Patents and the Rate of Innovation across Industries. (Research Rap)
The availability of patents affects the rate of innovation because it influences firms' willingness to engage in research and development and the profitability of their doing so. Not all inventions qualify for patents, only those satisfying certain standards set out in law and applied by the courts. In this paper, Robert Hunt shows how these standards can be selected in ways that maximize the rate of innovation in a given industry. In practice essentially the same patent standards are applied to inventions developed or used in every industry. The standard may be too stringent in some industries but too loose in others. The standards selected, then, influence the relative size of industries as well as their rate of innovation. In other words, patent law is also industrial policy.
Hunt develops a model of cumulative innovation in which more significant inventions are patented but less significant ones are not. This accords with the patent law's prohibition against patenting obvious inventions, that is, ones that would have been obvious at the time to a typical practitioner in the relevant field. A firm that obtains a patent can earn monopoly profits for a time, but those profits eventually dissipate as rivals patent subsequent inventions that compete with the current one.
This model implies that, for any given industry, there is an optimal standard of obviousness that maximizes the expected return to investments in research and development. The higher this expected return, the more firms will be willing to enter the industry and engage in R&D competition. As a result, the industry is larger and innovates more rapidly than it would under any other standard of patentability. …