Intellectual Property and Economic Development (my Mises U 2011 lecture)

by Stephan Kinsella on July 28, 2011

My Mises University 2011 lecture, Intellectual Property and Economic Development (July 27, 2011), is now up. The audio may also be downloaded here; the original PowerPoint slides are here. Streaming audio, video, and a googledocs version of the slides are below. Update: an unedited, raw transcript is also appended below (it will be cleaned up in due course).

 

Mark Thornton:  Our first speaker this morning is Stephan Kinsella.  He is a patent attorney from Houston and the editor of Libertarian Papers.  His lecture this morning is going to be on Intellectual Property and Economic Development.

 

Stephan…

 

Stephan Kinsella:  Thanks Mark.  I’m very glad to be here at the Mises University.  I was here a couple of years ago.  It is always a great thing.  So let me get started.  I have a lot to cover so I will try to go as quickly as possible without going too fast.

 

Most of you should already be familiar with the basic idea of praxeology.  There is a reason I’m going to start with this and it will become clearer in a moment.  Praxeology is the formal study of the implications of the fact that men use means to attain various ends.

 

What we do is we start with incontestable or a priori propositions that are related to human action and its categories.  Primarily, for the purposes of our lecture today, humans employ scarce means to pursue ends.  There are, of course, other categories applied in action such as causality, choice, cost, profit, and loss.

 

Now another aspect of economic analysis is contingent facts.  After we recognize and establish what the a priori categories of action are, we explicitly introduce certain contingent facts to make the analysis interesting.

 

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As Hoppe explains:

“Mises explains the entire body of economic theory as implied in and deducible from a conceptual understanding of the meaning of action plus a few general, explicitly introduced assumptions about the empirical reality in which action has taken place”.

 

So, in other words, we make some assumptions to make the analysis more interesting and more relevant to our lives.  Mises, of course, talks explicitly about this.

 

The branches of praxeology would include both catalytics and Crusoe economics for example. So, for example, we would assume private property rights and a market to make the analysis interesting.  We would assume there is a money society, for example, instead of just barter.  Economic analysis presupposes some legal system as well and a property rights framework.  In a market economy, this include at least private property and scarce resources and related rights like contract and negotiable instruments, promissory notes and debts, service contracts, and so on.  When you see economists reason about a banking system or an economy, they are taking for granted, or they are assuming, that there is in place a certain legal system, a certain respect for private property rights.  These are not a priori assumptions.  These are explicitly introduced background assumptions about the nature of legal rights that are possessed by actors.

 

Economics is just a branch of praxeology, according to Mises.  It is the most developed branch so far.  What other branches of praxeology could there be?  Of course, economics

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can include Crusoe economics and catalytics.  Mieses said that other branches could include the study of war, game theory, and things like this.

 

Roderick Long has a comment that the way we sometimes use economics is so broad that it is basically the same thing as praxeology so it is not clear what types of fields would not be included in economics that would be praxeology.  In any case, you will see Austrians explicity use praxeological analysis and economic analysis to analyze the effects of aggression as well as private property and the free market.

 

For example, Mises analyzes the Hamburg Market economy and State Interventionism.  Rothbard analyzes the effects of violent intervention in the market.  So, in this case, the explicitly introduced assumptions is the existence of a state and certain interventions in the economy that contravene some type of baseline private property rights that we would analyze in a free market economy situation.

 

Now I bring this up because we want to talk about intellectual property.  We need to understand what we mean by the term and how it plays a role in economic analysis.  Over the last couple of centuries, in the Western legal systems, the Western legal systems have protected, along with property rights and scarce resources, so called intellectual property or IP rights.  It is called industrial property in Europe, primarily.

 

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As a general matter, you can think of IP, in the legal sense, as legal rights related to creation of the intellect or the mind.  That is why the word intellect is used.  It traditionally includes four main types:

 

  • Patent
  • Copyright

Patents are basically a monopoly privilege granted by the state covering the exclusive right to make or use or sell an invention.  Think of a mousetrap.

 

A copyright is a similar monopoly privilege to be the exclusive person who can copy or distribute or perform publicly certain original works of expressions like novels or paintings or movies.

 

  • Trademark
  • Trade Secret

Trademark identifies the source of goods.  Like the Coca-cola mark tells you you’re getting the Coca-cola from a certain manufacturer.

 

Trade secrets describe useful knowledge that you keep it secret that helps you gain a competitive advantage and that the state provides certain protections for.

 

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We’re going to focus primarily on patent and copyright.

 

These aren’t the only rights.  These rights arose roughly 200 years ago in the West in a systematic modern form, but, over the years, there have been others added such as boat hold designs, the semiconductor  mask work protection, the trademark law was amended in ’95 to add an anti-dilution right.  Most of you may be familiar with the Digital Millennium Copyright Act of 1998 which has resulted in a lot of these take down notices on YouTube.  There is a No Electronic Theft Act in 1997.  Even the Economic Espionage Act of 1996 have some IP aspects to it.  Of course, there is pending legislation in world wide treaties.  There is the Anti Counterfeiting Trade Agreement which is pending, the Protect IP Act in the U.S..  There is current clamoring for fashion rights.  The fashion industry is not currently protected very much by IP and even database rights.

 

Think of the term intellectual property in two different ways.  It is used in the legal way that I have been describing to describe state granted rights.  It is important here to recognize that patent and copyrights were not originally called property.  Fritz Machlup and Edith Penrose did a famous study in 1950 that explained that those who started using the word property in conjunction with inventions had a very definite purpose in mind.  They wanted to substitute a word with a respectable connotation, property, for a word that had an unpleasant ring, privilege.  So, basically, it was a concerted propaganda campaign to sell these ideas.  There was some opposition among free market economists

 

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and other people to the idea of the government granting these privileges in a systematic way in a modern free market economy to certain people that applied.

 

Now, if you talk to businessmen and investors, they will often use the term IP, or intellectual property, just to refer to the knowledge that their company has or a given target company has.  They don’t really mean patent and copyright.  They’ll talk about “my IP” and they mean their secret sauce or the knowledge that the employees have, the way they have of doing things, what makes them unique.

 

This usage is not incompatible with the free market and it has little to do with the state.  In this meaning, the investor or the businessman would think of patent or copyright as just one legal way of protecting your knowledge, but it is the same thing as it.  For purposes of today’s lecture and for purposes of economic analysis, we need to analyze each type of IP differently.  We need to analyze state interventions that protect knowledge differently than the way we analyze the use of knowledge by actors and by entrepreneurs.

 

Let’s think of what the role of scarce resources and knowledge are in action.  Both scarce resources and knowledge are essential categories of action.  This is why I started with praxeology.  The structure of human action is essential to understand for purposes of seeing the role of knowledge and scarce resources.  So the role of scarce resources in action, of course, is to be a means.  Human action employs scarce means.  A scarce

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means is that which is causally efficacious at achieving your end.  So when you act, whether as an entrepreneur or any individual even doing a non-commercial activity, you have some end in mind, some goal you want to achieve.  You have to select a means that will help you achieve that.  Your action employs that means.

 

These means, as Mises explained, are necessarily scarce.  A scarce means is something that can only be used by one actor at a time.  If two or more actors attempt to use this means, then there is necessarily conflict.

 

What is the role of knowledge in action?  You can think of knowledge as information, recipes as Rothbard called it, ideas.  They are a guide to action. As Mises wrote:

 

“Action is purpose of conduct.  It is not simply behavior, but behavior begot by  judgments of value, aiming at a definite end and guided by ideas concerning the suitability or the unsuitability of definite means”.

-       from Ultimate Foundation of Economic Science

 

Guido Hulsmann also has some good stuff on this as do a lot of other Austrian writers, including Rothbard.

 

I’ll elaborate on this further on in the lecture, but knowledge enriches and expands the universe of ends and means.  This is why it is useful in action.  Let me give a simple

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example.  Imagine that your end is to satisfy your hunger.  This is what Mises might call a felt uneasiness.  You are uneasy at the prospect of not eating something in the near future because you’ll get even hungrier.  You want to satisfy your hunger.  You want to satisfy it in a way that you will enjoy.  You want some delicious food.

 

From your past knowledge and experience, you are aware of the possibility of making a cake.  You are aware that you like cakes.  You are aware that you have ingredients and the ability to make a cake, scarce resources.  You are aware of the technique you would use to make a cake and you are aware of different types of cakes.

 

You consider your ends.  You can make a chocolate cake or a lemon cake.  These are two ends that you consider.  This is where choice comes into play.  The human actor chooses which end he wants to pursue and the one he doesn’t choose would be the opportunity cost of the action.  All these action categories play a role here.

 

Then the actor considers, based upon his knowledge, which means he is going to employ to achieve his end.  He has settled on the lemon cake.  He knows there are different means he can employ to achieve this lemon cake.  He can purchase one from a store.  He could hire somebody to bake it.  He could even steal it from someone.  He could acquire the ingredients or use the ingredients he has at hand and bake the cake himself.

 

 

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He considers these different means and then he makes a choice about what means he uses to achieve his end.  In this way, knowledge guides the actions that humans engage in, guides the selection of means and the selection of ends.

 

Imagine if you acquire more knowledge.  You acquire knowledge of another type of cake, like coconut cake.  Now, if you are aware of this coconut cake, you are aware of three choices instead of two.  Your universe of ends has been expanded by knowledge.  If you prefer coconut to chocolate and lemon, and if you choose the coconut, now you’re better off than before because it is preferable to you over what the lemon was.  This knowledge helps to increase your wealth or your subjective satisfaction.

 

Also, if you know of another way to make a cake or to obtain a cake, because of your technical knowledge, this helps you possibly choose a more efficient way to achieve your end.

 

You can see that the more knowledge that is available, the more efficient action is, the more wealth generating action is because we have more ends and means.

 

A few months ago, Jeff Tucker and I wrote an article trying to classify the role of knowledge and put it in the structure of human action in economic theory, especially Austrian theory. Basically, you can think of the means you use to achieve your ends as scarce goods, but you can think of knowledge, like recipes, ideas, information as non-

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scarce goods.  Of course, there are other things that you could call non-goods.  Scarce non-goods would be something like a mud pie.  It is a scarce resource, but it’s not a good because it’s not useful or poison or some of Jeff Tucker’s examples.

 

A non-scarce, non-good would be something like a bad idea or an awful sound or gibberish text.  It is not useful and it is not scarce.  This is a way to think about the role of knowledge and how to classify knowledge and to contrast it with what scarce resources are.

 

Let’s now think about property rights and scarcity.  Given this understanding of the role of scarce means, what is the purpose of property rights?  The very purpose of property rights is, in response to the scarcity, to make permit conflict avoidance.  It is basically to assign an owner to a given scarce resource so that the resources, the means, can be used productively and cooperatively.  This promotes efficiency in the division of labor.

 

As a simple example, let’s go back to the cake idea.  If I’m baking a cake, if I’m making it myself, I might need a mixing bowl, ingredients, a spoon, my oven, my kitchen, my own body, standing room, time, and knowledge as well.  If I’m making the cake and my neighbor also wants to make a similar cake at the same time, we can’t use the same spoon at the same time.  If he takes my spoon from me, he has deprived me of the ability to make it.  In fact, if we fight over the spoon, we’re both engaged in the activity of conflict and we’re not going to be productively engaged in using the resources.  We’re going to

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be engaged in destruction, and clashing, and war.  So the purpose of property rights is to allocate an owner to the spoon so that it can be used at least by that person productively.

 

But, if my neighbor has his own ingredients, his own spoon, his own mixing bowl and we both know how to make this coconut cake, we can both use the same recipe at the same time.  We don’t need ownership of that recipe in order to use it productively as action.  We can each use that knowledge to guide our actions at the same time. So this is how property rights are used for scarce goods, but they make no sense for knowledge.

 

Given this, what is the nature and the function of the IP rights that the state does grant, that is the monopoly privileges the state does grant in ideas in the form of patent and copyright?  They don’t protect property rights although they are called intellectual property rights.  They restrict the flow of information.  This is what they do.  They restrict the use and flow of information.  You can see from our previous discussion that the more knowledge actors have, the better.  If you restrict it, it can only be harmful to economic productivity.

 

In fact, there is a free market economist who wrote fairly recently in favor of patent and copyright.  He said, to paraphrase the late economist John Robinson, patent and copyright slow down the diffusion of new ideas for a reason, to insure there will be more new ideas to diffuse.

 

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I wouldn’t agree with the latter part of his statement, but he is admitting that patent and copyrights slow down the diffusion of ideas.  This is suppose to be an argument in favor of this.

 

Another advocate of IP, he is not a free market advocate as far as I know, he’s a standard law professor, he wrote:

“Governments adopt international property rights laws in the belief that a privileged, monopolistic domain, operating on the margins of the free market economy, promotes the long term cultural and technological progress better than a regime of unbridled competition”

 

You can see the effect of patent and copyright is basically to protect people who have certain knowledge from competition when they use that knowledge in producing something on the free market.  The entire purpose of patent and copyright is to protect people from competition.  You can see in this quote the fear of “unbridled competition”.

 

I don’t have the best chart here.  I used a free service to try to do this, but you can think of it this way.  This is how most advocates of IP view the world.  On the bottom axis, the horizontal axis, basically they’re afraid of competition being too easy.  If it is too easy for someone to compete with you, then these people think there should be a law in place that will make it harder for people to compete with you: raise the barrier to entry, give you some kind of monopoly for a while, something like that.

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In the case of recipes, which I have in the middle of the bottom, what they see is the need for IP law increases as it gets easier to compete with people.  You can see this is not really a pro free market or a pro competitive idea.  In fact, one wonders if, as competition gets easier in the realm of scarce goods, will these people start advocating protectionist or mercantilist type measures?  Border’s just went out of business because of competition from Amazon.  Competition is getting easier in some ways nowadays, even in the realm of brick and mortar businesses and scarce resources because of the internet, because of expanding division of labor, because of increasing population, because of many developing countries coming into the capitalist system.

 

As we have more competition, the regular economy is going to approach the way the digital or the knowledge economy is.  That is, there will be more competition.  So will the people that advocate IP laws be afraid of this increased competition?

 

One thing to recognize is that this system is administered by the State.  It is no surprise that it does impose waste and cost on the economy in a variety of ways and also because it is the grant of a monopoly privilege which stifles competition.  Here is where you can economically analyze the effect of state IP law.  We can see what kind of results we would expect to see and that we have seen.

 

We would expect to see lots of cost, like:

  • Litigation cost;

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  • Reduced innovation.  If you protect someone from competition, they don’t have to innovate as much;
  • Reduced competition and;
  • The formation of oligopolies

 

Let’s just consider some of these costs here.  One of the costs would be lost innovation.  If a group of companies, or one company, dominates a given field with their early innovations, which they patent, outside companies are prohibited from entering that field.  They are not going to bother to invest resources to innovate in a field they can’t compete in.  So you definitely have lost innovations from patents.

 

The proponents of the patent system would say the patent system incentivizes innovation.  I don’t believe that is true, but even if it does, the point is it definitely also reduces some innovation.

 

The patent system costs billions of dollars a year in addition to any innovation suppression costs.  I have estimated that $41 billion a year in the U.S. because of patents alone.  I think this is very conservative, to be honest.  I wouldn’t be surprised if it was hundreds of billions.  That is just the cost of U.S. patents.

 

Other costs of IP is it helps justify the FDA system and its costs.  These sort of feed on each other.  People say if you have a FDA system that regulates pharmaceutical

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companies, then we need to give these companies a patent monopoly to protect from the increased cost they suffer under the FDA system.  There are arguments that go back the other way.

 

The U.S. system is probably the most draconian patent and copyright system in the world.  I have a link to a blog post here, India Shrugging.  There are some companies now afraid to enter the U.S. market because they are stepping on so many patents, they are afraid they’re going to be sued.  There are some software developers that are now withdrawing their aps from the Apple IOS market.

 

Just to give you a flavor of what this patent system encourages, let’s take a look at some recent patent suits:

  • Lodsys [an Intellectual Ventures-related company] suing Apple IOS developers;
  • The Android smart phone platform is in serious trouble;
  • Apple is suing Samsung over its Galaxy products;
  • Samsung is striking back at Apple with 10 patents of its own;
  • Microsoft is demanding that Samsung pay $15 royalties from every Android phone it sells
  • On the other hand, Microsoft is on the receiving end sometimes of these patents.  i4i  recently won $300 million from Microsoft in a patent infringement claim.

 

 

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  • Just in the last month or two, Nortel went bankrupt and had 6000 patents that were being auctioned.  Google first bid $1 billion, or the square root of $2 billion.  Then they bid $2 billion something.  Then they bid ? billion, $3.14 billion for the patents and still lost.  A consortium of rival smart phone makers primarily (RIM which makes the Blackberry, Microsoft which makes the Window phone, Apple the iPhone, and others) came together in a consortium and bid $4.25 billion in the biggest patent sale in history to buy these 6000 patents.

 

The reason they did it was because Google doesn’t have a lot of patents.  Google is one  of the least offensive companies in this regard.  Let’s say Google has 700 patents.  Google and their Android platform is vulnerable to be sued by rivals like Apple, as we see in the earlier bullet points higher on the page.

 

Google wanted these 6000 patents, not to go around suing people and extorting money from people, not for shakedown purposes, but it’s like a porcupine defense.  Google wanted to have a big arsenal of patents to make Apple and Microsoft, RIM and others afraid to sue them.  If Apple sues Google for patent infringement, then Apple knows that Google can pore through its 7000 high stack of patents and find something that Apple might be infringing and countersue them. So, basically, all these large companies have these patents solely to keep each other from suing each other.  Of course, the small guys on the outside have no defense.  They have no porcupine quills.  They can be sued by anyone inside this sort of walled garden, so they don’t enter the field.  They’re afraid to.

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Moreover, if they are sued, they can’t even afford the $3 million legal fees, not to mention the $300 million damage award if they were to lose.  You can see what this does.  It creates oligopolies, oligopolized industries, who are protected from competition by raised barriers to entry.

 

In any case, these companies bid $4.25 billion just to keep Google from having a defensive shield.  This is one case where our normal opposition to the FTC and the anti-trust law might be a little bit…I wouldn’t cry if the FTC were to look at this consortium of Apple, Microsoft, Sony, RIM, and others using the monopoly granted by the state, the patents in a monopolistic way, although we can’t endorse that.

 

RIM, on the other hand, struck a licensing deal with Intellectual Adventures, one of these patent trolls, for $30,000 of their IP assets.  RIM, the Blackberry maker, had previously had to pay $600 million to NTP for patent infringement.  Most of these companies are being hurt and helped by the patent system, although, overall, they’re being helped in the sense that outside competition from small upstarts is quashed.

 

There are some other results.  This is a slightly older chart, showing just some of the patent lawsuits in the mobile smart phone area as of a couple years ago.  This is not the free market.  I just updated this last night.  Just yesterday, Google’s General Counsel, Kent Walker, said, because they lost this ? billion dollar bid for the Nortel patents, he said software patents are kind of gumming up the works of innovation.

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I just wonder kind of and just software patents?  I guarantee that the patents that Apple and RIM and Microsoft have are not just software patents that they’re targeting the Android system with.  The problem is with patents in general, not just software patents.

 

What other costs of IP are there?  They are also used to justify restrictions on free trade, even by Libertarians and free market economists.  In the case of the drug re-import situation.  The FDA regulates drugs.  It only authorizes approved drugs to be sold.  They’re usually patented.  The manufacturers in the U.S. will export them to other countries like Canada which have price controls. So they have to sell these drugs at a reduced price in Canada.  We’ll not in favor of price controls, but evidently Bayer and others think they can make a profit selling it at $100 instead of $300 or whatever.  You have a drug that has been legally manufactured and sold to a buyer in Canada.  This drug is then re-imported to the United States and re-sold.  This is just arbitrage.

 

It doesn’t violate the patent law because there is something called exhaustion doctrine which means the maker can only take one bite out of the apple.  When they sold it legally in Canada, they had already exhausted their patent monopoly, so they can’t complain about it that way.  So, of course, what they do is they get the FDA to block the import, saying we haven’t approved it yet, even though it is the same drug by the same company that is approved in the U.S., but it is sold in Canada first so it is not approved here.  You have free market economists, Richard Epstein, Doug Bandow from CATO, Michael Krause, arguing against re-importation of drugs, arguing that the federal government,

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through the FDC, or other means, should prohibit free trade because it would be a way of getting around the patent rights of U.S. pharmaceutical companies.

 

You can see how this patent mentality corrupts even the free trade bonafides of the Libertarians and free market economists.

 

It also leads to calls for extensions of the patent system, I mentioned earlier fashion is being lobbied for it now, and American and Western imperialism internationally through the World Trade Organization and this ACTA Treaty.  They are trying to twist the arms of other countries, Russia, China, India, to adopt the American style IP law.  They’re trying to extend it to other fields like fashion, even mixed drinks, bartenders want that, recipes, newspaper headlines in Germany; they want a copyright on the headline of a newspaper article.

 

They’re expanding the penalties.  It’s like the drug war.  They always want to ramp up the drug war: impose the death penalty, put people in jail for longer times.  The same thing is going on here as people are more and more able to evade IP law, especially with the internet encryption, torrenting, file sharing.  What they’re doing is they’re trying to increase the penalties, including no due process, administrative accusation of three strikes and you’re out and you’re banned from the internet for life.  These kinds of things are coming.  It’s scary.

 

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What about other costs of IP?  First of all, it makes everyone a criminal, a criminal. There is a study by John Tehranian.  He estimates, by typical activities most people that have access to the internet engage in every year, we each rack up a liability of $4.5 billion a year, each person.  This is not an exaggeration.  This is literally true.  This is the effect of these laws.  You can see it in some of the notorious examples we have seen, Jamie Thomas, a single mother, who downloaded 18 songs and ended up losing and being fined millions of dollars; things like this.

 

It also leads to calls for federal government stimulation of innovation through taxes.  After all, the argument is, if we don’t have patent and copyright law, there will be sub-optimal production of songs and music and inventions.  In some ideal world, we are going to have this much, but we only have this much because of market failure, the public goods problem.  So the government comes in and gives these monopolies and raises the level back to where it should be.

 

How do we know that we are at the optimal level?   Maybe the patent system helps get us to a higher level of innovation, but not quite high enough.  Maybe the real ideal level is even higher.  In fact, this is what a lot of IP advocates call for.  They call for the federal government to tax people, collect the money, give it to a panel of government appointed experts and bureaucrats and look around the country and see whose innovation that year is deserving of a little reward and hand out the rewards.  In fact, even some free market economists have called for a $80 billion a year taxpayer funded innovation prize just for

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medical technology, just for medical.  If you think of all the areas that patents cover, chemical, electrical, software, business methods, and if you think about other types of IP, copyright, if you scale this up, it could be trillions a year, trillions a year, of taxpayer robbery to incentivize innovation even beyond what the patent monopoly could do.  In fact, one of these free market guys even supports, for the arts, what he call artistic freedom vouchers; $20 billion a year to give money to creators and artists.

 

Of course, there are other costs to IP: death, jail, and censorship.  There are literally people dying today in America because of patents or going to jail or being threatened with jail.  There is a recent lawsuit where some guy owning a patent is trying to force Ford not to use certain safety features in their car because it violates their patent.  They really want money from Ford, but the implicit threat is if you don’t pay me money, I will use the courts to make you take this safety feature out of the car.  People would die because of the patent.

 

There is a case going on right now where there is a maker called Genzyme which makes a drug called Fabrazyme which is for a rare disease.  It is in short supply because only one company has the patent.  They’re selling most of the drug to Europe because they have a better profit there because of this particular case.  There are Americans who can’t buy the drug.  There are no competitors because competition is outlawed.  There is one substitute drug being made in Europe, but it can’t be imported here because the FDA hasn’t approved it.

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It also leads to forum shopping. Marshall, Texas, not too far from Houston, is the patent ligation capital of the world because they give the highest awards. There is a whole industry there, at least for the patent trolls like Intellectual Ventures and copyright trolls like the notorious Righthaven.

 

Copyright is literally and often used for censorship. Howard Hughes one time, for example, almost succeeded in using copyright to try and block a biography he didn’t like.  He just bought the copyrights to some information that was going to be used in some biographies.  Some filmmakers have used it to censor criticism.  J. D. Salinger got a court to literally order an unauthorized sequel to Catcher in the Rye to be blocked from publication by a U.S. Court.  That is literally censorship and thought control.

 

From the examples I gave earlier, it should also be clear that patents lead to a lot of waste.  You have these companies spending billions of dollars for patents that only serve to keep their big competitors from suing them.  So this is just a dead weight loss on society and it reduces competition from smaller upstarts.

 

Rothbard talks about another effect of patents on the markets.  That is patents are always arbitrary on what they cover.  They reward some types of things, but some types of inventions and innovations are outside the scope of patents; for example, mathematical algorithms or certain types of medical procedures nowadays and certain abstract theories of physics.  Einstein’s formula, E=mc² was not patentable, for example, even though it

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was beneficial to mankind; although Einstein actually didn’t invent E=mc², so bad example.

 

As Rothbard points out, when the patent system will give you a monopoly over a certain type of innovation, people are going to tend to divert their R&D efforts in that direction.  This distorts the economy from what it otherwise would be.

 

Milton Friedman also recognized this.  The existence of patents tends to divert activity towards patentable inventions.  It doesn’t have a neutral effect on the market.  It distorts the market.

 

What about empirical studies about these claims that patents actually improve innovation?  I’ll just go through a few of these here.  Basically, economists regularly and almost universally concede that there is no evidence and, in fact, the evidence is the other way around.

 

Levine says, empirically, IP doesn’t increase creation and innovation.

 

Fritz Machlup in 1958 said that economists do not have enough information to conclude that the patent system confers a net benefit or loss.  He says we just don’t know.  We can’t know the answer to these things.

 

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George Priest, in 1986, said, “In the current state of knowledge, economists know almost nothing about the effect on social welfare of the patent system”.

 

A recent study in 2004 by two French economists conclude something similar.  We don’t know anything more now than we did in Machlup’s day when he concluded we just can’t know.

 

A recent study by two law professors, Meurer and Bessen, concluded empirically, on average, the patent system discourages innovation.

 

This is the economic analysis of state IP.  It reduces competition.  It raises barriers to entry.  It creates oligopolies.  It reduces innovation. It creates societal waste and costs.  It distorts R&D.  It does injustice to individuals.  It causes writ seeking and ever expanding laws along the lines of controls and pre-controls.

 

Let’s switch to free market IP or knowledge.  The role of knowledge in a free society, as we have talked about already, greater knowledge expands the universe of ends and means.  It improves action.  It increases efficiency and wealth.  It enables human progress.  More societal knowledge is good.  This is what allows human progress over time.  The pool of knowledge we can all draw on to make our decisions about what means to use, what ends to pursue, always grows.  This is one reason why we have societal progress.

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Let’s get to what I was aiming at through all this preliminary talk.  What are the sources of wealth?  We are talking about economic development.  As Hoppe explains, there are only three ways to generate wealth.  You can acquire and increase wealth through homesteading, production, and contractual exchange.  Those are the only three ways; or through expropriating that from others.

 

Let’s look at these three types:

 

We have original appropriation.  That is, you are taking something that was not owned out of the commons.  That is a way of creating new property.  That is the only way to create new property.  That is a way of increasing wealth.  The person who homesteads something is better off after the acquisition.

 

Production now means not to create something new out of nothing.  It means to transform property you already own.  That also creates wealth.  If you beat metal into a sword, now you have an object that is more valuable to you.  You have created wealth.  You have used knowledge to do that, but you don’t create new property titles.

 

Finally, there is trade or contractual exchange.  Of course, when two people make an exchange, each one is better off after the exchange. They are not equal.  It is not true that if you pay $100 for an iPod, that the iPod is worth $100.  The iPod is worth more than $100 to you.  The $100 is worth more than the iPod to Apple.  Both parties are better off

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after the exchange.  This is implicit in Rothbard’s Toward a Reconstruction of Utility and Welfare Economics.

 

The only way that we can guarantee there is wealth generated in society, and that everyone is better off, is if there is no aggression and property rights are respected.  When you have property rights and you have contract – contract simply means the right of the owner of the property to do what he wants with it.   He is the one who gets to give permission so someone can use his property or to deny permission or, in the case of external resources, to alienate it or to sell it to others.  When you have property rights and contract, you have a free market that leads to trade and wealth is created in that way.

 

And in production – this is universally recognized by the great Libertarian thinkers, Rothbard, Rand, Mises, and Hoppe.  They all explained that we create wealth by rearranging resources that we own already.  There is a common fallacy that we produce things.  This is actually part of the Randian mistake about IP.  They think, well, if you produce something, you own it. We produce ideas that are valuable so we should own those. The mistake they’re making is they’re misusing a metaphor.  When we say we produce something, all we mean is we transform something owned already.  We make it more valuable.  You can see Rand recognized this in another context.  She said, “The power to rearrange is the only creative power we possess.  Creation does not bring something into existence out of nothing.  It just means to bring into existence an arrangement”.

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Of course, you have to own some object to rearrange it.  Rothbard said something similar.  He said, “Man can work with numerous elements he finds in his environment (these are scarce means) by rearranging them in order to bring about the satisfaction of his ends”.

 

Of course, Rothbard has been accused of borrowing his ideas from Rand, which is false,  as we can see Mises wrote even before both of them something very similar, “there is a widespread misconception about the nature of production”.

 

He talked about this naïve view that it is bringing something into existence that didn’t previously exist.  He says no.  What production is is you combine your personal forces, that is your human action, with the forces of nature, these are scarce resources in the world, so that you bring about a particular desired arrangement of material.  He says, “No human act or production amounts to more than altering the position of things in space and leaving the rest to nature”.

 

That means using causal laws.

 

How does knowledge and the free market play a role in these three sources of wealth: original appropriation, trade, and production or transformation?  We can focus on three aspects of the market which enhance or enable these three ways of creating wealth.

 

 

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We first have, in an advanced free market economy when property rights are respected, we can expect to see cooperation among people.  They are not just isolated.  We don’t have Crusoe economics.  We have an advanced society with cooperation, where people can use each other as means, as Mises says, and the division of labor and the specialization of labor.  We also have the continual acquisition of knowledge or learning and emulation by people, and we have market competition.

 

Let’s look at each of these three things in turn and see how they affect the three primary sources of wealth generation.

 

Learning is acquiring knowledge.  When you have property rights respected and freedom, then people will learn.  They will learn from others.  They will learn from the culture that we have born into and from observing other people, even other people in the market, even their competitors.  They’ll sometimes emulate them.  This leads to the acquisition of more knowledge.  If you see a competitor open a grocery store and have wider supermarket aisles and it attracts more customers, you’ve learned something about the way the world works.  So, as we discussed earlier, this enlarges your universe of possible ends and means which enhances wealth.  When you have more ends, as we discussed earlier, when you know of more possible ends, than you can have greater wealth satisfaction, lower opportunity costs.  I gave the cake example earlier, but you can also think of this.  If you need to cross a river, or have a way to cross a river, you can build a

 

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long road around it or build a boat, but now, if you know a bridge is possible, that is your end.  You might choose to build a bridge instead.

 

A larger universe of possible means also enhances wealth creation.  It allows a more efficient use of causal laws to achieve our ends.  For example, instead of making a bridge on beams or on arches, now we can make it with a cable.  That is another means we know of to make a bridge.

 

How does this play a role in the creation of wealth?  The greater knowledge of possible ends and means, technical knowledge, scientific knowledge, causal knowledge, even cultural knowledge, artistic knowledge, it helps you be a better homesteader.  For example, instead of throwing oil away as being bad, now you’re aware that oil can be used productively.  So you now homestead the oil productively.  Now your wealth has increased.

 

In production, when you transform goods, if you know of better techniques to transform the iron into steel, instead of just an iron sword, you make a better sword.  Or you might make a car instead of a chariot.

 

Even contractual exchange can be enhanced by more knowledge because the parties know more about how they can use the things they’re trading.  They know more about

 

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possible trades out there.  They know more about other prices that have been exchanged in the market.

 

All three ways of creating wealth are enhanced by greater knowledge.

 

Finally, when competition is permitted on the market, when IP laws don’t come in and protect market actors from competition, than emulation is possible.  Emulation leads to competition, leads to constant striving to satisfy consumers, to increase efficiency and lower costs.  You can use better means to do this if you know of more possibilities.  You can innovate.  You improve products so you have more production and more trade.

 

Basically, competition, emulation, the division of labor, cooperation, the spread of knowledge, the possibility of learning on the market leads to immense wealth creation and the improvement of living standards, technological, economic, and social progress.

 

Thank you.  I’ll take questions now.

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