The Patent Controversy

Today one of the most controversial issues in economic policy is that of patent law. Is a patent just an extension of property rights to the realm of ideas? Or is it an unwarranted interference by the government into the rights of individuals who have purchased goods and services to use them as they see fit? Should the Western system of patents be extended worldwide? Or should we get rid of patents entirely? Is the patent system responsible for modern miracle drugs? Or is it to blame for the millions dying of HIV in Africa? Do patents lead to greater innovation and economic growth? Or do they kill the goose that lays the golden egg?

The issue of whether patents are genuine property rights or unwarranted government interference cannot of course easily be answered by a natural experiment. We will leave that discussion to philosophers. The impact of patents on innovation does have an objective answer. In this case history instead of nature has been kind enough to provide us with a wonderful natural experiment. This experiment took place in the county of Cornwall, England, between 1772 and 1852. It was there, in the extreme southwest of England, in the wet depths of the Cornish copper and tin mines, far removed from the supply of coal in Wales, that the steam engine was pioneered.

To examine innovation in steam technology, we need a measure of how good a steam engine is. One important measure is the amount of work delivered by a given amount of fuel. This can be measured by the duty of a steam engine: the number of pounds of water that can be lifted one foot for each 94 pounds of coal consumed.

In 1772 steam engines were of the so-called Newcomen design of which the best had a duty of 10 million foot-pounds (10M). In 1777 Matthew Boulton and James Watt began selling the first steam engines with a separate condenser. These initially had a duty of 18M, rising by 1792 to a peak of 26M. There things rested until 1814 when the use of the high-pressure design of Richard Trevithick led to engines with a duty of 55M. The duty then rose relatively continuously until it reached a peak of 110M in 1852.

To summarize: During the 42 years from 1772 to 1813 duty rose 3.8 percent per year; during the 38 years from 1814 to 1852 duty rose more than twice as fast—8.5 percent per year. The evolution of the duty is charted in the figure. The state of innovation is best represented by the best engine currently being produced, but for completeness the average and minimum duty of constructed engines is reported. The decline in duty growth after 1852 reflects both the general decline of the Cornish mining industry and the more difficult conditions in which steam engines were forced to operate due to the deepening of the mines.

As it happens there is one critical difference between the earlier period and the later period. By patenting the separate condenser Boulton and Watt, from 1769 to 1800, had almost absolute control on the development of the steam engine. They were able to use the power of their patent and the legal system to frustrate the efforts of engineers such as Jonathan Hornblower to further improve the fuel efficiency of the steam engine. By way of contrast, and fortunately, Trevithick did not patent his equally innovative high-pressure design.

Ironically, not only did Watt use the patent system as a legal cudgel with which to smash competition, but his own efforts at developing a superior steam engine were hindered by the very same patent system he used to keep competitors at bay. An important limitation of the original Newcomen engine was its inability to deliver a steady rotary motion. The most convenient solution, involving the combined use of the crank and a flywheel, relied on a method patented by James Pickard, which prevented Watt from using it. Watt also made various attempts at efficiently transforming reciprocating into rotary motion, reaching, apparently, the same solution as Pickard. But the existence of a patent forced him to contrive an alternative less-efficient mechanical device, the sun and planet gear. It was only in 1794, after the expiration of Pickard’s patent, that Boulton and Watt adopted the economically and technically superior crank. The impact of the expiration of Watt’s patents on his empire may come as a surprise as well. Far from being driven out of business, Boulton and Watt for many years were able to charge a premium over the price of other steam engine manufacturers.

Here we see clearly the upside and the downside of the patent system in action. The upside is that it may be the case that the prospect of a 31-year monopoly induced Watt to spend three and a half years of his life—between late 1764, when he first was asked to repair a steam engine, and mid-1768, when he applied for patents on his improved design—working to improve steam technology.

The downsides are two. The first is that the reward to success bears no relation to the cost of invention. In what respect is it necessary, reasonable, or fair to grant a 31-year monopoly and make a man fabulously wealthy because he spent a few years working on a project that benefited his fellow man? Certainly this kind of inducement was not needed for Trevithick, whose contribution to steam technology raised the duty 110 percent as against Watt’s contribution, which raised the duty only 80 percent.

The second downside of the patent system is the devastating effect it has on incremental innovation. From 1786 to 1800 there was no increase in the duty of steam engines at all, as Boulton and Watt successfully sought to prevent competition by suppressing innovation. This should be a cautionary note for people who think that the current wave of patent litigation triggered by a system of software patents created by the courts is likely to have a beneficial impact on software innovation.

Collaborative Innovation

For the 11 years following the end of the Boulton and Watt monopoly, Cornish mining activities underwent a period of slackness, as the mine adventurers were content with the financial relief coming from the cessation of the premiums they had paid to Bolton and Watt. As a consequence they neglected the maintenance and the improvement of their engines. This situation lasted until 1811, when a group of mine captains decided to begin the publication of a monthly journal reporting the relevant technical characteristics, the operating procedures, and the performance of each engine. Their explicit intention was twofold. First, the publication of the reports permitted the rapid individuation and diffusion of best-practice techniques. Second, it introduced a climate of competition among the engineers entrusted with the different pumping engines, with favorable effects on the rate of technical progress. Joel Lean, a highly respected mine captain, was appointed as the first engine reporter. The journal would later be called Lean’s Engine Reporter. During the 31 years after 1811 this collaborative competitive effort at innovation raised duty by more than the great “breakthrough” of Watt ever did.

It is worth remarking another important feature of the process of technical change in Cornish engines during the collaborative period. Most engines were single-cylinder, high-pressure, single-acting engines, with a plunger pump of the type originally erected by Trevithick in 1812. Interestingly enough, however, alternative designs were never completely ruled out. For example, in different periods, engineers such as Arthur Woolf and James Sims continued to experiment with compound engines. Throughout this period, the development of the Cornish engine remained a fluid state and this facilitated a more thorough exploration of alternative designs.

The astute reader will no doubt notice that the collaborative innovation occurring after the expiration of the Watt patents resembles nothing so much as modern open-source software development. Like with open-source software, altruism and socialism played no role—just good old-fashioned capitalist incentives. Engineers were recruited by captains of the mine on a one-off basis to build and design an engine. Engineers were in charge of the design and they supervised the erection of the engine that was commissioned to them. They also provided directions for day-to-day working and maintenance of the engines they were entrusted with. Thus the publication of technical information concerning the design and performance of different steam engines permitted the best engineers to consolidate their reputation and improve their career prospects. Over time, this practice gave rise to a professional ethos favoring sharing and publication of previous experiences.

Much of the free/open-source-software industry operates this way today, with software engineers competing for future business through the quality of their current innovations. Sharing of information is a key part of this competition. If Linus Torvalds, creator of the Linux kernel, is not nearly so rich as Bill Gates, he is nevertheless richer than most of us. (See Michele Boldrin and David K. Levine, “Open-Source Software: Who Needs Intellectual Property?” The Freeman, January 2007.)

Even the modern controversy over the current effort of the Free Software Foundation to limit software patents through the General Public License Version 3 finds reflection in the earlier Cornwall experience. Familiar with the negative impact of the Watt patents on innovation, Cornwall mine engineers were reluctant to patent their inventions. From 1781 to 1852 Cornish residents took out a grand total of 15 patents on steam technology—against 994 patents on steam technology in all of England during that period. Will it surprise you to learn that the area with the fewest patents also was the area that contributed the most to the innovation and development of steam technology?

One may wonder why development in an obscure corner of England should draw our attention. As it happens, the design of fuel-efficient high-pressure steam engines did not only serve to improve the efficiency of pumping water out of mines in one small region. It is the fact that efficient high-pressure engines can be made light and compact and do not require much weight of fuel that made possible such modest advances as . . . the steam train, the steam boat, the steam jenny, and the steam just-about-everything-else. In short—the steam engine that we imagine as the centerpiece of the Industrial Revolution, the key link that took us from riding horses to being frequent fliers—was not the product of the inventive genius of James Watt. When the Boulton and Watt monopoly expired in 1800 steam engines were used only to pump water out of mines. The earth-shattering innovation of widely usable steam engines was the product of the efforts of Joel Lean and dozens of other equally anonymous Cornwall mining captains and engineers. It is equally a tribute to their steady innovation without making use of patents.

Related posts:

1. Patents and Monopoly Privilege
2. The Gridlock Economy: How Too Much Ownership Wrecks Markets, Stops Innovation, and Costs Lives
3. Thank You, Internal-Combustion Engine, for Cleaning up the Environment

In an article in last June’s Freeman, I applied some ideas from the socialist-calculation debate to the private corporation and examined the extent to which it is an island of calculational chaos in the market economy. I’d like to expand that line of analysis now and apply some common free-market insights on knowledge and incentives to the operation of the corporate hierarchy.

F. A. Hayek, in “The Use of Knowledge in Society,” used distributed, or idiosyncratic, knowledge—the unique situational knowledge possessed by each individual—as an argument against state central planning.

Milton Friedman’s dictum about “other people’s money” is well known. People are more careful and efficient in spending their own than other people’s money, and likewise in spending money on themselves more so than in spending money on other people.

A third insight is that people act most efficiently when they completely internalize the positive and negative results of their actions.

The corporate hierarchy violates all of these principles in a manner quite similar to the bureaucracy of a socialist state. Those at the top make decisions concerning a production process about which they likely know as little as did, say, the chief of an old Soviet industrial ministry.

The employees of a corporation, from the CEO down to the worker on the shop floor, are spending other people’s money, or using other people’s resources, for other people. Its managers, as Adam Smith observed 200 years ago, are “managers rather of other people’s money than of their own.”

By its nature, the corporation substitutes administrative incentives for what Oliver Williamson called the “high powered incentives” of the market: effort and productivity are separated from reward. As Ronald Coase observed some 70 years ago,

If a workman moves from department Y to department X, he does not go because of a change in relative prices, but because he is ordered to do so. . . .

It can, I think, be assumed that the distinguishing mark of the firm is the supersession of the price mechanism.

So why is all this the case? Why does the corporation systematically abandon the basic knowledge and agency benefits of a free market, and rely on the same kinds of central planning and bureaucratic incentives that free-market advocates rightly attack on the part of the state? Why does the corporation function, internally, as an island of nonmarket operations?

A classic essay by C. L. Dickinson, “Free Men for Better Job Performance,” was reprinted in the same issue as my article. Dickinson described the harmful effects of the managerial revolution and the bureaucratic style of corporate governance. He quoted Douglas McGregor (The Human Side of Enterprise): “Many managers agree that the effectiveness of their organizations would be at least doubled if they could discover how to tap the unrealized potential present in their human resources.”

Unfortunately, the structural preconditions of the present system rule out, from the start, an organization which can tap that potential. The system starts from the legacy of a historical process (called “primitive accumulation” by radical historians of various stripes) by which the land was stolen on a large scale from the peasantry in the early modern period. The process included the enclosure of open fields, the legal nullification of copyhold and other traditional tenure rights, and the Parliamentary Enclosures of common land.

As Murray Rothbard observed, whenever we witness a majority of peasants paying rent to a small class of “owners” for access to the land they cultivate, it’s a safe guess the cultivators are the rightful owners and the landlords’ “property rights” are some sort of feudal legal fiction stemming from conquest or privilege. The effect of the assorted “land reforms” of the early modern era was to transform the landed oligarchy’s “property” in feudal legal fiction into a modern freehold right and reduce the rightful owners to at-will tenancy. The result of these expropriations was to drive the majority of peasants off the land, deprive them of independent access to the means of production and subsistence, and force them into the wage-labor market—at the same time as their former property was consolidated into the hands of the plutocracy.

As the industrial revolution developed in England, further accumulation of wealth by the owning classes was fostered by state-enforced unequal exchange, the result of coercive state restrictions on the free movement, free association, and freedom to bargain of the laboring classes. These included the Laws of Settlement (a sort of internal passport system restricting the movement of labor in search of better wages) and the Combination Laws.

Subsidizing Centralization

The state’s entry barriers, like licensing and capitalization requirements for banks, reduce competition in the supply of credit and drive up its price; enforcement of artificial titles to vacant and unimproved land has a similar effect. As a result, labor’s independent access to capital is limited; workers must sell their labor in a buyer’s market; and workers tend to compete for jobs rather than jobs for workers.

State subsidies to economic centralization and capital accumulation also artificially increase the capital-intensiveness of production and thereby the capitalization of the dominant firm. The effect of such entry barriers is to reduce the number of employers competing for labor, while increasing the difficulty for small property owners to pool their capital and create competing enterprise.

The cumulative legacy of these past acts of state-assisted robbery, and ongoing state-enforced unequal exchange, determines the basic structural foundations of the present-day economy. These include enormous concentrations of wealth in a few hands, the absentee ownership of capital by large-scale investors, and a hired labor force with no property in the means of production it works.

Necessarily, therefore, the absentee owners must resort to the expedients of hierarchy and top-down authority to elicit effort from a workforce with no rational interest in maximizing its own productivity. Oliver Williamson’s concept of “satisficing” is relevant here. Workers have an interest in maintaining just enough productivity to keep their jobs and increasing it enough to earn whatever limited administrative rewards are available, but no rational interest in maximizing it per se, because any additional increase in productivity beyond the minimum will likely be appropriated by management.

Hierarchy necessarily results in the divorce of effort from reward, and of productive knowledge from authority. Each rung of authority interferes in the efforts of those who know more about what they’re doing; each rung of authority receives only information filtered from below based on what it wants to hear; and each rung of authority is accountable only to those higher up the chain of command who are even more unaccountable and out of touch with reality. The hierarchy, in short, is a textbook illustration of the zero-sum situation that results from substituting power for market relations.

The obvious solution, the worker cooperative, would—by uniting knowledge with authority and reward with effort—slice through the overwhelming majority of the hierarchical corporation’s knowledge and agency problems, like a sword through the Gordian knot. The distributed knowledge of those engaged in production would be applied directly to the production process on their own authority, without the intervention of suggestion boxes and “quality improvement committees.” The problem of socially engineering the wages and benefits system so as to “encourage people to work” would disappear; the elimination of privilege and unearned income, and the receipt by labor of its full product, would tie reward directly to effort.

But this solution is ruled out by the system’s structural starting assumptions: concentrated wealth and absentee ownership. So the hierarchical corporation is adopted as a sort of Rube Goldberg expedient, the most rational means available given fundamentally irrational presuppositions.

Market Outside, Planning Inside

The corporate hierarchy also interferes with efficiency in another way: by substituting planning for market relations. Internally the corporation replaces market exchange with central planning. The simulated prices used by its internal accounting system, necessarily, are largely fictitious. Even when they use outside market prices as a proxy, the conditions under which those outside prices are set do not match the relations of supply and demand within the corporation. But more often, internal transfer prices are assigned to goods for which there is no outside market, like intermediate goods unique to a firm; in that case, the prices are based on cost-plus markup. As Seymour Melman has observed in the case of Pentagon contractors (The Permanent War Economy), cost-plus pricing creates perverse incentives to maximize, rather than minimize, costs.

The ideal, in terms of efficiency, is the allocation of goods entirely by a genuine price mechanism, with a minimum of vertical integration. Insofar as the production process involves a series of discrete, severable steps, the best way of avoiding information and incentive problems may be to relate the separate steps to one another by contract—especially if each step, organized under a separate firm, takes the internal form of a worker cooperative.

Each step, although a black box to those outside, is from an inside perspective ideally suited to aggregating all relevant information for consideration by a single group of decision-makers. In a self-managed enterprise, the same elected management that considers the relative prices of different productive inputs, and the price of the finished product, is also experienced in the actual production process in which the inputs are used. They are most qualified, of all people, to decide both the relative priority by which productive inputs ought to be economized, and the most effective technical methods of organizing production in order to economize those inputs (that is, combining Mises’s “entrepreneurial” and “technical” functions without the intermediation of several layers of pointy-haired bosses).

Just as important, unlike a production unit within a corporate hierarchy, the production workers within an independent producers’ co-op fully internalize all the costs and benefits of their production decisions. Unlike the case within a corporate hierarchy, there is no conflict of interests resulting from the decision-making by managers who stand to reap the benefits of increased productivity while workers suffer only the increased burden of speedups and downsizing. For a self-managed production unit, any decision concerning production methods will be a tradeoff of costs and benefits, all of which are fully internalized by the decision-makers.

From an outside perspective, on the other hand, contracting firms are able to make a virtue of necessity in treating a particular stage of production—organized as a separate firm—as a black box. The outside contractor and the internal corporate hierarchy, equally, are ignorant of goings-on inside the black box. The difference is that an outside contractor, unlike the apparatchiks in a corporate hierarchy, has no need to know what’s happening in the internal production process, and no power to interfere with what he doesn’t understand. So long as the inputs (likely in money terms) are specified by contract and the outputs are verifiable and enforceable, what goes on inside the box isn’t the contractor’s problem.

If the ideal contract is Ian R. MacNeil’s “sharp ins by clear agreement, sharp outs by clear performance,” then it is far simpler and less costly to simply monitor the contractually specified “ins” and “outs” going across firm boundaries than to monitor the internal use of inputs within the production process. The contracting party has no need to worry about the internal efficiency of the production process because it has effectively outsourced the responsibility for decisions on how best to organize production to those engaged in production. And the other firm, if cooperatively owned by self-managed workers, is uniquely qualified to organize production most efficiently given the specified ins and outs. Both the authority to organize production, and the productivity benefits from doing so in the most efficient manner, have been internalized by those who have the most direct knowledge of the production process.

But—again—the state’s intervention in the market raises almost insurmountable barriers to this form of organization. The state artificially promotes hierarchy at the expense of markets by subsidizing the input costs of large-scale enterprise and by protecting large corporations against the competitive ill effects of inefficiency. It subsidizes long-distance transportation and thus artificially inflates market and firm size. Its differential tax advantages for corporate debt and capital depreciation (or more accurately, its differential tax penalties on those not engaged in such activities) encourage mergers, acquisitions, and excessively capital-intensive forms of production with high entry costs. Its cartelizing regulations, in addition, limit competition in product features and quality. Thus the boundary between hierarchy and market is artificially shifted so that the dominant firms are far larger, more hierarchical, and more vertically integrated than they would be in a free market.

The state’s so-called “intellectual property” laws, especially, are a powerful force for cartelization. Many oligopoly industries were created by controlling patents (for example, AT&T was based on the Bell patent system) or exchanging them (GE and Westinghouse). Patents also enable corporations to restrict the supply of replacement parts for their goods and thus render artificially expensive the choice to repair an old car or appliance as an alternative to buying a new one. This facilitates a business model based on planned obsolescence, large production runs, and “push” distribution.

“Intellectual property” also artificially promotes hierarchy even in industries where the minimum level of capitalization has ceased to be an effective barrier to self-employment. One of the original justifications for corporate hierarchy was that the enormous scale of even the minimum capitalization, in entertainment and information, was an entry barrier: To start a newspaper, radio station, movie studio, publishing house, or record company required, at minimum, an outlay of several hundred thousand dollars. As a necessary result, media and entertainment were concentrated in the control of a few gatekeeper corporations.

Revolutionary Change

But as Yochai Benker observed in The Wealth of Networks, the digital revolution has reduced the cost of the basic item of capital equipment—the personal computer—to under a thousand dollars. And supplemental equipment and software for very high-quality desktop publishing, sound editing, podcasting, and so on can be had for a few thousand more. The ability to replicate digital information on the Internet, at zero marginal cost, renders the corporate dinosaurs’ marketing operations obsolete.

The gatekeepers’ only remaining basis for power is the state’s “intellectual property” monopolies—which explains why Microsoft, the RIAA, and MPAA have pursued such draconian copyright legislation to protect themselves from market competition. The intrusive DRM (digital rights management) used by Microsoft and the entertainment companies, and the legal penalties for circumventing it, in effect outlaw precisely what computers are made for: the replication and exchange of digital information. Without copyright and patent monopolies, peer production by self-employed information and entertainment workers would likely be the norm in software, music, and publishing. (It’s probably no coincidence, by the way, that industries dependent on such “intellectual property” monopolies are the main profitable sectors in the global economy. It’s a case of artificial “comparative advantage,” created by state-erected barriers to the diffusion of knowledge and technique. The most profitable industries are those whose profits amount to rents or tolls for access to artificial property.)

The problem is not hierarchy in itself, but government policies that make it artificially prevalent. No doubt some large-scale production would exist in a free market, and likewise some wage employment and absentee ownership. But in a free market the predominant scale of production would likely be far smaller, and self-employment and cooperative ownership more widespread, than at present. Entrepreneurial profit would replace permanent rents from artificial property and other forms of privilege. Had the industrial revolution taken place in a genuine free market rather than a society characterized by state-backed robbery and privilege, our economy today would probably be far closer to the vision of Lewis Mumford than that of Joseph Schumpeter and Alfred Chandler.

Related posts:

1. Market-Share Sophisms
2. Enron and the Law of the Market
3. The Vanity of the Philosopher: From Equality to Hierarchy in Post-Classical Economics

Many people believe they should be allowed to reproduce and “share” copyrighted material free of charge, some because they don’t want to pay for the privilege and others because they believe it is wrong to grant monopolies to authors, composers, musicians, or anyone at all for that matter. But there is more to the problem than monopoly.

Mises once said, more or less facetiously, that while he had known book authors who opposed patents because of the monopoly privilege they give inventors, he had never known a book author who opposed copyrights because of the monopoly privilege copyrights give authors. Mises may have had Murray Rothbard in mind, for in Man, Economy, and State and Power and Market, Rothbard defended copyrights and criticized patents. Rothbard said it was possible for an inventor independently to come up with precisely the same invention that someone else had developed earlier and had already patented. In that case, the earlier inventor would receive patent protection and the other would be out of luck. Rothbard considered that unfair.

However, Rothbard said it was inconceivable that a second author would ever succeed in arranging words in the same order as they had appeared in a previously published book without having knowledge of the earlier book. Being a unique production, a book is entitled to copyright protection.

Mises, of course, didn’t talk about monopoly itself as being “good” or “bad.” Monopolies could exist on a free market in the rare case when the owner of a factor of production controlled the total supply of that factor. And in the even rarer case that the demand for a monopolist’s product was such that buyers were willing to pay an above-market price for it, he might be in a position to reap a greater financial gain by restricting production and selling fewer units at a higher price per unit. Mises considered this perhaps the only instance in which producers could violate consumer sovereignty with impunity.

The case of government-created and/or government-protected monopolies was another matter. He didn’t discuss them from the point of view of their “morality” or “immorality,” however. He simply talked about their economic aspects, saying that government-granted monopoly privileges change the situation by introducing coercion into the picture. Such privileges make consumers pay higher prices for the monopolized good or service and force them to restrict their consumption of other things. Government grants of patent and copyright protection are examples.

However, it appears from what Mises wrote in Human Action that he wasn’t opposed to copyrights and patents as such. A patent or copyright is defined as an agreement on the part of the government to protect the property rights of an inventor or author to his creation for a certain period of time. The inventor or author pays a price for this protection: he agrees to turn his creation over to the public, at no cost, when the protection expires.

Now if the government is to protect property, it must define that property.

Technological development is nothing new, and when it affects the character of a form of property, it inevitably requires the refining and redefining of the rights of individuals to their private property. The copyright laws have had to be revised and adapted whenever new methods of production and reproduction were developed. The Encyclopedia Britannica says that according to Roman law, when a person wrote words on a parchment, the composition belonged to the owner of the blank materials. This definition of ownership must have arisen when monks copied manuscripts laboriously by hand, letter by letter, on valuable parchment sheets furnished by their monastery.

The Development of Printing

When printing came along and books could be copied more cheaply, the question of property rights became more urgent. However, William Blackstone (1723–1780), the authority on British law, said the rights of an author “being grounded on labor and invention” were “too subtle and unsubstantial a nature to become the subject of property and the common law, and only capable of being guarded by positive statutes and special provisions of the magistrate.”¹ Copyright was looked on as “a doubtful exception to the general law regulating trade,” which at that time was generally opposed to monopoly.

Again according to the Britannica, British law began to protect intellectual property with copyrights in 1709 as “in the nature of personal property. . . . A man’s own work, in this view, is as much his as his house or his money, and should be protected by the state.”² This, of course, puts the onus on the government to define what personal property is copyrightable.

James Madison, fourth president of the United States, had been a participant in the 1787 constitutional convention in Philadelphia. The U.S. Constitution that he helped to write gave Congress the power to secure “for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries.” Several years later, Madison, when listing the various forms of property the government was “instituted to protect,” included a person’s intellectual property, his “opinions and the free communication of them . . . [their] enjoyment and communication.”³

By the nineteenth century, the idea that published books would be copyrighted was widely accepted. Washington Irving, after whom Irvington-on-Hudson, New York, was named, was one of the first American authors to earn a living from royalties received from his books, although not a handsome living—he was usually close to broke. Charles Dickens was another prolific author who relied on the royalties his books earned under British law. His attitude toward America turned somewhat negative when pirated versions of his books were published in the United States.

It may be impossible to describe all the changes that have been made in copyright law over the years in response to the different ways copyrighted material might be disseminated. Adjustments have been made from time to time. For instance, arrangements were worked out over several decades to compensate musicians whose works were played on mass-produced recordings, in movies, and on radio and TV broadcasts. And as photocopy machines proliferated, it was determined that copying excerpts from copyrighted works for reference, research and study fell within the law’s “fair use” principle.

The government’s protection of an author’s or an inventor’s creation makes it possible for the creator to ask a monopoly price. Although monopoly prices generally benefit sellers, harm buyers, and infringe the supremacy of the consumers’ interests, Mises saw copyrights and patents as an exception to this rule. He wrote in Human Action—and here I quote with some interpolation in brackets:

If on a competitive market one of the complementary factors, namely f [a recipe or invention], needed for the production of the consumers’ good g, does not attain any price at all, although the production of f requires various expenditures and consumers are ready to pay for the consumers’ good g a price which makes its production profitable on a competitive market, the monopoly price for f becomes a necessary requirement for the production of g. It is this idea that people advance in favor of patent and copyright legislation. If inventors and authors were not in a position to make money by inventing and writing, they would be prevented from devoting their time to these activities and from defraying the costs involved. The public would not derive any advantage from the absence of monopoly prices for f. It would, on the contrary, miss the satisfaction it could derive from the acquisition of g.⁴

External Economies

Later in the book Mises discussed patents and copyrights further, pointing out their “external economies,” that is, the benefits they furnish to persons other than those who produced the protected material.

The extreme case is shown in the “production” of the intellectual groundwork of every kind of processing and constructing. The characteristic mark of formulas, i.e., the mental devices directing the technological procedures, is the inexhaustibility of the services they render. These services are consequently not scarce, and there is no need to economize their employment. Those considerations that resulted in the establishment of the institution of private ownership of economic goods did not refer to them. They remained outside the sphere of private property not because they are immaterial, intangible, and impalpable, but because their serviceableness cannot be exhausted.

People began to realize only later that this state of affairs has its drawbacks too. It places the producers of such formulas—especially the inventors of technological procedures and authors and composers—in a peculiar position. They are burdened with the cost of production, while the services of the product they have created can be gratuitously enjoyed by everybody. What they produce is for them entirely or almost entirely external economies.

If there are neither copyrights nor patents, the inventors and authors are in the position of an entrepreneur. They have a temporary advantage as against other people. As they start sooner in utilizing their invention or their manuscript themselves or in making it available for use to other people (manufacturers or publishers), they have the chance to earn profits in the time interval until everybody can likewise utilize it. As soon as the invention or the content of the book are publicly known, they become “free goods” and the inventor or author has only his glory.⁵

Mises went on to say that this problem has nothing to do with the genius who creates out of the sheer urge to do so; he does not wait for encouragement. But:

It is different with the broad class of professional intellectuals whose services society cannot do without. . . . [I]t is obvious that handing down knowledge to the rising generation and familiarizing the acting individuals with the amount of knowledge they need for the realization of their plans require textbooks, manuals, handbooks, and other nonfiction works. It is unlikely that people would undertake the laborious task of writing such publications if everyone were free to reproduce them. This is still more manifest in the field of technological invention and discovery. The extensive experimentation necessary for such achievements is often very expensive. It is very probable that technological progress would be seriously retarded if, for the inventor and for those who defray the expenses incurred by his experimentation, the results obtained were nothing but external economies.⁶

Controversy Continues

Mises understood that patents and copyrights are controversial. “They are considered privileges, a vestige of the rudimentary period of their evolution when legal protection was accorded to authors and inventors only by virtue of an exceptional privilege granted by the authorities. They are suspect, as they are lucrative only if they make it possible to sell at monopoly prices. Moreover, the fairness of patent laws is contested on the ground that they reward only those who put the finishing touch leading to practical utilization of achievements of many predecessors. These precursors go empty-handed although their contribution to the final result was often much more weighty than that of the patentee. . . . [T]his is a problem of the delimitation of property rights. . . .”⁷

It should be noted that merely because copyright grants a monopoly privilege to the producer of intellectual property, there is no guarantee that buyers will pay a monopoly price should the producer choose to ask it. Many books, poems, and musical compositions don’t sell well, or may not sell at all, and their authors and publishers may suffer losses. As Mises wrote, “Under copyright law every rhymester enjoys a monopoly in the sale of his poetry. But…[it] may happen that . . . his stuff . . . can only be sold at their waste paper value.”⁸

Also, the producers of some copyrighted intellectual property, eager to spread their ideas, readily grant reprint permission for free. For instance, this is true of most articles in The Freeman.

With the new technological developments that now make it so easy to reproduce and “share” musical compositions, we are entering a whole new ball game. Without copyright protection, musicians, authors, and composers are in the position of having to bear all the costs of production while the benefits go to others. Thus the new technology calls for further refinement of the rights of private property owners.

Contributing editor Bettina Bien Greaves was a long-time FEE staff member, resident scholar, and trustee. She attended Ludwig von Mises’s New York University seminar for many years and is a translator, editor, and bibliographer of his works.

Notes

1. Encyclopedia Britannica, 11th ed., 1910, vol. 7, p. 118.
2. Ibid.
3. James Madison, “Property,” March 27, 1792; http://press-pubs.uchicago.edu/founders/documents/v1ch16s23.html.
4. Ludwig von Mises, Human Action (Irvington-on-Hudson, N.Y.: Foundation for Economic Education, 1996 [1949]), pp. 385–86.
5. Ibid., p. 661.
6. Ibid., pp. 661–62.
7. Ibid., p. 662.
8. Ibid., p. 277.

Related posts:

1. Book Review: Mises: An Annotated Bibliography: A Comprehensive Listing of Books and Articles by and About Ludwig von Mises Compiled by Bettina Bien Greaves and Robert W. McGee
2. Patents and Monopoly Privilege
3. Ludwig von Mises: The Political Economist of Liberty, Part II