Proxy signals: capturing private information for public benefit.

• Author: Mandel, Gregory N.
• Position: III. Private Industry Proxy Signals through Conclusion, with footnotes, p. 26-62

3. PRIVATE INDUSTRY PROXY SIGNALS

This part applies the new proxy signal framework to the problem of identifying the optimal level of patent protection for society. The discussion will provide a functional road map for how proxy signals can work, and analyze such signals for patent law. Due to space constraints, the instant examination is not fully comprehensive at this stage, but introduces the complete framework and indicates how it applies in various currently contentious patent debates, including whether or not the America Invents Act and recent Supreme Court decisions are expected to increase net incentives to innovate. Following the initial exposition of proxy signal analysis is a discussion of how it can be refined to take into account variation within industries and to function dynamically, as well as clarifications and responses to anticipated questions.

1. Industry Variation in Innovation

   The manner of innovation in an industry, the relationship between innovation in the industry and the intellectual property system, and firm and market structure within an industry all vary from industry to industry. These differences cause different industries to interact with the patent system in widely different manners, and consequently cause different industries to have different patent law preferences.

   Patent and copyright law, however, primarily take a one-size-fits-all approach to intellectual property protection. (83) The same patent law generally applies whether one patents a better mousetrap, component of a cell phone, or new nanobiotechnological process. (84) The same copyright law generally applies to literary works, musical compositions, and artistic creations. (85) Some commentators support unitary intellectual property regimes, arguing that there are sufficient benefits to uniform patent and copyright law that outweigh the potential costs of differentiating across industries. (86) Other scholars and analysts consider industry variation to be a problem for intellectual property law, as it indicates that different intellectual property laws would optimize incentives to innovate in different industries. (87) Without weighing in on this robust debate, the analysis here accepts the unitary approach as a functional given to introduce the proxy approach, and subsequently discusses how proxy analysis could be applied in a differentiated patent regime.

   Proxy analysis begins with a study of the particular industry characteristics that cause industries to encounter innovation and the patent system differently. These different characteristics cause industries to vary in their patent preferences, both functionally and politically in their advocacy. After examining the industry innovation characteristics, the analysis evaluates how each characteristic affects the relationship between private and social innovation preferences. This understanding is then used to evaluate which industries provide the most socially equivalent proxy signals. Though some may bristle at a perception of effectively privileging certain industry preferences, either because of discomfort with a focus on private preferences at all or because of an inferred favoritism for certain industries, it is critical to recognize that industries are selected not to promote or privilege any industry itself, but to utilize industry preferences to reveal private information concerning what is best for innovation for public society as a whole.

2. Industry Innovation Characteristics

   Industry variation in patent preferences derives from a number of different innovation characteristics. Evaluating these innovation characteristics presents empirical questions on which we possess substantial data. The industry characteristics that influence patent preferences can be roughly divided into three categories: (1) variation in the characteristics of the primary technology in which the industry innovates, (2) variation in the characteristics of patenting in the industry, and (3) variation in the market structure of the industry. These innovation characteristics are analyzed below with respect to nine of the heaviest patenting industries in the United States: biotechnology, pharmaceuticals, software, semiconductors, medical devices, telecommunications, mechanical, financial, and information technology. For ease of introduction, the initial analysis in this Article simplifies variation within these industries by focusing on the dominant firms within a given industry, which will also be the authority within an industry that tends to drive its advocacy. In practice, different subgroups within an industry will have different innovation characteristics. This additional texture is incorporated later in the Article to further refine proxy signal analysis. (88) The particular traits analyzed below are based on an extensive literature search to identify pertinent innovation characteristics. (89)

   The following discussion demonstrates how industries can be evaluated in order to identify their pertinent innovation characteristics. The analysis is based on existing empirical data from a variety of sources for different industries, as indicated in the footnotes. As noted above, this discussion is not intended to be the final word on innovation characteristics but to demonstrate that such analysis is feasible and that the appropriate information can be derived from relevant sources or through additional work. The goal of the analysis is to eventually select a small collection of suitable subindustries whose preferences come closest to mirroring society's. The analysis of innovation characteristics is summarized at the end of this section in Table 1.

   1. Variation in Technology Characteristics

      Due to variation in underlying technologies, the manner of innovation varies significantly from industry to industry. Some industries are much more research and development intensive than others. The pharmaceutical and biotechnology sectors, for example, require costly, time-consuming, risky research and development in order to achieve new innovation, such as new drugs and new biologics. (90) Developing a new drug or biologic routinely takes a decade or more, costs hundreds of millions of dollars, and often requires testing hundreds of alternatives or compounds. (91) Semiconductor development similarly takes years and costs billions of dollars. (92) Other industries, including software and information technology are less research intensive, allowing for much cheaper innovation that generally takes less time, and is lower risk. (93) New software applications can often be produced for under a million dollars. (94)

      Innovation also varies across industry due to technological differences in the ease of reverse engineering and the lifecycle of new technological development. Some technologies, such as medical devices and pharmaceuticals, are relatively easy to reverse engineer, while others, such as certain biotechnology processes, are much harder. (95) Similarly, some technological industries, including semiconductors and software, evolve very quickly, with technological turnover on the order of several years or less. (96) New innovation in these industries quickly becomes obsolete. Other industries, including pharmaceuticals and some mechanical fields, utilize technologies with much longer lifecycles. (97) The technological lifespan of innovation in these industries can measure decades, sometimes exceeding the twenty-year length of a patent term. (98)

   2. Variation in Patenting Characteristics

      Due in part to differences in technology characteristics, industries also vary significantly in how they interact with, and seek to take advantage of, the patent system. (99) The utility and methodology of patenting, for example, depends significantly on whether the paradigm form of innovation in an industry involves discrete stand-alone innovation, such as a new drug or device, or whether most innovation involves cumulative advances that evolve dependently from one innovation to the next, as occurs in the semiconductor, software, and information technology industries. (100)

      Patenting characteristics vary further depending on the relationship between the form of innovation and what is actually commercialized. Innovation can involve individual, complete products that are commercialized (for example, most pharmaceuticals), components of products that are commercialized (as in the telecommunications and information technology industries), or processes (for example, in much financial innovation). (101) Some industries cannot be cabined in this manner--the biotechnology industry, for instance, produces significant innovation that falls into all three categories. (102)

      The relationship between industry innovation and patenting is also significantly affected by the manner in which a firm is able to protect and appropriate returns from innovation. Certain industries, including pharmaceuticals, biotechnology, and medical devices depend heavily on patent protection to allow them to appropriate returns from innovation. (103) These industries have only weak alternatives to patent protection, in part because their products are easy to reverse engineer and copy, precluding trade secret or other forms of protection. Other industries, such as the financial and software fields, rely primarily on methods besides patent protection to leverage their intellectual assets. (104) Such industries are able to take significant advantage of lead-time, secrecy, and complementary manufacturing and marketing techniques to appropriate value from their innovation, in some cases regardless of patent protection. (105)

      Partially related to variation in how firms protect and profit from their innovation is variation across industries in incentives to produce innovation in the first instance. While innovation in many industries is primarily motivated by the prospect of financial reward, innovation in certain industries springs...