CHAPTER 9: THE INTELLECTUAL PROPERTY RIGHTS REGIME

Intellectual Property Rights and Innovation

            The creation of the intellectual property (IP) right has been an important industrial tool fostering innovation. However, its exact contribution is debatable, if not controversial. Society has long recognized that information, when held privately, rather than publicly, is a source of personal wealth. On the other hand, when such information is broadly available, it will likely be put to use by others and it will produce little, if any, wealth for the person who came up with the novel idea in the first place. Consequently, if individuals have little financial incentive to disclose a novel piece of information, they are not likely to make it public and entrepreneurs will not be able to make use of this private information. Needless to say, the economy and the quality of life will not be what it could otherwise have been.

            Many societies, usually industrialized countries, have responded to this private-public incentive incompatibility by creating a property right in knowledge; a right similar to that assigned to other private property. This property right grants the holder the power to exclude others from its use in return for its disclosure and thus rewards innovative efforts commensurate with its commercial prospects. The Committee was informed on the practical usefulness of an IP regime:

[I]ntellectual property rights, as we all know, are meant to protect the investments that are made in innovation. The firms in our survey did indeed affirm their importance. They tended to use them. They tended to use patents and trademarks most frequently. And they did so most frequently when they were innovative. [John Baldwin; 13, 9:20]

            Exhibit 9.1 provides further facts and impacts of intellectual property, as uncovered by Statistics Canada business surveys. What this IP survey does not tell us, however, is that beyond the desire for innovation — innovations one might obtain without an IP regime — there is another fundamental reason to legislate IP rights:

On the one hand, innovations are costly to produce, but cheap to copy. So patents provide the incentive to innovate and to disclose information and also to exchange information through licensing. So even if there was no invention that we would have had anyway without patents, we still might want patents in order to get the firms to disclose their invention. [Nancy Gallini, University of Toronto; 29, 11:05]

 

Exhibit 9.1
Innovation and Intellectual Property

  • Only about one-quarter of the population of manufacturing enterprises, both large and small, make use of at least one form of protection.

  • Only about 7% specifically use patents.

  • The importance of the forms of protection increases with firm size.

  • Being innovative is a primary determinant of the use of intellectual property.

  • There are substantial differences in the use of trademarks, patents, trade secrets, and industrial designs between innovators and non-innovators.

  • When the effect of being innovative is separated from the effect of size, nationality, and industry, innovativeness has its largest effect on the use of patents and trademarks.

  • Although innovative firms concentrate on patents, they also use a wide range of other statutory forms of protection.

  • Although many innovators make use of statutory intellectual property protection, there are a substantial group who do not.

  • There are a number of reasons why firms do not seek to protect their intellectual property.

  • not all ideas imbedded in innovations are unique enough to be patentable.

  • Not all innovations are world-firsts.

  • Only 15% innovations are world-firsts. Almost 80% of world-first innovators protect themselves.

  • Less than half use patents.

  • Process innovations are better protected through secrecy than products.

  • Firms tend to value alternate strategies more highly than statutory forms of protection.

  • Patents are ranked as a less effective strategy of protection.

  • f firms are large, innovative, foreign-owned, and operate in the core or secondary sectors, the effectiveness of the statutory forms of protection (e.g., patents) increases greatly.

  • Large firms use patents and trademarks more frequently than small firms; small firms use trade secrets more frequently relative to patents than large firms.

  • Foreign-owned firms are more likely to make use of statutory forms of intellectual property rights and to value them more highly than domestically owned firms.

  • Industry environment affects the use that is made of intellectual property.

The core set of industries — chemicals, pharmaceuticals, refined petroleums, electrical products, and machinery — make greater use of almost all forms of protection than do other industries.

  • This is particularly true for patents and trademarks.

  • Certain industries outside the core group are almost as heavy users of intellectual property protection as the core group.

  • The intensity of patent use in rubber and plastics is greater than the usage rate of firms in the core group.

  • Food, beverages, and paper products do not use patents very frequently but they have one of the highest usage rates of trademarks and trade secrets.

  • Firms in different sectors take a very different view of the effectiveness of both the statutory and the innate forms of protection.

  • Firms in the core sector give larger scores to patents, copyrights, industrial designs and trademarks, and smaller scores to trade secrets.

Source: Statistics Canada, Catalogue 88-515-XPE, 1997.

 

            Although inventors often have other means at their disposal for protecting against encroachment on their inventions ¾  most notably, access to unique co-specialized assets or complementary "tacit" knowledge ¾  many sectors of the economy depend heavily on the IP right to appropriate the benefits of their discoveries. These industries would include pharmaceuticals, chemicals, refined petroleum, rubber, plastics, electrical products and machinery. Moreover, although the government has recourse to other policy instruments that stimulate R&D, most notably research grants, contract research and research prizes, they all have their own specific design flaws that create economic distortions. For example, the first two research incentives may not go to the best or least-cost researchers and, no matter who receives the research incentive, they are rewarded on the basis of their input use (which opens the possibility of abuse by way of the various forms of "milking" the grant or contract extension) rather than on the outcome. Research prizes suffer from uncertainty in the credibility and decision-making capacity of the award-granting agency. So despite the potential for suboptimal use of an invention, IP has its virtues:

I would like to stress the nice thing about intellectual property is that it’s decentralized. The market is the one to reward good inventions, and it punishes if the inventions are bad. [Nancy Gallini; 29, 11:05]

The market system is an efficient means of processing information … [It] informs people where to invest in innovation in order to eventually realize a return on their investment and be adequately rewarded. In order for markets to work you have to have well-defined property laws and that includes well-defined intellectual property laws. [Gwillym Allen, Competition Bureau, Industry Canada; 29, 11:05]

            From society’s perspective, then, the power to exclude others from the use of the knowledge uncovered and embodied in the property right, unless compensation is paid to the individual who discovered that knowledge, encourages rivals to innovate in return for the public disclosure of the discovery. Private information is therefore profitably made public. Yet a rivalry of the sort created by an IP right is not without its costs to society. All incentives for innovation, including the intellectual property right, suffer in varying measures from the racing environment created. First, the "winner-take-all" aspect of the tournament often leads to duplicative and wasteful R&D. Second, the power to exclude others results in a less than optimal pace of technological diffusion; however, without the right to exclude, there will often be nothing to diffuse. For this reason, an effective IP rights regime is often best accompanied by a strong and effective competition policy regime. Moreover, in a modern, developed and knowledge-based economy, such as that of Canada, the argument that there will be too much competition in R&D activities and too little competition in the use of the discoveries is less persuasive. The net benefits of an intellectual property rights regime are now demonstrably positive. What remains open to debate is not whether or not an IP rights regime should exist, but what level of protection should society confer to innovators through its IP regime; what level of protection is optimal?

In trying to come to an answer to this important question, one expert in the field suggested that before looking to strengthen Canada’s IP regime, perhaps we should review the impact on patenting and innovation of: (1) past Canadian IP regime changes; and (2) recent U.S. legislative and judicial changes that have extended and strengthened patent protection much further than that granted in Canada today. These events can tell us much about Canada’s current regime and whether or not innovation is efficiently stimulated by an extension or strengthening of such rights. This researcher’s examination into the question drew the following conclusions:

[S]ince the mid-eighties and into the nineties, the rate of domestic patenting has increased. Now, on a per capita basis, it hasn’t increased all that much. But what’s more interesting than the rate is … who is doing the patenting, who is doing the innovation. … A lot of those innovations are foreign innovations and they came … [from the] U.S. because around the same time, since the early 1980s, the U.S. has really strengthened its patent protection. … [T]hey’ve broadened the class of things that can be patentable, like business methods and software and higher lifeforms. … It’s not that the Canadian change has suddenly spurred innovation.

[Nancy Gallini; 29, 11:10]

Should we adopt a Bayh-Dole Act? … This is the act that has given the universities proprietary rights, patents on publicly funded research. We don’t really have a Bayh-Dole Act in Canada. … I will say that of all the studies done in the U.S. about the effect of the changes in patent law on innovation …, they found that very little evidence can be shown that innovation has gone up except in those areas that are now patentable that had previously had not been patentable …

[Nancy Gallini; 29, 11:15]

[From] many Americans … the message that was coming across is Canada does a pretty good job with their intellectual property. It’s much more cautious about this balance between providing incentives to innovate and public access to invention. [Nancy Gallini; 29, 11:15]

            The Committee concurs with these conclusions and is generally satisfied with Canada’s current IP regime; it strikes a good balance between conflicting concerns and interests. That is, Canada’s IP regime, as it stands today, confers the right amount of incentive to innovators, while generating much needed technical knowledge, and serves Canadian consumer interests in terms of access to modern products and services at reasonable prices. That being the case, the Committee does not preclude the possibility that some minor tinkering with the design of the current IP regime is worth considering.

            Intellectual property takes a number of forms in Canada and elsewhere: patents; copyright; trademarks; trade secrecy laws; industrial designs; integrated circuit designs; geographic indication; and plant breeders’ rights (see Exhibit 9.2). Dividing intellectual property according to these different categories allows the authorities to craft rules specific to the different circumstances of the property in question (while allowing some choice in the instrument to use) and thus reduces uncertainties in the marketplace over the delineation of rights and obligations. Because of time constraints and controversial issues outside the scope of this Committee that would encroach on other parliamentary committee work, the Committee chose to deal specifically with patents.

Exhibit 9.2
Intellectual Property Typology

Patent: is a property right in a new invention which grants its owner (patentee) the exclusive use, offer for sale, sale or importation of the product, technology or process (usually extends for a 20-year period from the date of filing (invention in the U.S.)).

Copyright and Neighbouring Rights: are moral rights, which include the right of authorship of works (expression of knowledge, databases, etc.), that protect its holders from infringement and unsanctioned reproduction and dissemination (usually extends for the author’s lifetime and 50 years following death).

Trademarks: are distinctive marks used to identify and distinguish the goods or services of a business that protect its owners from infringement (usually seven years).

Trade Secrecy Law: adds legal processes and sanctions to the strategies available to an owner of information for preventing trespass by others.

Industrial Design Rights: grant protection for new and original designs of products (usually for a 10-year period).

 

Integrated Circuit Design Rights: confer similar rights for a topography, which is a design for the disposition of an integrated circuit product subject to certain limitations (usually for 8- to 10-year periods).

Plant Breeders’ Rights: confer an exclusive right to sell and produce propagating material (seeds) of new plant varieties.

Geographical Indication Rights: are protections extended to owners of goods of a given origin, where the good’s quality, reputation or any other of its characteristics is attributable to its geographical origin.

Patents and Patent Design

Intellectual property rights, in this case patents, possess the following attributes:

            In short, the longer the duration, the greater the breadth, the more burdensome the novelty requirement, or the less imposing the access requirements entailed in the right, the harder it will subsequently be to "invent around" this invention, the less likely there will be follow-on inventions, and the more likely that potential competitors will be stifled. The converse is also true. This does not mean that the high technology or fast-paced innovative markets, whose firms may hold extensive patent portfolios, will be prone to monopoly; alternative products, technologies and production processes will remain a perennial source of competition over the longer term.

            A number of theoretical debates on the optimal design of a patent right have focused on its three most basic characteristics: its duration, its breadth, and the renewal fee. In general, different industries have different needs in terms of the protection conferred along these three characteristics of a patent. For example, highly innovative industries, such as biotechnology, semiconductors and microprocessing, whose products become obsolete relatively quickly in today’s marketplace, would prefer wider patent breadth and a shorter duration relative to the converse arrangement. So would inventors of a very popular product or service (precisely because success breeds competition). On the other hand, industries that are not innovating their products or processes frequently would prefer obtaining a patent offering a longer duration and narrower breadth than the converse. Another economic view holds that process innovation should receive wider or more breadth protection from an IP regime because this would counteract industry incentives to engage excessively in product innovation since the resultant product differentiation tends to dampen price competition, whereas process innovation does not. These facts suggest that the IP authority might want to consider designing a menu of patent classes and types offering different levels of protection according to each characteristic, thereby allowing the inventors to sort themselves according to which better serves their interest.

            In today’s fast-paced innovative environment, another controversy has been brewing over aspects of the novelty requirement of IP. Innovations are increasingly seen not as discrete changes in technologies and products but as more incremental in nature. In this case, industries characterized by cumulative innovation have different needs because they are distinguished by an additional economic spillover, the so-called "standing on the shoulders of giants" benefit whereby the pioneering innovation essentially lowers the cost and increases the probability of making incremental or follow-on innovations. Again, in this case, the IP authority might want to consider addressing the design or strength of the novelty requirement. Here, we would pit the interests of the pioneering innovator against those of the follow-on innovators. On the one hand, the former would prefer a strong novelty requirement and greater breadth and, in its absence, he might consider the strategic value in not disclosing the original innovation and forego some early profit in order to have the advantage in making further incremental innovations over potential rivals and gain more profit later on. On the other hand, the follow-on innovators would clearly benefit from a weak novelty requirement and narrow breadth in order to avoid licensing or paying a royalty to the pioneer. A balancing of interests is thus required, but further attention must be paid to what is believed to be going on in the U.S. where the patents are seen as being particularly strong:

[S]urprisingly strong patents could reduce the amount of innovation if innovation is cumulative. … [W]hen I say cumulative it means builds on previous research, that in order to make a drug you need to understand the genetic composition and so you go from identifying the gene to eventually producing the drug. … [I]n that case the firms that get the first patents could possibly hold up future innovations. … There’s tons of litigations going on among firms that have strong patent rights, preventing follow-on research, Texas Instruments is notorious for this. Firms are also engaging in wasteful patenting … in which they’re patenting not for the innovation but so that they have bargaining chips to transfer to other firms to avoid litigation. So there’s a lot of cross-licensing going on, for example, in the semiconductor industry. [Nancy Gallini; 29, 11:10]

            In practice, however, patent policy has focused on a 20-year term from the date of filing, with periodic ongoing maintenance or renewal fees, leaving the breadth, novelty, and access characteristics untouched. The Committee is unsure if this gap between theory and practice is because intellectual property regimes remain unsophisticated due to the political controversy they raise when suggesting change, or that there are practical problems yet to be, or that cannot be, worked out. In any event, there is merit in considering avoiding their "one size fits all" patent protection design.

            The Committee received three suggestions for change: (1) expanding the eligibility to software products and some novel business practices under the condition of a much stricter novelty requirement (as in Japan) and a shorter patent life than is offered today; (2) a longer patent life (at a renewal fee) for goods, such as pharmaceuticals and drugs (as in Europe), that are subject to regulatory delay; and (3):

[T]he last suggestion might be to identify innovative sectors in Canada. Biotech, the high-tech sectors, computers are innovating quite a bit in Canada. And maybe we don’t need a uniform patent policy, perhaps we should have differential protection in terms of patent breadth and length for those innovations. [Nancy Gallini; 29, 11:20]

            The Committee accepts these suggestions as legitimate changes for consideration, but believes that their cases have not been sufficiently made or, at least, have not been made to this Committee. A greater onus that would demonstrate either prejudice or innovation is being impaired in these sectors is required before extending this privilege. The Committee, therefore, recommends:

15. That the Government of Canada commit to maintain the current intellectual property rights and protection regime, while adopting the policy position that any non-trivial extension of any aspect of this privilege requires a demonstration of its net benefits to society.

Intellectual Property Rights, Patent Pools and Competition Policy

            IP laws and competition laws are two complementary policy instruments that promote an efficient economy. On the one hand, IP laws provide incentives for innovation and technological diffusion by establishing enforceable property rights for the innovators of new and useful products, services, technologies and original works of expression. Competition laws, on the other hand, safeguard these same efforts from anti-competitive conduct that would create or enhance market power or otherwise stifle rivalry amongst firms. In accomplishing the latter, Canada’s competition law may impose limitations on the terms and conditions under which the owners of IP rights may transfer or license the use of such rights to others. There is not, as is commonly believed, some measure of friction between both policy instruments. In a competition law expert’s opinion:

Once provided protection, society benefits from the application of the Competition Act to intellectual property for the same reasons that society benefits from the application of the Act to other property. Applying competition law to conduct associated with IP may prevent anti-competitive conduct that impedes the efficient production and diffusion of goods and technologies and the creation of new products. … Competition policy and intellectual property rights, rather than being fundamentally at odds with each other, … serve an overall complementary objective of fostering efficiency in a dynamic market environment. Both laws serve the common goal of promoting innovation and enhancing welfare.

[Gwillym Allen; 29, 11:20]

            In general, the Competition Bureau — the agency responsible for enforcing Canada’s Competition Act — will analyze whether competitive harm would result from a particular transaction or type of business conduct involving IP. This analysis has five steps:

            Underlying the enforcement approach taken by the Competition Bureau is the view that market conditions and the advantages IP provides should largely determine commercial rewards. If a company uses IP protection to engage in conduct that creates, enhances or maintains market power as proscribed by the Competition Act, then the Competition Bureau may intervene. To the extent to which some business behaviour serves as a conspiracy, bid-rigging, joint abuse of dominance, a monopoly-making merger and thus restricts competition among firms actually or potentially producing substitute products or services, the presence of IP would not be a mitigating factor. Such conduct would be subject to review under the appropriate general provision of the Competition Act.

            The Competition Bureau was quick to support R&D collaboration and cooperation between some researchers that could potentially be competitive suppliers of the fruits of that research, but there are limits as in one case that is said to have occurred recently in the U.S.:

Two fronts worked … independently to develop laser eye surgery. At the end they finally got together and worked out some processes to perfect it and then formed what was called a patent pool and where they both individually had plans to sell the process or market the process in competition with one another in the range of … $400 to $500, and you couldn’t have it done for less than $2,500. The Federal Trade Commission stepped in and broke up the patent pool and prices [subsequently] … fell … that’s a situation where … the cooperation did not further the diffusion of the intellectual property. So that’s one reason why you may not want them to cooperate. [Gwillym Allen; 29, 11:40-11:45]

More generally:

[P]atent pools are a cooperation between firms to come into the market. There is a concern that all cross licensing that is taking place in semiconductors is like a barrier to entry because now firms can’t enter unless they have a large portfolio of patents that they can trade in case of being accused of infringement. Also when firms are cooperating, they may suppress innovation. … If there are two substitutes that could be made, … then a patent pool would like to have just one of those because why increase competition in the market. So we could see prices going up … [Nancy Gallini; 29, 11:45]

However, one should not be too quick to condemn a patent pool:

Where we want to see the patent pools is where standards are important. If you just have competition in the market, what you could end up getting is one firm winning the standard race and that firm has an enormous amount of power. Through a patent pool, you pool the complementary assets, … and of course you want to make sure that everyone has access to the innovations in that patent pool and that leads to standards that no one owns. [Nancy Gallini; 29, 11:45]

            The key here, then, is that the government (more specifically, the Competition Bureau) must remain flexible in its assessment of cooperative behaviour between potential competitors — in the form of patent pooling contracts — particularly when these patents involve complementary products and could lead to an industry standard.

            Two cases of a transfer of IP rights that might lessen or prevent competition are when a licensor ties a non-proprietary product to a product covered by its IP right, and when a firm effectively extends its market power beyond the term of its patent through an exclusive contract. In either case, if the conduct leads to the creation, enhancement or maintenance of market power and would substantially lessen or prevent competition, the Competition Bureau may intervene. Some conduct that goes beyond the unilateral refusal to grant access to the IP could also warrant enforcement action under the general provisions of the Competition Act. The Committee would like to reinforce the term "may" in all of these potential interventions by the Competition Bureau because as an official from the Bureau put it:

In the 1970s … [i]t was also revealed that the contractual arrangements, such as exclusive dealing, tied selling and territorial market restrictions were capable of stifling competition in some particular circumstances, but often they were not, particularly with regard to intellectual property that the firms actually employed these types of contractual arrangements that actually stimulated competition and were pro-competitive. It was now understood that firms that license their intellectual property are rarely monopolous and that owning an exclusive right did not create a monopoly or market power … that flowed from the use of that property. [Gwillym Allen; 29, 11:20]

The Committee is satisfied that Canada’s competition law treats IP consistent with the country’s innovation interests and fully complements Canada’s IP law.