IV. Acquiring the tools of innovation.

• Author: Kogan, Lawrence A.

1. BRAZIL SHOULD ADOPT IPR PROTECTIONS TO ATTRACT FOREIGN DIRECT INVESTMENT

   IPR Protections Are Important to Foreign Investors

   Due to the significant and growing economic value of patents, it is understandable why developing countries have undertaken considerable efforts to acquire such tools of innovation. One way to do so is to through foreign direct investment (FDI). Arguably, FDI flows are even more important than trade flows in today's rapidly expanding technology and information society. (618)

   As noted by the World Bank,

   "what makes FDI especially important is that unlike trade in goods, where developing countries try to glean whatever information they can from the products and services imported or import capital goods that embody modern technology, FDI involves explicit trade in technology ..." (619)

   One recent (2005) study identifying secure property rights as a key concern of foreign investors, (620) examined the impact of developing country institutional efforts to attract FDI. It found a positive correlation between a developing country's adoption of open and transparent domestic capital account control policies and its participation in international treaty regimes (including WTO membership, and preferential wade and bilateral investment agreement participation) on the one hand, and positive FDI flows on the other.

   "Developing countries can domestically enact policies that are attractive to private foreign investors, or they can employ international strategies, such as entering into international agreements [such as WTO membership, preferential trade agreements and/or bilateral investment treaties] that promote policy orientations seen as reassuring by foreign investors ... Each of these provides a direct or indirect mechanism for reassuring foreign investors that the country will protect its property rights and allow profitability. They serve as credible signals to private investors of the government's intentions because, at least for the international agreements, they are costly to renege on" (emphasis added). (621)

   The study viewed the protection of investor property, including IPRs, as critical to securing such flows, given the substantial, long-term, capital-intensive and immobile nature of the types of investments being made (i.e., plant and equipment and research and development). (622) It also admonished foreign investors to be weary about committing significant investments to any one of a number of developing and emerging economies that do not have a well-established property rights regime. (623 624) The study concluded that developing country membership and participation within international treaty regimes that promoted physical and intellectual property right protections (e.g., TRIPS) was more likely than not to contribute to its ability to secure FDI. This result obtains because such diplomatic engagement usually requires complimentary domestic reforms. (625) At least one more recent (2006) study seems to have confirmed that U.S. and OECD bilateral investment agreements have stimulated greater FDI flows to developing countries "with a high quality of institutions and strong local property rights" (emphasis added). (626)

   These conclusions were also confirmed within a recent (2005) United Nations study. It found that the setting of minimum IPR standards at the international level via the TRIPS Agreement had been effective in facilitating domestic reforms that can lead to actual R&D-related FDI flows to certain emerging and developing countries.

   "[Although m]any international agreements give special attention to investment in R&D activities ... [by focusing on] [k]ey issues [that] relate to the entry and establishment of R&D-related FDI, the treatment of R&D performance requirements (whether by restricting or explicitly permitting them), incentives encouraging investment in R&D activities [,etc.] ... [m]ost international investment agreements do not have provisions that specifically protect R&D-related FDI; they protect FDI in general ... [Consequently,] [t]he protection of IPRs at the international level and minimum standards set by international treaties are of particular relevance for R&D related FDL The most important instrument in this area is the WTO Agreement on Trade-related Aspects of Intellectual Property Rights (TRIPS)" (emphasis added). (627)

   Furthermore, one recent (2005) study has documented how a developing country's adoption of domestic TRIPS-compliant IPR reforms has resulted in increased IP-related foreign corporate manufacturing investments. (628) And, another recent (2005) study found that the degree and scope of such investments and technology transfer activities largely depends on the nature of those reforms, i.e., the extent to which they expand/strengthen IPRs. (629) This latter study also evaluated the magnitude of the economic impacts in terms of technology transfer. It did this by measuring the changes in the value of inter-company licensing (royalty) payments and allocations of inter-company R&D expenditures among corporate affiliates. (630) The study found that following a developing country's adoption of IPR reforms, the amount of royalty payments made by an affiliate to its parent for the use or sale of transferred technologies, just like the amount of local R&D expenditures the affiliate incurred related to such transferred technology, increased in excess of 30 percent. (631)

   And, still another recent (2005) study evaluated the broad welfare implications for developing countries should they decide to protect IPRs consistent with the TRIPS Agreement. It concluded, that based on the positive overall impacts that strengthened IPRs would have upon innovation, market structure and technology transfer, it would be irrational for developing countries not to adopt IPR protections, In particular, it found that,

   "[W]hen technology transfer considerations are accounted for it is not rational for governments in these countries to oppose IPR protection ... In a North-South trade environment, the South sets its IPR policy strategically to manipulate multinationals' decisions on innovation and location ... As the Southern government sets the IPR protection level before the Northern firm makes its multinational decision, it can influence this choice by inducing technology transfer or encouraging innovation ... Firms can protect their technology by exporting, or risk spillovers by undertaking FDI to avoid tariffs ... In relatively low technology intensive industries, attracting foreign investment as a channel of technology transfer & the motive behind protecting IPR. The level of protection is chosen such that exporting is never strictly preferred to FDI by the North. Although the South may desire a lower level of IPR protection to reach its first-best welfare, the Northern firm's credible threat of exporting rather than undertaking FDI restricts the latter to a stricter IPR regime.

   ... For more R&D intensive industries, innovation as opposed to technology transfer is the key concern for protecting IPR in the South. The South stimulates innovation by tempting the multinational to deter entry by means of substantial R&D efforts. Although the South does not imitate the complex technology to compete with the North, it benefits from the enhanced innovation it induces by protecting the IPR of the Northern multinational. Therefore a rational South would never strictly prefer to violate international IPR, as the optimal level of protection for the South is always very high ... [Much to the contrary, a] stringent IPR regime is always optimal for the South as it triggers technology transfer by inducing FDI in less R&D-intensive industries and stimulates innovation by pushing multinationals to deter entry in high-technology sectors" (emphasis added). (632)

   IPR Protections and the Enabling Environment Can Influence Investment Composition

   Technology companies may invest in and undertake R&D within developing countries, even in the absence of strong IPR protections, though clearly, strong IPR jurisdictions are preferred. At first glance, this possibility would appear to contradict conventional wisdom. After all, firms have been advised that since poor institutional environments erode the 'appropriable value' of innovations, they should keep their knowledge-intensive activities away from weak IPR regimes. Yet, other factors may be at play.

   One early (1993) study involving Brazil and Argentina revealed that, despite the lack of adequate patent protections in those countries, U.S. pharmaceutical companies continued to invest there. (633) It found that such behavior was likely a predatory response from rival companies (competitors), which were eager, in the face of weak patent protection, to move in (by establishing a manufacturing facility) and capitalize on (reproduce) products not protected by patents. Alternatively, as was the ease in Turkey, during the early 1960's, U.S. pharmaceutical company FDI increased despite that government's abolishment of product and process patent protection. It was later concluded that other factors had played a larger role in those companies' foreign investment decisions. They included more favorable foreign exchange rates, and lower taxes, regulatory costs, and wage rates, than was then available in the U.S. and other venues. (634)

   Even if a foreign company's decision concerning whether to invest in a given country has already been made, it can still be influenced by the degree of IPR protection afforded. One recent (2006) study (635) examined how the level of protection a developing country provides to foreign IPRs would affect the nature of an MNC's investment in that country. In particular, it focused on two possible scenarios: direct investment via an independent venture (i.e., FDI), and indirect investment through a joint venture (JV) arrangement with a local company. Since joint ventures usually provide local rivals with the opportunity...