Privateers and the sinister threat posed by ‘patent trolls’

Many in Britain may not be familiar with the term ‘patent privateering’ – but that may all be about to change. British courts are apparently being targeted in a forum-shopping exercise by global monopolists, who are using this technique to reduce competition and innovation in the hi-tech sector.

This new menace to the workings of efficient markets is rapidly gripping the global hi-tech sector and it threatens to stifle innovation, raise prices and constrain choice for consumers not just in Britain but across the globe. The threat has been dubbed ‘patent privateering’ and its impact on effective competition is already alarming.

Patent privateering refers to the practice whereby corporations enter into private agreements with patent assertion entities (PAEs) – effectively separate companies with no assets or manufacturing capabilities. The process works along these lines: Company X and Company Y have agreements to license a specified number of patents from each other in order to create a product. What Company Y does not know is that Company X has a private agreement with Company Z (a privateer) to hold certain patents that are essential to the production of the product Company Y is creating. Once the product is in the market, the privateer, Company Z, threatens to sue Company Y. Since it may cost Company Y anything up to $2.5 million to defend itself, most companies opt to settle. So Company X benefits from a large share of the proceeds collected by the privateer Company Z. Such behaviour cramps competition and damages the end consumer – big time.

This cynical form of economic rent-seeking is becoming more and more widespread. PAEs or ‘patent trolls’ as they are sometimes styled are now estimated to add a staggering annual burden of $29 billion on the back of American consumers alone[i].

Incumbents with a market share to defend are tempted to set up patent trolls – it’s often impossible to trace their real owner – to raise competitors’ product prices and shackle innovation and choice in the marketplace. By employing patent trolls the incumbents avoid counter suits which would risk their own asset base as well as attract unwelcome publicity and potential reputational damage.

Media reports have begun to shine some light on these questionable practices. One of the most prominent is MOSAID, a controversial patent troll which collects royalties on 2,000 patents transferred by Microsoft and Nokia while another troll, Unwired Planet, is collecting royalties on 2,185 patents assigned by Swedish telecoms giant Ericsson. Another PAE, owned by a group including Goldman Sachs and Boston Consulting Group collects royalties for patents originally filed by our own British Telecom, which stands to collect half the proceeds from the patent.

These developments risk turning patents into a tool of litigation rather than innovation. Abuse of the patents principle runs counter to the original intent of patents, which was a set of exclusive rights granted by a government of a sovereign state to spur innovation and provide entrepreneurs with a reasonable return for their innovative research collected on a fair, reasonable and non discriminatory (what lawyers term FRAND) basis.

In the computer software industry over 100,000 patents are filed each year. Many of these are for innovations which are not particularly novel and are likely to be independently invented by a host of IT engineers. In practice, it is often impossible for a software firm to know that it is not infringing on an existing patent. In the US, where wilful infringement triggers treble damages if proved in court, software developers have a powerful incentive not to conduct a patent search.

Competition watchdogs need to cast a careful eye on these worrying developments. Already in the US, the Federal Trade Commission (FTC) has begun to collect information on patent trolls’ corporate structures, their portfolio of patents and the way in which they acquire them and enforce them. Congress is also considering legislation[ii] aimed at outlawing deceptive patent demand letters and granting the FTC civil penalty authority to tackle this rapidly emerging threat to consumer welfare.

In Europe, regulators have yet to really tackle the problem posed by patent privateers. Yet, as Robert Harris, a law professor at the University of Berkeley, California, points out, “Given the harm to competition that patent entity sponsored privateering, there are important roles for anti-trust authorities: blocking potentially anticompetitive patent transfers and bringing enforcement actions against anticompetitive conduct by patent entity sponsored PAEs”[iii].

Due to the lack of regulation of this anti-competitive practice, the courts in England, it seems, will be the first in Europe to evaluate and rule on patent privateers. Cases are expected to begin in the High Court from the end of 2014. U.S. courts have already suffered from bruising judicial battles that have proved a perfect case-study of how rent-seeking through the courts can harm the effective functioning of a dynamic market.

The hope is that we do not have to learn the lesson the hard way, as the Americans have done. It’s about time our troop of regulators woke up to the threat posed by the growing ranks of rent-seeking patent trolls.

[i]                  See ‘As Congress and Enforcers Contemplate Patent Trolls, Don’t Forget about Privateering’, by David   Balto (a former policy director at the FTC), Huffington Post, 4 December 2013.

[ii]                 The House Subcommittee on Commerce, Manufacturing & Trade of the Committee on Energy & Commerce has been holding expert testimony hearings on a draft Bill with respect to deceptive patent demand letters (see FTC testimony, 22 May 2014).

[iii]                 PAEs & Privateers: Economic Harm to Competition & Innovation, Robert G Harris, Georgetown Law Annual Antitrust Symposium, Georgetown Law School, Washington DC, September 2013.

What would we consider a successful railway system?

Under many measures, the railways have performed remarkably since privatisation. It is not surprising that the British public would nevertheless like to renationalise them, given how ignorant we know they are, but it’s at least slightly surprising that large sections of the intelligentsia seem to agree.

Last year I wrote a very short piece on the issue, pointing out the basic facts: the UK has had two eras of private railways, both extremely successful, and a long period of extremely unsuccessful state control. Franchising probably isn’t the ideal way of running the rail system privately, but it seems like even a relatively bad private system outperforms the state.

GBR_rail_passenegers_by_year

Short history: approximately free market in rail until 1913, built mainly with private capital. Government control/direction during the war. Government decides the railways aren’t making enough profit in 1923 and reorganises them into bigger regional monopolies. These aren’t very successful (in a very difficult macro environment) so it nationalises them—along with everything else—in the late 1940s.

By the 1960s the government runs railways into the ground to the point it essentially needs to destroy or mothball half the network. Government re-privatises the railways in 1995—at this point passenger journeys have reached half the level they were at in 1913. Within 15 years they’ve made back the ground lost in the previous eighty.

But maybe it’s not privatisation that led to this growth. Let’s consider some alternative hypotheses:

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Two cheers for Mark Carney

Applauding regulators, and especially the financial variety, is rare but maybe the tide is finally changing.  It was a delight to see Ofgem attacked this month by its previous chiefs for reducing competition and thereby contributing to higher prices, i.e. the opposite of what utility regulators are supposed to do.

Likewise it was a delight to read in The Times (“Regulators join bandwagon heading away from Bank”, 18th August) that the Prudential Regulation Authority (PRA) has lost 160 staff.  That is only 10% of the total and the cynical may believe that they were always lost.  Even so, it is a step in the right direction and the Governor’s “One Bank” plan deserves some of the credit.

The Bank’s present 3,600 staff compares with 2,900 in February 1997, i.e. before Gordon Brown removed banking regulatory and supervisory responsibility.  This compares like with like. In 1974, Bank of England staff numbered 5,500 excluding print workers.  The long term staffing levels are declining but, with the transfer of regulation to Brussels, Mark Carney should still be looking to halve the current number to about 1,800.  For comparison, the Bank of Canada has, according to its latest (2012) Annual Report, 1,239 staff.

The odd thing about The Times report is its sepulchral gloom.  We should be rejoicing that personnel are leaving the PRA and that they are joining trading banks to direct their compliance.  Surely less interference from bureaucrats and more self discipline by banks is just what we want?

Why only two cheers for the Governor?  Things seem to be going in the right direction at last but they have a long way to go.

Spotting the effect of the minimum wage

 

The first place we’d expect to see the effects on unemployment of a minimum wage that was too high is of course in the unemployment rate among teenagers and the young. For these are the people with little to no training, no job skills, and thus those that a minimum wage is going to be binding on. So, what do we see in the UK?

Centre-left think tank the Institute for Public Policy Research (IPPR) says that a full-blown economic recovery will not resolve the UK’s youth unemployment problem.

Its latest report says despite steady falls in unemployment, there are still 868,000 out-of-work 16 to 24-year-olds.

Later on Wednesday, the latest official UK unemployment figures will be revealed.

They have been falling steadily for the last year.
Gap

The IPPR highlights a striking mismatch between what young people are training for and the types of jobs available.

For example, it says, 94,000 people were trained in beauty and hair for just 18,000 jobs, while only 123,000 were trained in the construction and engineering sectors for an advertised 275,000 jobs.

The IPPR says youth unemployment is lower in countries where the vocational route into employment through formal education and training is as clear as the academic route.

It says this helps, as it puts the two on a higher perceived footing.

We’re certainly willing to believe that more vocational training would be a good idea. We could have institutions of higher learning that specifically existed to teach people how to do real world jobs rather than providing a more theoretical education as at a university. Perhaps we could call them Polytechnics of Technical Schools?

But that the IPPR insists that even a full economic recovery will lead to there still being a large amount of teenage unemployment means that we really do have a minimum wage that is too high. Yes, even that special, lower, minimum wage for the young is too high: all we need as proof perfect of this contention is that statement that there will still be heavy youth unemployment even at the top of the economic cycle.

Switching mobile networks is easier than switching governments

Unlike lots of people on the right, I like Owen Jones. He’s good natured and often challenges orthodoxy on his own side, and he’s a thought-provoking writer. 

Having said that, I usually disagree with what he writes on economics. His Guardian piece this week, which called for the nationalisation of the UK’s mobile network operators, was a good example. It’s tempting to dismiss it as clickbait, but it represents a train of thought that is increasing in popularity. And if nothing else it may shift the Overton Window.

Jones starts by pointing out that nationalisation of big industries is very popular among the public at large. “While our political overlords are besotted with Milton Friedman, the public seem to be lodged somewhere between John Maynard Keynes and Karl Marx.” 

A fair point. He might also have noted that the public disagrees with him about lots of other things: the obvious example is hanging, where the public is somewhere between Roger Helmer and Oswald Mosley, but there’s also immigration, which 55% of people want reduced ‘a lot’ (and another 21% want reduced ‘a little’). The Great British public thinks the benefits system is too generous by a 2-to-1 margin, and think that ‘politicians need to do more to reduce the amount of money paid out in benefits’ by a 3-to-1 margin. And so on. On these issues, and presumably many others, I assume Jones thinks the public needs further persuasion.

It isn’t necessarily that the public really is bloodthirsty or xenophobic or anti-poor or quasi-Marxist; it’s that the public is extremely uninformed about most things. How could you judge whether we needed more or less immigration if you thought we had more than twice as much immigration as we actually do? How could you judge whether the railroads should be nationalised or not if you did not know that passenger numbers had doubled since privatization, after decades of decline under the state?

Jones claims that mobile phone networks are an inefficient natural monopoly, without any real reasons given. This claim is untrue. The UK has four competing mobile networks (Vodafone, O2, Three and EE, which was formed by a merger by T-Mobile and Orange) and dozens of aftermarket “mobile virtual network operators” that lease wireless spectrum from those four networks (GiffGaff and Tesco Mobile are two popular examples). None of these networks are unusually profitable and all spend enormous amounts on marketing. Try spending a day in a city without seeing at least one advert for each company. This is not the behaviour of monopolistic industry!

(There are a couple of other frustrating errors in the piece. For instance, a typical £32-a-month 24-month contract can get you an iPhone worth £550, not a device worth £200 as Jones claims.)

Yes, signal blackspots are annoying. (Take it from someone who spent his teenage life having to walk into the garden to send a text message.) And mobile networks’ customer service really does suck sometimes! But Jones is comparing reality with an ideal where resources are infinite. Since resources are not infinite, we have to have some way of deciding what imperfections are tolerable. 

For example, as annoying as blackspots are, the optimal amount of coverage is obviously less than 100%. The phone networks reckon they cover around 99% of the population, and as frustrating as it is when you’re in that last 1%, the marginal costs rise dramatically when you try to cover that last 1%. We could cover them at great cost, meaning that we have less money to spend on other important things elsewhere. The question is one of priorities.

Ultimately, the important question that Jones does not answer (or ask) is, compared to what? Private sector firms might be irritating sometimes. Unless you can show that nationalised firms would be less irritating and better overall, that doesn’t tell us anything about what we should do. 

There are lots of examples of nationalised firms that were absolutely terrible. Tim remembers waiting three months for a landline when the GPO ran the phones; and then there is the huge drop-off in rail passenger numbers under British Rail, followed by an equally huge recovery after privatisation:

GBR_rail_passenegers_by_year

The fact that the state funded some of the scientific research that led to the iPhone doesn’t mean that we’d have better phones if we nationalised Apple. (It might be a case for state funding for scientific research that is released into the public domain, though.) As Tim says, “The State can be just as good as the market at invention, the creation of really cool new technologies. But it’s terrible compared to the market at innovation, the getting of that new technology into peoples’ hands so that they can do cool and interesting new things with it.” 

Economies of scale exist, as Jones suggests, but so do diseconomies of scale. Firms can be too big. And when you have a single network (whether it’s privately or publicly owned), customers lose all ability to ‘exit’ a firm that is giving them a bad service, so the only recourse they have is at the ballot box. 

Which brings us back to the first problem with Jones’s piece: politics is a complicated business about which we know little. If we don’t like what we’ve got, we have to hope that a majority of other voters agrees with us – and even if we’re right, they may not be informed enough to agree with us. 

It’s a lot easier to switch mobile phone providers than it is to switch governments. Ultimately, it’s that pluralism and freedom of exit that drives improvements in markets, and tends to make governments relatively bad at doing things. For all the mobile network industry’s problems, the question is: compared to what?