pieterh wrote on

The concept of "intellectual property" dates from the French revolution, and patents in their modern form were solidified in the 1850s. At that time, Europe debated the pros and cons of patents exhaustively. The Economist newspaper was founded as an anti-patent, pro-free trade paper. Most familiar arguments for and against patents date to this era. The patent system was ended in several countries (Switzerland, Netherlands, Germany). However, free-trade economists lost power after a serious economic crisis, and the patent system came back into force by the 1870s. The patent system remained largely unquestioned until the 21st century, when it started to seriously affect the software industry.

Use of Language

Intellectual Property

The term "intellectual property" was coined to replace "exclusive privilege", which became politically incorrect during the French revolution. At the time, the argument was that by defining ideas as property, with backing of the State and potentially infinite lifespan — though this was quickly rejected as too extreme — one could create wealth, and by extension, general prosperity. This belief underlies copyright law as well as patent law. The hypothesis has never really been proven, and goes against basic economic theory — since it builds localized wealth through friction for the wider market — but remains powerful.

Over the last 150 years, the patent establishment invested heavily in expanding and solidifying "Intellectual Property" as a legal concept. This is seen today in the establishment of international lobbying groups like WIPO (World Intellectual Property Organization), and international agreements like TRIPS. TRIPS on the one hand represents heavy lobbying by some groups (e.g. pharmaceutical industry lobbyists working through the US government), and a justification for domestic legislation ("we're required by international law to keep software and drugs under a single patent system").

Technically, today, "intellectual property" encompasses: patents, copyrights, trademarks, domain names, plant variety rights, design patents, game design patents, industrial patents (depending on jurisdiction), indigenous intellectual property, ship hull design rights, etc. By conflating "IP" with all these different forms of protection, patent advocates make it harder to discuss individual forms of protection.

One should never use "IP" to mean patents, and always insist on precise terminology. Patents are distinct from copyright, distinct from trademarks, distinct from domain names.

The Inventor

The patent establishment has worked hard to reinforce "intellectual property" with the concepts of the "inventor" and the "invention". This underpins the "David vs. Goliath" rationale we'll see later. In reality there are many problems with the notion of inventor and inventions. Innovation appears to happen in parallel, involving many groups and individuals, across wide fronts of technology. Thus, there are often many groups working on the same problems, while the first to patent will get a monopoly on the market. There is no real correlation between innovation and patenting. All we can say with accuracy is that "inventor" is the patent claimant (usually a lawyer), and "invention" are the patent claims.

How Patents Work

A patent is a civil claim on the market of products based on some idea. That is:

All patents, no matter what their domain, cover ideas. There is no inherent difference between a patent on the way you bake a cake, write a software algorithm, or construct a steam engine. One may try to distinguish ideas (inventions) from naturally occurring designs (e.g. genes) but the distinction is fairly arbitrary. We innovate in much the same way as nature does, by exploring the solution landscape.

Patents are valid only insofar as a court has decided they are valid. Until they go to court, patents have only hypothetical weight. Compared to copyright, trademark, or domain names, the cost of proving or disproving this hypotheses is very high. It typically costs from EUR 25,000 (in the very cheapest courts in Europe) to GBP 250,000 in the UK, and USD 3M to 10M in the USA to defend or enforce a patent in court.

The patent process varies a little between countries but generally works thus:

A specialist takes an idea and writes this as a set of claims, with some descriptive abstract. The claims should set out precisely what the "invention" is. The patent often refers to other patents, which it may build on.

The patent is filed at the national patent office, or in Europe, the European Patent Office, which is an international organization not part of the EU.

A patent examiner reviews the patent and if it passes various criteria — which vary between countries — issues or rejects the patent. Because patent offices live from patent registration fees, there is often strong pressure on examiners to accept plausible patents, on the assumption that courts will catch bad patents.

In some countries, a new patent can be opposed for a certain period. This is equivalent to going to court, except before specialist judges at the patent office, rather than national (real) judges). Opposition is expensive and scary enough that small firms will not do it.

The patent is formally issued, and its owner can now assert it. The owner can leave the patent unused for any period of time, so long as he pays the annual fees. Patents expire after about twenty years (depending on jurisdiction) in any case. Firms can "greenfield" by making small changes, and filing those as a new patent.

Armed with the patent, its owner can now ask other businesses to pay license fees, or stop producing their infringing products. If the target of such an action refuses to comply, the patent owner can go to court and ask for damages and a temporary or permanent injunction to stop sales. As in all court cases, the losing party can appeal.

A defendant may claim the patent is invalid, on a number of grounds, or claim that they do not actually infringe it. Most courts will assume the patent office correctly examined the patent, so invalidating the patent may be difficult.

Firms who fear they may be targeted by a specific patent can, in some jurisdictions, go to court to request an upfront decision of non-infringement. In some countries such proceedings could be drawn out for the full lifespan of a patent.

Specialization and Criminalization

Traditionally, patents — like other forms of IP — are handled by civil courts. Two trends make the patent system more virulent than it might be. First, specialization, in which patent cases are heard by, for instance in the USA, the Court of Appeals for the Federal Circuit (CAFC) hears patent cases. In Europe, there have been long efforts to create a similar institution, i.e. a European Patent Court.

The arguments for specialization are that patent cases are complex and technical, and need specialized judges. The arguments against are that specialist judges tend to favor patent holders above defendants, that specialization appears to have been followed by significant expansion of patentability in the USA, and that specialized courts tend to be much more expensive than general civil courts.

Since the early 21st Century, patent lobbyists have pushed for IP to move from civil to criminal law. We see this in legal initiatives such as IPRED and IPRED2 in Europe, and ACTA more recently. The argument for this move is that "pirate" prooducts represent a threat to society. This push comes mainly from pharmaceutical firms (using imported generics as the threat), the entertainment industry (trying to stop copying of music and films) and patent licensing specialists (such as the various groups who live off MP3 patents).

There are obvious attractions to enforcing patents via criminal law: it is much faster, cheaper, and more effective. The police can seize goods at trade fairs, the courts can freeze bank accounts of executives, and infringement can be punished with prison sentences.

However for those threatened by patents, criminalization turns a business risk into a life and death scenario. When infringing a patent is treated as a crime against the state, one assumes there are strong safeguards against accidental or necessary infringement.

The Economics of Patents

Patents are an intervention in the free market. When you buy a patent from the state, you own the market in that idea for two decades. The rationale is that society gets something in return. We'll look at this later.

The economics of patenting are this:

Patents cost perhaps $10,000 to write and file, depending on size and complexity. Compare to copyright (free), trademark ($250), and domain names ($10 per year).

Pending patents can be used immediately to convince other firms to pay license fees, or enter into various types of agreement.

Patents are expensive to litigate, the average cost in the USA being around $250,000 for each party, for a first action, and more at appeal.

The cheapest way for a defendant to avoid extensive court costs, eventual damages, and license costs, is to not infringe on the patent. Thus, the 'best' patents from point of view of the holder are those which are broadest, vaguest, or most fundamental. I.e. the hardest to avoid infringing.

If firm A attacks firm B with a patent, firm B's obvious response is to find a patent that it can argue firm A infringes on. A counter-suit is a good lever to getting a settlement and eventually cross-licensing deal between firms.

The most successful patent holders are thus firms which never infringe on others' patents, which means firms that either make only a very narrow range of products, or firms that produce nothing at all.

Thus, by competition and elimination, successful patents tend to be low-level (on genes, general research techniques, basic business concepts, etc.) or very vague (using language and concepts that can be twisted to apply to many cases). And, patent holders tend to be very large firms (which can afford the costs) or specialized non-producing entities (NPEs, aka patent trolls) which are immune to counter claims.

There are very few small firms that successfully use patents. In a 2007 study the EU Commission looking for small-to-medium businesses who successfully used patents was forced to include Israeli firms.

Patent Conflicts

Patents can make their holders extremely rich. They are key to legal battles over enormous amounts of money. There are a number of scenarios in which patents enable conflict:

When an NPE convinces firms to pay licenses, it starts with the smallest firms, and as these becoming licensees, it moves to larger and larger firms. At a certain point firms will refuse to pay, and court cases start. The NPE should have collected enough of a "war chest" to win these battles.

When one large firm wants to stop another competing, it files for injunctions in various courts, often to stop imports of products (domestic products are more favorably treated by many courts). The targeted firm will respond with counter-claims and appeals. The end result, after much legal activity, is usually a cross-licensing deal.

When one larger firm wants the patents of a smaller firm (for example to counter-attack a competitor), it may start proceedings against the smaller firm. The smaller firm, unable to retaliate (holding perhaps only a few patents and without a significant war-chest), will often accept a low-valued take-over.

There are many strategies. A large firm may license a patent from a smaller firm, exclusively, so that its competitors cannot use that idea or technique. Larger firms may create patent pools that exclude smaller competitors from the market. Patent holders may give licenses freely or cheaply to some firms, to convince a judge that the patent is more "valid", and thus get larger rents from richer firms.

There are some perhaps surprising elements about patent conflicts. These are mostly secret, consisting of letters, threats, counter-threats, and agreements that remain out of public view. What we see in the news is a tiny fraction of the actual conflict. Second, patent ownership and licensing is secret. We know who files the original patent but we have no idea who currently owns it, or has licensed it, or the amounts of money involved.

Further, in many countries all patent licensing income is free of taxes, as a motivation for innovation. This creates interesting financial vehicles where all profits of a firm are exported as patent license fees to a sister firm, which then pays no taxes.

Defensive Patents

"Defensive patents" are a powerful part of the patent mythos. In order to do business securely, the belief goes, one needs patents to defend against attack.

Let's look at several common scenarios and see whether and how a patent could be a defensive weapon, and what the outcome would be:

A small firm gets a letter from a patent troll claiming damages and demanding a license deal. Would a patent defend the small firm? No, because the troll makes no products, so infringes no patents.

A small firm gets a letter from a large competitor, claiming damages and demanding a license deal. Would a patent defend the small firm? Yes, but only if the large firm was making product covered by the patent. Otherwise no. And if the small firm counter-attacked with its own patent claim, the larger firm would easily scale up its attack. End result: the small firm will exhaust its capital and be bought cheaply by the larger firm.

A large firm gets a letter from a patent holder, claiming damages and demanding a deal. The large firm pulls out its vast portfolio, and discovers it's useless against the patent holder, who makes no products or only a single very narrow product. After years of litigation, a court grants the troll a huge sum in damages.

A large firm gets sued by a competitor for some obscure patent. The large firm counter sues with its defensive patent portfolio. Happily, the competitor is exposed, and finally the two settle into a licensing deal. End result: the market turns into a cartel based on a cross-licensed patent pool, and small competitors are excluded or heavily taxed.

One troll sues another. This happens more often than you'd imagine. The target counter-sues with its own "defensive" patents. The troll with the broadest patent and deepest pockets wins, and gets the other troll's patents as reward. End result: larger trolls.

Patent Pools as Legal Cartels

In some sectors, patent cross-licensing effectively creates a legal cartel that escapes anti-trust law. The mobile phone sector is a case worth studying.

Ewan Sutherland of the LINK Centre, University of Witwatersrand and CRID, University of Namur, wrote that in 1996 the European Commission (EC) opened its first dossier on international mobile roaming (IMR), at the behest of the mobile operators, who sought and received an exemption from anti-trust laws of the EC Treaty (now Article 105 (1) EU).

In 1999 the International Telecommunications Users Group (INTUG) filed a complaint with the EC about persistently high prices. Cases against four operators were closed without any penalties, and an inquiry into the handling of these cases was abandoned, with no explanation to the high prices. There were a set of directives in 2002, and two more Roaming Regulations in 2007, but prices for IMR remain high, especially for roaming data. Sutherland concludes "The mobile network operators maintain there was no problem. The EU institutions,… and many users maintain that there was and is — even if they can only describe the symptoms, not explain its causes."

To uncover the causes of the problem, and why national and EU regulators have been unable to correct what looks very much like collusion by dominant market players, we need to understand that the mobile telephony market depends on standards, and these are very heavily patented. As Tobias Kaufmann explains, the GSM (Global System for Mobile Communications) market depends on 554 patent families (not individual patents) declared “essential” by their holders. 74% of these patents are held by four firms.

Kaufmann explains how patent licensing is used to create the cartels that dominate the European and American mobile phone markets:

In 1998, the ITSUG (International Telecommunications Standards, User Group) authored a complaint to the European Commission in which it summarized the GSM licensing problems in stating that the inability to acquire timely licenses coupled with the uncertainty of essentials lead to "costly and complex licensing negotiations" and "excessive cumulative royalty rates", thereby creating substantial transaction costs and high barriers to entry to the GSM market. In addition, the ITSUG alleged the existence of a "low/zero club for established European telecommunications players" while others have to pay royalties of up to 40% of the ex-works selling price".

So while GSM depends on standards, those standards and the market they depend on are entirely captured through patents, and escape normal competition pressure to lower prices. By adding new patents to the pool of patents that a business must license, the normal 20 year lifespan of a technology like GSM — which originates from 1991 — can be extended almost indefinitely, and indeed Kaufmann reports that only 149 of the 554 patent families in the GSM patent pool are judged essential by technical experts. The rest exist only to perpetuate the licensing barriers.

As Wikipedia states, “Patents remain a problem for any open source GSM implementation, because it is not possible for GNU or any other free software distributor to guarantee immunity from all lawsuits by the patent holders against the users. Furthermore new features are being added to the standard all the time which means they have patent protection for a number of years.”

In a properly competitive market based on free and open technological standards — such as the traditional wired phone network — we would expect costs to fall by 50% every 18-24 months, or value to double every 18-24 months (hence “Moore’s Law”, stating that chip density will double every two years. If it cost 1.00 UKP to make a 1-minute international phone call in 1990, today that cost should have dropped to less than 0.01 UKP for 10 minutes today.

Politics of Patents

As late as 2007, public policy makers were arguing that patenting was equivalent to innovation. This argument is starting to fail but has been enormously powerful. Politicians — who are not economists, not innovators, not businessmen — believing that patents were a key policy tool, have worked to boost the numbers of patents filed in their countries by:

Appointing patent office executives with the mission of increasing patent office "productivity", in terms of numbers of patents filed each year,

Treating patent claimants as "customers" of the patent system, and focusing patent examiners on keeping claimants happy.

Treating patent filing statistics as a key performance indicator of economic power.

Giving the patent establishment open space in which to expand, by lowering barriers to patenting, increasing patent lifespan, lowering patent costs, and opening new areas (like software) to patentability.

The number of patents, and patent conflicts, has risen sharply in the last ten years. The major winners are certain firms who have accumulated large portfolios of patents to use against competitors, NPEs who have secured large revenue streams for their patents, and patent lawyers, who are more in demand than ever.

The Rationale for Patents

Conflict is expensive for society, and patents can raise the cost of ordinary goods quite significantly. It's been estimated that consumer goods such as DVD players, MP3 players, cameras, and smartphones carry about $15-$25 in patent license fees. We do not know the end-consumer cost of patent litigation, but it is non-trivial.

Since the patent system is a major intervention in an otherwise free market, we might expect to see some solid proof that it is worthwhile. However there is not a single economic study that shows that patents promote innovation. Lacking an economic basis, patents exist on the basis of argument and debate.

Here is a typical endorsement of the patent system from a software engineer called Nathan Marz. In January 2011, Marz wrote:

The patent system exists to provide an incentive for innovation where that incentive would not have existed otherwise.

Imagine you're an individual living in the 19th century. Let's say the patent system does not exist and you have an idea to make a radically better kind of sewing machine. If you invested the time to develop your idea into a working invention, the existing sewing machine companies would just steal your design and crush you in the marketplace. They have massive distribution and production advantages that you wouldn't be able to compete with. You wouldn't be able to monetize the initial investment you made into developing that invention. Therefore, you wouldn't have invented the radically better sewing machine in the first place.

From this perspective, patents are actually a rather clever hack on society to encourage innovation. By excluding others from using your invention for a fixed amount of time, you get a temporary monopoly on your invention. This lets you monetize your invention which makes your initial investment worthwhile. This in turn benefits society as a whole, as now society has inventions that it wouldn't have had otherwise.

We can call this the "inducement to innovate" argument. Without patents, the argument goes, people would not innovate because their ideas would be stolen. Another argument is the "appeal to fairness". Here is another commentator, on the Slashdot discussion site, writing in August 2011:

Mobile phone patents are deserved and the companies that have them have spend billions to develop the technology. It's only fair that someone who wants to profit from that research pays some of the costs via patent licenses.

These two arguments, and others, are not new. Rather than debunk the arguments directly, we can draw on others' voices from the past.

The History of the Patent Debate

In the nineteenth century, the defenders of the patent system developed four main arguments to justify the creation of patent rights:

Calling on natural law. Inventors have a natural right to their ideas and inventions, which like all property must be exclusive. Society must recognize and protect this right.

Appealing to fairness. Exclusive rights to an invention are the most appropriate way to reward inventors for their work.

Inducement to innovate. Inventors will not invent and capitalists will not invest in new inventions, unless they are given exclusive rights to their inventors.

Inducement to disclose. Inventors will not publish their secrets, and thus ideas would be lost to society, unless they are granted exclusive rights to their inventors.

The first argument depends on accepting the notion of natural law. Prince-Smith, a leading German free-trade economist, said, "Any claim for protection of private property is a demand for the intervention of the power of the state, which should follow exclusively the dictate of common welfare. With regard to property in things the dictate of common welfare is firmly established. How is it with regard to the so-called intellectual property, and above all, patents of invention?"

The use of the word "property" to cover ideas was part of the propaganda fight to establish patent laws in France in 1791 and again in 1843. The previous term was "exclusive privilege", more accurate but not the best thing to push for after the French Revolution.

By the late 1800's the notion that patents derived from natural property rights in ideas was being heavily attacked, especially in Germany, and we saw the second argument evolve.

The Swiss, stubbornly, did not agree that society had a moral obligation to reward inventors. Others pointed to the theory of social origins of inventions to explain why individual inventors did not deserve rewards. Others argued that real inventors had a head start that should give them enough profits to reward their work.

Even those who agreed that inventors needed rewarding, and that competition might wipe-out any head-start advantage too quickly, did not necessarily support patent privileges. The Economist wrote, "…what the community requires is that inventors be rewarded; that skillful men who contribute to the progress of society be well paid for their exertions. The Patent Laws are supported because it is erroneously supposed that they are the means to this end."

The favorite proposed alternative to patents were bonuses paid to inventors by the state, by industry associations, by intergovernmental agencies, or by international industry associations. The bonus system was dismissed as corruptible and arbitrary, and patents were pushed as the best method of delivering fair rewards to inventors.

Others pointed out that with patents it was impossible to ensure the reward went to the real inventor, that rewards were proportional, and impossible to prevent great damage being done to others by the exclusive monopoly.

The visible injustices of the patent system meant that the "society's moral obligation to reward inventors" argument was fairly weak. So, the patent advocates formed the argument that exclusive privilege, fair or unfair, was the best way to stimulate invention.

In the mid-1800's, writers claimed that the industrial progress of England and the United States was due to their patent system. Other writers claimed that the progress of Germany and Switzerland was due to their lack of any patent system. In fact any causal relationship is very hard to prove, or disprove. So the argument that patents promote innovation is mainly a thought exercise and works as follows:

Industrial progress is desirable; Invention is a necessary part of industrial progress; Not enough invention will happen unless effective incentives are used; Patents are the cheapest and most effective form of incentive.

There are two straight-forward counter arguments to the last two points. First, that invention will occur with or without legislative interference. Second, that patents are not the best and cheapest form of incentive — that prizes, for example, would work better. Either of these two counter-arguments breaks the whole thesis that patents are necessary to industrial progress.

Economists thus began to debate the costs and benefits of the patent system. Some argued that the costs were zero, and the benefits infinite. Others argued that a heavy social cost was unavoidable and the net benefits were negative.

The costs of the patent system are as follows: first, the cost of diverting one's activity away from patented areas towards other domains; second the bureaucratic cost of administering the patent system; third, the economic cost of monopolies sustained by patents; and last, the cost to those unable to use the most efficient processes.

Thus in 1851 the Economist wrote,

The privileges granted to inventors by patent law are prohibitions on other men, and the history of inventions accordingly teems with accounts of trifling improvements patented, that have put a stop, for a long period, to other similar and much greater improvements… Every patent is a prohibition against improvements in a particular direction, except by the patentee, for a certain number of years; and, however beneficial that may be to him who receives the privilege, the community cannot be benefited by it.

For a while, patent advocates argued that the patent system cost nothing. This argument was shown to be wrong: the patent deprived others of the opportunity to evolve and use the same idea that the patentee had, no matter how much they had already invested in it. The monopoly also derived society of the benefits of wider use of the idea.

Another nail in the "incentive to inventors" argument's coffin was the fact that many inventors were employees, or too poor to exploit their inventions without financial help. Thus the "inventor" was often the financier or patent attorney. So the "incentive to invent" theory also has a variant, which is the "incentive to invest", and these two arguments remain the strongest ones used today.

Modern criticism of the patent system thus focuses on its costs and benefits, and economists are now starting to have the tools to actually measure this empirically, with results that match the logical analyses of the mid-19th century.

One last argument of the patent advocates remains: that exclusive privilege is the best incentive to disclose valuable secrets. Even if inventors worked without other incentives or rewards, without strong incentives for disclosure, said patent advocates, inventors might take valuable secrets to the grave and thus rob society of its general fund of technological knowledge.

The post-revolutionary French patent advocates used this explanation to avoid having to defend patents as privileges. Patents, rather than being a privilege, were the result of a fair bargain between inventors and society.

There were (and still are) four objections to this argument. First, since most ideas develop simultaneously and independently in different places, no single disclosure is worth very much. Second, technological secret are very hard to keep for long in any case. Third, when inventors think they can keep their techniques secret, they will not claim patents at all since competitors will be unable to duplicate the technique. Lastly, the patent system creates a disincentive for inventors to publish their ideas early on, since premature publication can ruin the chances of getting patents. So, rather than promote disclosure, the patent system actually hurts it.

Each of these four counter-arguments was used in the 19th century. The Economist wrote that useful inventions depended not on individuals but on general social progress. Many writers argued that most inventions could not be kept secret for long, so the bargain with society was decidedly unfair. The notion that only a few inventions could be kept secret made the third objection all the stronger - the patent system now protected the otherwise unprotected ideas, and did nothing to prompt disclosure of those which could be kept secret. Prince-Smith wrote if the patent system was abolished then "secret and isolated work on inventions would cease and its place would be taken by a cooperation of all qualified talent" and predicted a meritocracy that looks more or less like today's open source software communities.

David vs. Goliath

A final commonly-used argument is that patents protect the small inventor against larger firms who would steal their ideas. This is perhaps the most common broad scenario, as it combines all four arguments into one emotional appeal to fairness. The hypothesis that patents are necessary to level the playing field depends on several assumptions:

That small firms need protection from larger firms;

That small firms deserve such protection, if they need it;

That patents are the best way to provide such protection.

However, it is not even necessary to debate whether the State should intervene to protect small firms or not, because it is easy to show that patents cannot help small firms except in very narrow cases.

The very high cost of acquiring and defending patents means normal small firms cannot use these. The budget for acquiring and prosecuting a single patent can easily exceed capital of a small firm. Multiply for each appeal and for each large firm that "steals" the idea.

In any conflict with a larger firm, the smaller firm, having fewer patents but more innovative products, is likely to infringe on many times more patents than it holds.

In any judicial conflict, the high cost of prosecuting a claim, and often an appeal, will favor the larger firm with its deeper pockets.

Any smaller firm that owns valuable patents will itself become a target for opportunistic patent attack by more specialized non-producing entities.

It's been said that claiming a patent is, for a small firm, like painting a large target on your back. Patenting your own innovations is close to suicidal unless you're a wealthy business, or you cease making products. Patenting others' innovations is rather smarter.

So small firms that do patent their ideas, and enter litigation against larger firms, end up by seeking capital from investors specifically to prosecute their patents — not do R&D — and by reducing their product range, to be less exposed to counter-attack. Clearly, patents are not promoting innovation in such cases.

How can small firms compete with large ones that steal their ideas? The best way seems to be to spread the ideas widely, and build products that can move faster into open areas of the market. Ideas are cheap, it has been said (by those with many ideas). Ironically patents make it harder, not easier, for small firms to do this.

Who Benefits from Patents?

The only small firms that can benefit from patents are:

Non-producing entities (trolls) that acquire a small number of patents and initial capital. Such firms can then prosecute claims against smaller businesses first, building up more funds, and building a patent licensing business. This is a fairly common model. Product-making firms that produce very specific products around a single patent. They must essentially make specific improvements to old technology so they are not vulnerable to counter-attack. They then exploit this improvement for twenty years to build up a wider market and brand. This is a rare model, but there are several well-known examples such as Dyson.

Research organizations and universities can benefit financially from patents, since they produce no products and are not vulnerable to counter attack. For instance, the Fraunhoffer Institute made its fortune from MP3 patent licenses.

Larger patent-holding firms, like Intellectual Ventures, are also immune to patent counter-attack, so can build up very large and profitable patent licensing businesses.

Large firms can try to use patents to control competition. In practice though, patents take long enough to get issued that they are useless against immediate competitors. Firms must build up portfolios of patents that they hope will be valuable in 5 or 10 years' time. Then, if they are lucky and they got patents in areas that become new market sectors, they can get patent license revenues.

Large firms do use patents to reduce their tax burden. The mechanism is simple: find a country, like Ireland, which treats patent income as tax-free — to promote innovation, of course — and establish a "research center" there. File patents and then license these to business units across the region. Ensure that the majority of profits arrive in the tax haven as patent revenues.

Finally, large firms can use patents to effectively create legal price-fixing cartels. This is how the mobile telephony business works, essentially. It allows firms to keep prices high, to exclude new innovations, and new competitors. In the long run, it fails to promote innovation: we are still using and paying for SMS text messages. It also fails to help firms like Nokia from collapse.

So, patents are bad for the vast majority of small innovative firms, and they are good for trolls that produce no wealth, publicly funded research institutions that should not be driven by a profit motive, legal cartels that engage in global price fixing, and wealthy firms that speculate on future market movements.

The story of patents is playing out at high speed in the software industry, which was essentially patent free until the late 1990's. The Internet is built on patent-free standards and innovations. As the patent system expanded into software and the Internet, conflict has exploded. Software patent conflict now makes the headlines almost every day.

The Documentary Argument

There is one remaining argument for patents that is rarely cited but does make sense at least until the Internet changed everything. That is, "inducement to document". When the English burned Washington in 1814, they left the patent office untouched:

The United States Patent Office building was saved by the efforts of William Thornton — Architect of the Capitol and then superintendent of patents — who convinced the British of the importance of its preservation.

At the close of WWII in Europe, in 1944, the Allied forces set in motion a search for the scientific, industrial, and military secrets of Nazi Germany. They found them hidden in a mine, behind a door marked "Opening Will Cause Explosion":

The German Patent Office put some of its most secret patents down a sixteen-hundred-foot mine. shaft at Heringen, then piled liquid oxygen, in cylinders, on top of them. When the American Joint Intelligence Objectives team found them, it was doubtful that they could be saved. They were legible, but in such bad shape that a trip to the surface would make them disintegrate. Photo equipment and a crew were therefore lowered into the shaft and a complete microfilm record made of the patents there.

In that patent treasure chest were tens of thousands of filings, many explaining techniques that seemed like science fiction:

The biggest windfall came from the laboratories and plants of the great German cartel, I. G. Farbenindustrie. Never before, it is claimed, was there such a store-house of secret information. It covers liquid and solid fuels, metallurgy, synthetic rubber, textiles, chemicals, plastics. drugs, dyes. One American dye authority declares: "It includes the production know-how and the secret formulas for over fifty thousand dyes. Many of them are faster and better than ours. Many are colors we were never able to make. The American dye industry will be advanced at least ten years."

Historically, patents on steam engines delayed the industrial revolution by almost 20 years, and a ten-year battle over aircraft patents almost crippled the US air-force in World War One, forcing the US government to intervene (creating one of the first patent licensing pools). However, today we can look at these old patents and understand how to rebuild every single valuable machine ever made. Without the patent system, and the incentive it creates for formal documentation of industrially useful ideas, we would have lost vast amounts of knowledge.

It is arguably worth the costs. One could still argue that without the patent system, I. G. Farbenindustrie would never have become a dominant cartel, capable of keeping its processes secret. But we can give the patent system the benefit of the doubt. The documentation is arguably worth all the pain.

At least in the industrial era. Several trends have weakened and eventually nullified this final justification for patents. The first is that we simply have much better, cheaper, and faster ways to collect knowledge. Wikipedia is a prime example. Every idea that is worth documenting is documented, rapidly and accurately. Compare the patent system to Wikipedia and one sees just how outdated that system is.

Secondly the move towards a digital economy means that ideas and inventions are no longer as tangible as they were. We once powered our economies with steam, but today it is with algorithms. There is no essential difference, it is one of scale. As ideas become more abstract, they become more layered. In the construction of steam engines there may be ten layers of ideas. In a web site, tens of thousands. Where a steam engine patent affected 100 firms, a software patent may affect a million businesses.

The economic incentive is towards patents that capture more market, thus are less precise. One does not speak of a table, but of a horizontal planar surface with multiple support structures. That could mean a table, a stool, or a bridge. It is much, much worse than this in modern software patents. And today, the majority of patents have some software claims.

So, as our knowledge goes digital, patents get less useful as documentation. We are left with all the costs of the patent system, and none of the benefits.

Reform of the Patent System

There have been many proposals to reform the patent system. These have all failed, for various reasons. These are:

The peculiar economics of the patent system mean that patent holders have a great incentive to continue to invest in patents, to lobby governments against any weakening of the patent system, and to push for widening of patent law.

Patent offices, rather than acting as neutral representatives of society, have become representatives of patent holders. They treat patent claimants as "clients", and patent fees as their revenue.

Politicians lack understanding of economics, and treat patents as an easy "high score" for economic performance. They are generally not trained in science and are reluctant to use science-based economic policies.

The vast majority who pay for the patent system have, in effect, no voice. Patents are taken for granted, often defended even by those who argue against, for instance, software patents.

Patents are, simply, enormously profitable for a very vocal and powerful minority, while their costs are spread among a mostly silent majority.

Patent reform advocates have tended to focus on specific areas: software patents, business method patents, genetic patents, and so on. Campaigns such as the 2005 European nosoftwarepatents.com campaign have been successful in halting specific legislation, but have failed to change the general trend of expansion of the patent system.

Patent reform advocates tend to focus on limiting the patent system in specific ways:

Excluding certain fields of technology, such as software. Such limits have proven to be untenable, since there are no hard boundaries between fields of technology. Patent experts can and do shift the limits, by modifying patent language, one patent at a time, until they can cover whatever field of technology is most valuable at the moment.

Excluding "bad patents", a term that can mean entirely opposite things to different people. A patent on a widely-used, fundamental idea is bad for society, but good for the patent holder. A patent for a nonsense invention is a bad patent in terms of documentation, but harmless to society. A clear and precise patent is "high quality" in terms of documentation, but a failure in terms of collecting rents. A fuzzy patent that may be applied to many different cases is a failure in terms of documentation, but most successful in terms of profit for the patent holder.

Soliciting public help in finding prior art, i.e. asking the public to help invalidate new patents. This is one of the "raise patent quality" strategies. The goal is to ensure that awarded patents are really innovative. It makes the implication that there are "good" patents, drowning in a sea of "bad" patents. As we've seen, that is very relative. "Raising the bar" is really code for "don't let new patents devalue our existing patent portfolios".

Making it cheaper and easier for patent holders to defend their patents in court. For example in Europe, politicians are creating a single patent court that eliminates the need to prosecute a patent in multiple countries. The cited benefits are lower translation and legal costs for patent holders. This will make the patent system more, not less, damaging to Europe's economy: legal costs will rise and make it harder for small firms to defend themselves against patent claims by larger firms.

Partial reform of the patent system is, by historic evidence, impossible. There is not a moment in history that the patent system has accepted reduction in size and power. There is simply too much money and power at stake. While large patent holders push patent offices to "raise the bar", the same patent offices push for innovation funding to SMEs and universities to be linked to patenting activity.

Conclusions and Next Steps

The patent system has enjoyed considerable political and public support over the last century, being widely accepted as an essential incentive to small and large innovators. Yet today the patents arms race, and rise in patent litigation are bringing many to ask what, really, is the purpose of the patent system.

There are a set of classic arguments for patents, ranging from "inventors have a right to profit from their hard work" to "without patents, no-one will innovate". None of these arguments stand up to scrutiny nor comparison with fields that aren't patented. We do not generally ask the State to intervene to ensure that artists will paint, musicians play, chefs prepare meals, fashion designers create the new seasons. The vast bulk of our economy innovates well without 20-year monopolies. By contrast, the areas that are heavily patented, such as telecoms and pharmaceutics, resist change, are run by cartels, and extort consumers with grossly inflated prices.

When patents invade a new sector of technology — genetic research, or the Internet — the results follow a standard pattern. Large firms invest more and more in patents, and less in research. Litigation increases exponentially. Firms that do not have patent portfolios find themselves unable to counter-attack, so either leave the market, or shift resources to buying patents in bulk. Patent licensing businesses — immune from attack — spring up, and so the market divides into large cartels, and trolls, with no space for the small firms that are the source of real innovation.

There is only one rationale for patents that is arguably worth the decades of stagnation and high prices that follows the entry of the patent system into a new sector. That is the value of patents as a store of knowledge, documentation of industrial processes and techniques. Patents may have delayed the industrial revolution by two decades, but today we can rebuild steam engines. Patent offices are stores of industrial knowledge that survive war and turmoil. But today, we have the Internet, which works far better than patent offices, with none of the costs.

While politicians see patents as an easy measure of industrial power, the reality is far darker. Patents act more like a legislative parasite that consumes the industrial base, and replaces it with cartels and trolls. Essentially, as soon as patents are introduced into a sector and start to bite — after a delay of five to ten years — they tip the economics back to front. Producing new products becomes dangerous, while buying new patents becomes profitable.

The damage is often invisible until much later. Large firms accept the cost of patent conflicts as the price of doing business and a useful barrier to smaller competitors. Small firms try to remain under the radar, assuming that trolls will not see them (yet). Patent deals are typically secretive, so most conflicts remain invisible. Since innovation cycles are often many years, and patents take many years to be examined and granted, everything may be going very well, for many electoral cycles, before the public lawsuits explode.

By the time every large firm is embroiled in five, ten, a hundred patent lawsuits in parallel, it is too late. The only way to win a war is to buy bigger weapons. Eventually the trolls get their pound of flesh, the large firms all settle into comfortable cartels, the small innovators go elsewhere, and peace returns.

The market is, by this stage, effectively dead. We get the Microsofts and the Nokias. Large firms do not innovate well. The general model is to buy smaller innovators and then mass-market those new ideas. But patent wars push small innovators out of the market.

An optimistic viewpoint would say that parasites eventually reach equilibrium with their hosts, and it is only when they jump to new hosts that they are deadly. A pessimistic viewpoint would say that it is the newest fields of technology — software, alternative energies, genetics — that are the most essential to human survival, and the most vulnerable to the spread of the patent system.

At their core, patents reflect an 18th century view of the market. The basis for patents is as valid as the old theory that disease spread by "bad air". We have used science and evidence to create progress in every other field. It is ironic that the patent system, claiming to be essential to progress, depends on old faith-based arguments that were discredited 150 years ago.

So, we have an old discredited system that rejects reform, that infiltrates the political and business establishment, that turns living markets into zombies run by cartels and trolls, that spreads to vulnerable, essential areas of technology, that puts humanity's very survival at stake. The conclusions and next steps are yours to make.