughen penalties, and increase the range of
investigative tools in both criminal and civil intellectual
property-law enforcement.
In the past, it might not have been necessary to sanction criminally
certain types of actions because they had little impact on the level
of the counterfeiting of intellectual property. For instance, while
there are criminal sanctions for selling a counterfeit good, there
are no criminal sanctions against giving it away. It has only
recently become profitable for a company that engages in, or
contributes to, infringement to give a counterfeit product away and
profit from the sale of auxiliary products and services. Technically,
these actions are not criminal violations, but they still diminish
the value of the intellectual property to its owner.  The
Administration's proposed legislation provides for criminal sanctions
for distributing any infringing materials for the purpose of
commercial advantage, including the selling of complementary
products.
Because the production of a large number of copies is now cheap and
easy, it is much easier for a counterfeiter to flood the market with
illegal copies.  Because current intellectual property law was
designed when such an action was not easily accomplished, merely
possessing a large number of infringing products with the intent to
sell does not necessarily constitute a crime. Only the sale of the
good itself is a criminal violation. Infringers are now capable of
flooding the market and imposing significant financial harm on the
intellectual property holder before criminal sanctions can be
applied to limit the damage from this activity. The Administration's
proposed legislation modifies the law to criminalize the possession
of infringing materials with the intent to sell and will help stop
the sale of counterfeits before they have an injurious impact on
intellectual property holders.

Conclusion

Well-defined and well-enforced intellectual property rights are an
important component of the U.S. economy and an important element in
fostering continued economic growth. Intellectual property differs
from other more tangible property in at least two key
characteristics: it is nonrival in consumption and nonexcludable.
An intellectual property system creates an incentive to innovate by
rewarding the developers of new inventions with the right to exclude
others from using that innovation for a limited period of time. In
this way, inventors can benefit financially from their innovation.
Economic research supports the conclusion of the American founders
that a well-defined intellectual property system rewards innovation
and fosters economic growth.  By continually adapting to economic
and technical change, the American intellectual property law system
will continue to foster economic growth in the United States and
throughout the world.