We would like to start by thanking Josh for inviting us to participate in what promises to be a fascinating discussion on an important subject. We’re looking forward to engaging with the other members of the symposium.
To begin with, we would like to talk about some of our own experimental research on the valuation anomaly widely known as the “endowment effect.” Over the past quarter century, laboratory and field research in the social sciences has provided considerable evidence for the existence of a significant gap between the valuations that people attach to goods that they own and the valuations they attach to goods they are considering purchasing. Thus, in one classic and well-replicated study, subjects to whom a university coffee mug was given indicated substantially higher willingness-to-accept values than subjects who indicated their willingness-to-pay for the mug. This and similar studies suggest that aspects of goods that should be irrelevant from the perspective of neoclassical economics – such as the fact of prior ownership – can systematically bias valuations of those goods and lead to sub-optimal exchanges and inefficiencies.
In a series of recent studies, we sought to extend these findings into the realm of intellectual property law. We hypothesized that the valuations that creators attach to their works will be even higher than those of mere owners and would-be purchasers.We conducted the experiment with painting students at a major art school acting as our creators and law students acting as our owners and buyers. In an attempt to model the nature of IP transactions, in which the value of the rights is based on the opportunity for rent-seeking and not on the goods themselves, we created a quality-based contest for the paintings. The Painters submitted their works to the contest and were told that they would be competing with nine other paintings for a $100 prize to be determined by an expert. They were further told that they would have a chance to sell their right to win the contest to another subject who would make them a cash offer for their chance to win. They were asked to indicate the least amount of money they would be willing to accept to sell their chance to win.
In addition, we told another group of subjects, the Owners, that they had been assigned to be the owner of a painting’s chance to win a contest of the same value. Like the Painters, they were asked to indicate the least amount they would be willing to accept to sell their chance to win the prize. Finally, we told the third group of subjects, the Buyers, that they would have a chance to purchase one of the paintings’ chances to win a prize and were asked to indicate the most they would be willing to pay to buy the chance. After indicating their values, all subjects were asked to complete a series of follow-up questions.
As we predicted, Painters’ WTA was significantly greater than Owners’ WTA, and both were significantly greater than Buyers’ WTP. The mean probabilistic value of any painting should have been around $10 weighted by its relative quality. The Buyers were fairly close to this number, indicating a willingness to pay $17 to acquire the chance to win the contest. Owners, as in a typical endowment effect study, wanted considerably more, about $40, to part with their chance to win the prize. The Painters, however, were unwilling to sell their ~1-in-10 chance to win the prize for anything less than $74.
We asked follow-up questions designed to help us sort out what was going on here. First, it is important to note that subjects’ predicted probability that their painting would win the prize was strongly correlated with their valuation. This suggests that subjects understood the nature of the contest and were making logical assessments of value. Although their assessments were logical, they demonstrated significant systematic biases. Just as with mean value, subjects’ role significantly predicted their predicted probability of winning with Painters > Owners > Buyers. Interestingly, subjects’ emotional attachment to the work and time spent creating it were not significant predictors of value, while their anticipated regret at learning they had sold the winning painting was very close to being significant. While any of these last three might create rational reasons for overvaluing one’s work, valuations based primarily on over-optimism about quality and likelihood of success appears more problematic from the perspective of rational choice theory. Painters’ and Owners’ relationships with the works generates excessively optimistic assessments of value that lead them to over-price their works. This over-pricing creates substantial WTA-WTP gaps that may create sub-optimal transfers of works and market inefficiencies.
These findings are particularly significant for IP law, because transactions between creators and other parties (e.g., publishers, producers, investors) are often essential to the ultimate production of works. In our next post, we will discuss ways in which IP markets may already deal with some of these problems (e.g., via royalty contracts and collective rights agencies) and possible changes to the law that might mitigate them, including the use of liability rules, formalities, and the fair use doctrine.