ECO320H1 Chapter Notes - Chapter 5: Maximum Sustainable Yield, Economic Efficiency, Common Rule
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Chapter 5: Topics in the Economics of Property Law
•Information has some features of a public good.
•Intellectual property law creates property in information and consists of four
oPatent system: establishes ownership rights to inventions, processes, and
other technical improvements.
oCopyright system: grants ownership rights to authors, artists, and
oTrademark system: establishes ownership for distinctive commercial
marks or symbols that uniquely identify an individual’s or organization’s
oTrade secrets: deals with business practices in which commercial
enterprises have a property interest.
•Innovation causes wealth to grow and improve in a country.
•An economic innovation provides a better way to make something or something
better to make.
oA better way to make something
lowers it’s cost; supply curve shifts
down to the right
consumers gain more consumer surplus.
oSomething new to make
consumers will buy the new goods.
•Joseph Schumpeter called innovation “creative destruction”.
oInnovation could make industries appear, disappear, or restructure.
•A company that innovates gains a competitive advantage, which creates
extraordinary profits as a reward for the innovator for the resources and effort
devoted to the risky activity.
oIn the long run, competition increases and profits fall back to normal
levels as a new equilibrium is reached.
oIn order to foster innovation, the firm needs to be able to earn profits for a
decent amount of time before competition is allowed in to increase
If the period is too short, the innovator is rewarded with too little
for the resources invested and risk assumed and thus the innovator
would refrain from investing.
•Law must intervene.
•Two characteristics of transactions in information that set it apart from
transactions in ordinary private goods.
Information is cheap to transmit but costly to produce (i.e.
producing a music album is cheaper than selling it).
•The buyer of the album can then copy it and resell it and
avoid the production fees.
oIn effect, they try to “free ride” by paying no more
than the cost of transmission.
Nonappropriability essentially says that producers have difficulty
in selling information for more than a fraction of its value.
•This mirrors the nonexcludability characteristic of a public
good (can’t stop people from “free riding”).
•Information is like a public good because it has the two essential characteristics:
One person’s use of an idea does not diminish its availability for
others to use.
Transmission of ideas is cheap so to exclude people from learning
about them would be too costly.
•Due to the two above factors, economists argue private markets will undersupply
creative works that embody ideas, such as science, inventions, books, and
paintings if the market is left unregulated.
•Four remedies to the undersupply mentioned above:
oState can supply or subsidize art and science, especially basic research
This is why the state owns/subsidizes many universities; in many
civil law countries, the state subsidizes courts so they are free to
use by citizens.
There is an expectation that the rich will donate to the arts and
sciences (the US tax system allows for a deduction on taxable
income for the donor because of it).
Charity enjoys a significant advantage over the government
controlling the arts and sciences: donors monitor the use of their
money by their favourite charities more carefully than taxpayers
monitor the government’s use of taxes.
•Monitoring creates waste.
oTrade secrets protection (from contract/tort law)
Trade secrets protection ideally prevents the transmission of
information and allows its producer to appropriate its value.
•I.e. employees who are forced to sign non-disclosure
Trade secrets laws have a major flaw:
•When B signs a NDA with A and B tells C about A’s trade
secrets, A and C do not have privity of contract and thus
unless C knew B breached the NDA or if C induced B to
break it, A has no remedy to stop C from using the
information to its advantage or further spreading the
oOnce it becomes common knowledge, it does not
matter if it is known that a breach occurred for the
info to be leaked, anyone can use it.
oIntellectual property law
An inventor may try to obtain a patent, copyright, or trademark and
will gain exclusive rights for the info he produced.
•When intellectual property rights are effectively enforced, the owner of the right
can use the power of exclusion to extract a price from others.
oThis price will reward the creator, which results in more innovation and
A form of “dynamic efficiency”.
•By effectively enforcing property rights, dissemination of an invention will
increase since the owner need not worry his work will be stolen/copied.
wider use of invention.
A form of “static efficiency”.
•Static efficiency usually doesn’t occur, however, since the owner of the right, in
effect, has a monopoly and will charge too high a price and thus use will be too
oBy narrowing the breadth or shortening the duration of intellectual
property, monopoly profits are often decreased and dissemination
•Broadening/widening the breadth/duration of IP increases incentives for creation
(profits earned) and increases incentives for dissemination.
oBeyond a point, it only gives the monopoly more power and results in less
•To secure an exclusive right to an invention, the inventor must submit an
application to the US Patent Office establishing that the invention is for a “new
and useful process, machine, manufacture, or composition of matter, or a new and
useful improvement thereof”.
oThe invention must be non-obvious, must have practical utility, and must
not have been commercialized or known to the public for +1 year before
the date of application.
•A patent gives the owner a 20-year monopoly on the use of the invention.
oFor others to use it, the owner can license the use of the patent in exchange
oUse without consent gives the owner the right to bring action for
infringement and to seek injunctive and legal relief.
•By filing a patent, the information becomes public.
oIf the application is denied, everyone can see how the invention is made
and how it works.
oIf it passes, everyone knows the details of the patent and can try to
engineer around it so as to not infringe.
•Patents create an exclusive property right in an invention with two dimensions: