Introduction

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Rewarding Innovation Presents Costs to Society

The Congress shall have power. To promote the progress of science and useful arts, by securing for limited times to authors and inventors the exclusive right to their respective writings and discoveries.

These words come from Article I of the U.S. Constitution.(1) As they suggest, a patent exists in order to reward innovators. Patents create economic incentive for firms and individuals to undertake research, and lead to new ideas, technologies, and products. New inventions can carry value, benefiting society. However, the mechanism by which patents reward innovators involves granting patent-holders monopolistic power over their inventions. This allows inventors to capture some of the value that they create, but it also reduces the value of the new product to society. Society is best off when products are offered at competitive market prices; this allows the greatest value to be captured by consumers. However, perfect competition would prevent the original innovator from capturing any profit at all.

Clearly, there is a tension between rewarding new innovations and maximizing the value of these innovations to society. The question that concerns us now is how to structure patents so as to reward innovators while minimizing the costs to society. That is, what patent policy rewards inventors while allowing society to capture as much value as possible?

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