[This post is the first in our FTC UMC Rulemaking symposium. You can find other posts at the symposium page here. Truth on the Market also invites academics, practitioners, and other antitrust/regulation commentators to send us 1500-4000 word responses for potential inclusion in the symposium.]
There is widespread interest in the potential tools that the Biden administration’s Federal Trade Commission (FTC) may use to address a range of competition-related and competition-adjacent concerns. A focal point for this interest is the potential that the FTC may use its broad authority to regulate unfair methods of competition (UMC) under Section 5 of the FTC Act to make rules that address a wide range of conduct. This “potential” is expected to become a “likelihood” with confirmation of Alvaro Bedoya, a third Democratic commissioner, expected to occur any day.
This post marks the start of a Truth on the Market symposium that brings together academics, practitioners, and other commentators to discuss issues relating to potential UMC-related rulemaking. Contributions to this symposium will cover a range of topics, including:
Constitutional and administrative-law limits on UMC rulemaking: does such rulemaking potentially present “major question” or delegation issues, or other issues under the Administrative Procedure Act (APA)? If so, what is the scope of permissible rulemaking?
Substantive issues in UMC rulemaking: costs and benefits to be considered in developing rules, prudential concerns, and similar concerns.
Using UMC to address competition-adjacent issues: consideration of how or whether the FTC can use its UMC authority to address firm conduct that is governed by other statutory or regulatory regimes. For instance, firms using copyright law and the Digital Millennium Copyright Act (DMCA) to limit competitors’ ability to alter or repair products, or labor or entry issues that might be governed by licensure or similar laws.
Timing and Structure of the Symposium
Starting tomorrow, one or two contributions to this symposium will be posted each morning. During the first two weeks of the symposium, we will generally try to group posts on similar topics together. When multiple contributions are posted on the same day, they will generally be implicitly or explicitly in dialogue with each other. The first week’s contributions will generally focus on constitutional and administrative law issues relating to UMC rulemaking, while the second week’s contributions will focus on more specific substantive topics.
Readers are encouraged to engage with these posts through comments. In addition, academics, practitioners, and other antitrust and regulatory commentators are invited to submit additional contributions for inclusion in this symposium. Such contributions may include responses to posts published by others or newly developed ideas. Interested authors should submit pieces for consideration to Gus Hurwitz and Keith Fierro Benson.
This symposium will run through at least Friday, May 6. We do not, however, anticipate, ending or closing it at that time. To the contrary, it is very likely that topics relating to FTC UMC rulemaking will continue to be timely and of interest to our community—we anticipate keeping the symposium running for the foreseeable future, and welcome submissions on an ongoing basis. Readers interested in these topics are encouraged to check in regularly for new posts, including by following the symposium page, the FTC UMC Rulemaking tag, or by subscribing to Truth on the Market for notifications of new posts.
All too frequently, vocal advocates for “Internet Freedom” imagine it exists along just a single dimension: the extent to which it permits individuals and firms to interact in new and unusual ways.
But that is not the sum of the Internet’s social value. The technologies that underlie our digital media remain a relatively new means to distribute content. It is not just the distributive technology that matters, but also the content that is distributed. Thus, the norms and laws that facilitate this interaction of content production and distribution are critical.
Sens. Patrick Leahy (D-Vt.) and Thom Tillis (R-N.C.)—the chair and ranking member, respectively, of the Senate Judiciary Committee’s Subcommittee on Intellectual Property—recently introduced legislation that would require online service providers (OSPs) to comply with a slightly heightened set of obligations to deter copyright piracy on their platforms. This couldn’t come at a better time.
S. 3880, the SMART Copyright Act, would amend Section 512 of the Copyright Act, originally enacted as part of the Digital Millennium Copyright Act of 1998. Section 512, among other things, provides safe harbor for OSPs for copyright infringements by their users. The expectation at the time was that OSPs would work voluntarily with rights holders to develop industry best practices to deal with pirated content, while also allowing the continued growth of the commercial Internet.
Alas, it has become increasingly apparent in the nearly quarter-century since the DMCA was passed that the law has not adequately kept pace with the technological capabilities of digital piracy. In April 2020 alone, U.S. consumers logged 725 million visits to pirate sites for movies and television programming. Close to 90% of those visits were attributable to illegal streaming services that use internet protocol television to distribute pirated content. Such services now serve more than 9 million U.S. subscribers and generate more than $1 billion in annual revenue.
Globally, there are more than 26.6 billion annual illicit views of U.S.-produced movies and 126.7 billion views of U.S.-produced television episodes. A report produced for the U.S. Chamber of Commerce by NERA Economic Consulting estimates the annual impact to the United States to be $30 to $70 billion of lost revenue, 230,000 to 560,000 of lost jobs, and between $45 and $115 billion in lower GDP.
Thus far, the most effective preventative measures produced have been filtering solutions adopted by YouTube, Facebook, and Audible Magic, but neither filtering nor other solutions have been adopted industrywide. As the U.S. Copyright Office has observed:
Throughout the Study, the Office heard from participants that Congress’ intent to have multi-stakeholder consensus drive improvements to the system has not been borne out in practice. By way of example, more than twenty years after passage of the DMCA, although some individual OSPs have deployed DMCA+ systems that are primarily open to larger content owners, not a single technology has been designated a “standard technical measure” under section 512(i). While numerous potential reasons were cited for this failure— from a lack of incentives for ISPs to participate in standards to the inappropriateness of one-size-fits-all technologies—the end result is that few widely-available tools have been created and consistently implemented across the internet ecosystem. Similarly, while various voluntary initiatives have been undertaken by different market participants to address the volume of true piracy within the system, these initiatives, although initially promising, likewise have suffered from various shortcomings, from limited participation to ultimate ineffectiveness.
Given the lack of standard technical measures (STMs), the Leahy-Tillis bill would empower the Office of the Librarian of Congress (LOC) broad latitude to recommend STMs for everything from off-the-shelf software to open-source software to general technical strategies that can be applied to a wide variety of systems. This would include the power to initiate public rulemakings in which it could either propose new STMs or revise or rescind existing STMs. The STMs could be as broad or as narrow as the LOC deems appropriate, including being tailored to specific types of content and specific types of providers. Following rulemaking, subject firms would have at least one year to adopt a given STM.
Critically, the SMART Copyright Act would not hold OSPs liable for the infringing content itself, but for failure to make reasonable efforts to accommodate the STM (or for interference with the STM). Courts finding an OSP to have violated their obligation for good-faith compliance could award an injunction, damages, and costs.
The SMART Copyright Act is a directionally correct piece of legislation with two important caveats: it all depends on the kinds of STMs that the LOC recommends and on how a “violation” is determined for the purposes of awarding damages.
The law would magnify the incentive for private firms to work together with rights holders to develop STMs that more reasonably recruit OSPs into the fight against online piracy. In this sense, the LOC would be best situated as a convener, encouraging STMs to emerge from the broad group of OSPs and rights holders. The fact that the LOC would be able to adopt STMs with or without stakeholders’ participation should provide more incentive for collaboration among the relevant parties.
Short of a voluntary set of STMs, the LOC could nonetheless rely on the technical suggestions and concerns of the multistakeholder community to discern a minimum viable set of practices that constitute best efforts to control piracy. The least desirable outcome—and, I suspect, the one most susceptible to failure—would be for the LOC to examine and select specific technologies. If implemented sensibly, the SMART Copyright Act would create a mechanism to enforce the original goals of Section 512.
The damages provisions are likewise directionally correct but need more clarity. Repeat “violations” allow courts to multiply damages awards. But there is no definition of what counts as a “violation,” nor is there adequate clarity about how a “violation” interacts with damages. For example, is a single infringement on a platform a “violation” such that if three occur, the platform faces treble damages for all the infringements in a single case? That seems unlikely.
More reasonable would be to interpret the provision as saying that a final adjudication that the platform behaved unreasonably is what counts for the purposes of calculating whether damages are multiplied. Then, within each adjudication, damages are calculated for all infringements, up to the statutory damages cap. This interpretation would put teeth in the law, but it’s just one possible interpretation. Congress would need to ensure the final language is clear.
An even better would be to make Section 512’s safe harbor contingent on an OSP’s reasonable compliance. Unreasonable behavior, in that case, provides a much more straightforward way to assess damages, without needing to leave it up to court interpretations about what counts as a “violation.” Particularly since courts have historically tended to interpret the DMCA in ways that are unfavorable to rights holders (e.g., “red flag” knowledge), it would be much better to create a simple standard here.
This is not to say there are no potential problems. Among the concerns that surround promulgating new STMs are potentially creating cybersecurity vulnerabilities, sources for privacy leaks, or accidentally chilling speech. Of course, it’s possible that there will be costs to implementing an STM, just as there are costs when private firms operate their own content-protection mechanisms. But just because harms can happen doesn’t mean they will happen, or that they are insurmountable when they do. The criticisms that have emerged have so far taken on the breathless quality of the empirically unfounded claims that 2012’s SOPA/PIPA legislation would spell doom for the Internet. If Section 512 reforms are well-calibrated and sufficiently flexible to adapt to the market realities, I think we can reasonably expect them to be, on net, beneficial.
Toward this end, the SMART Copyright Act contemplates, for each proposed STM, a public comment period and at least one meeting with relevant stakeholders, to allow time to understand its likely costs and benefits. This process would provide ample opportunities to alert the LOC to potential shortcomings.
But the criticisms do suggest a potentially valuable change to the bill’s structure. If a firm does indeed discover that a particular STM, in practice, leads to unacceptable security or privacy risks, or is systematically biased against lawful content, there should be a legal mechanism that would allow for good-faith compliance while also mitigating STMs’ unforeseen flaws. Ideally, this would involve working with the LOC in an iterative process to refine relevant compliance obligations.
Congress will soon be wrapped up in the volatile midterm elections, which could make it difficult for relatively low-salience issues like copyright to gain traction. Nonetheless, the Leahy-Tillis bill marks an important step toward addressing online piracy, and Congress should move deliberatively toward that goal.
For decades, consumer-welfare enhancement appeared to be a key enforcement goal of competition policy (antitrust, in the U.S. usage) in most jurisdictions:
The U.S. Supreme Court famously proclaimed American antitrust law to be a “consumer welfare prescription” in Reiter v. Sonotone Corp. (1979).
A study by the current adviser to the European Competition Commission’s chief economist found that that there are “many statements indicating that, seen from the European Commission, modern EU competition policy to a large extent is about protecting consumer welfare.”
A comprehensive international survey presented at the 2011 Annual International Competition Network Conference, found that a majority of competition authorities state that “their national [competition] legislation refers either directly or indirectly to consumer welfare,” and that most competition authorities “base their enforcement efforts on the premise that they enlarge consumer welfare.”
Recently, however, the notion that a consumer welfare standard (CWS) should guide antitrust enforcement has come under attack (see here). In the United States, this movement has been led by populist “neo-Brandeisians” who have “call[ed] instead for enforcement that takes into account firm size, fairness, labor rights, and the protection of smaller enterprises.” (Interestingly, there appear to be more direct and strident published attacks on the CWS from American critics than from European commentators, perhaps reflecting an unspoken European assumption that “ordoliberal” strong government oversight of markets advances the welfare of consumers and society in general.) The neo-Brandeisian critique is badly flawed and should be rejected.
Assuming that the focus on consumer welfare in U.S. antitrust enforcement survives this latest populist challenge, what considerations should inform the design and application of a CWS? Before considering this question, one must confront the context in which it arises—the claim that the U.S. economy has become far less competitive in recent decades and that antitrust enforcement has been ineffective at addressing this problem. After dispatching with this flawed claim, I advance four principles aimed at properly incorporating consumer-welfare considerations into antitrust-enforcement analysis.
Does the US Suffer from Poor Antitrust Enforcement and Declining Competition?
Antitrust interventionists assert that lax U.S. antitrust enforcement has coincided with a serious decline in competition—a claim deployed to argue that, even if one assumes that promoting consumer welfare remains an overarching goal, U.S. antitrust policy nonetheless requires a course correction. After all, basic price theory indicates that a reduction in market competition raises deadweight loss and reduces consumers’ relative share of total surplus. As such, it might seem to follow that “ramping up antitrust” would lead to more vigorously competitive markets, featuring less deadweight loss and relatively more consumer surplus.
This argument, of course, avoids error cost, rent seeking, and public choice issues that raise serious questions about the welfare effects of more aggressive “invigorated” enforcement (see here, for example). But more fundamentally, the argument is based on two incorrect premises:
That competition has declined; and
That U.S. trustbusters have applied the CWS in a narrow manner ineffective to address competitive problems.
In a recent article in the Stigler Center journal Promarket, Yale University economics professor Fiona Scott-Morton and Yale Law student Leah Samuel accepted those premises in complaining about poor antitrust enforcement and substandard competition (hyperlinks omitted and emphasis in the original):
In recent years, the [CWS] term itself has become the target of vocal criticism in light of mounting evidence that recent enforcement—and what many call the “consumer welfare standard era” of antitrust enforcement—has been a failure. …
This strategy of non-enforcement has harmed markets and consumers. Today we see the evidence of this under-enforcement in a range of macroeconomic measures, studies of markups, as well as in merger post-mortems and studies of anticompetitive behavior that agencies have not pursued. Non-economist observers– journalists, advocates, and lawyers – who have noticed the lack of enforcement and the pernicious results have learned to blame “economics” and the CWS. They are correct that using CWS, as defined and warped by Chicago-era jurists and economists, has been a failure. That kind of enforcement—namely, insufficient enforcement—does not protect competition. But we argue that the “economics” at fault are the corporate-sponsored Chicago School assumptions, which are at best outdated, generally unjustified, and usually incorrect.
While the Chicago School caused the “consumer welfare standard” to become associated with an anti-enforcement philosophy in the legal community, it has never changed its meaning among PhD-trained economists.
To an economist, consumer welfare is a well-defined concept. Price, quality, and innovation are all part of the demand curve and all form the basis for the standard academic definition of consumer welfare. CW is the area under the demand curve and above the quality-adjusted price paid. … Quality-adjusted price represents all the value consumers get from the product less the price they paid, and therefore encapsulates the role of quality of any kind, innovation, and price on the welfare of the consumer.
In my published response to Scott-Morton and Samuel, I summarized recent economic literature that contradicts the “competition is declining” claim. I also demonstrated that antitrust enforcement has been robust and successful, refuting the authors’ claim to the contrary (cross links to economic literature omitted):
There are only two problems with the [authors’] argument. First, it is not clear at all that competition has declined during the reign of this supposedly misused [CWS] concept. Second, the consumer welfare standard has not been misapplied at all. Indeed, as antitrust scholars and enforcement officials have demonstrated … modern antitrust enforcement has not adopted a narrow “Chicago School” view of the world. To the contrary, it has incorporated the more sophisticated analysis the authors advocate, and enforcement initiatives have been vigorous and largely successful. Accordingly, the authors’ call for an adjustment in antitrust enforcement is a solution in search of a non-existent problem.
In short, competitive conditions in U.S. markets are robust and have not been declining. Moreover, U.S. antitrust enforcement has been sophisticated and aggressive, fully attuned to considerations of quality and innovation.
A Suggested Framework for Consumer Welfare Analysis
Although recent claims of “weak” U.S. antitrust enforcement are baseless, they do, nevertheless, raise “front and center” the nature of the CWS. The CWS is a worthwhile concept, but it eludes a precise definition. That is as it should be. In our common law system, fact-specific analyses of particular competitive practices are key to determining whether welfare is or is not being advanced in the case at hand. There is no simple talismanic CWS formula that is readily applicable to diverse cases.
While Scott-Morton argues that the area under the demand curve (consumer surplus) is essentially coincident with the CWS, other leading commentators take account of the interests of producers as well. For example, the leading antitrust treatise writer, Herbert Hovenkamp, suggests thinking about consumer welfare in terms of “maxim[izing] output that is consistent with sustainable competition. Output includes quantity, quality, and improvements in innovation. As an aside, it is worth noting that high output favors suppliers, including labor, as well as consumers because job opportunities increase when output is higher.” (Hovenkamp, Federal Antitrust Policy 102 (6th ed. 2020).)
Federal Trade Commission (FTC) Commissioner Christine Wilson (like Ken Heyer and other scholars) advocates a “total welfare standard” (consumer plus producer surplus). She stresses that it would beneficially:
Make efficiencies more broadly cognizable, capturing cost reductions not passed through in the short run;
Better enable the agencies to consider multi-market effects (whether consumer welfare gains in one market swamp consumer welfare losses in another market); and
Better capture dynamic efficiencies (such as firm-specific efficiencies that are emulated by other “copycat” firms in the market).
Hovenkamp and Wilson point to the fact that efficiency-enhancing business conduct often has positive ramifications for both consumers and producers. As such, a CWS that focuses narrowly on short-term consumer surplus may prompt antitrust challenges to conduct that, properly understood, will prove beneficial to both consumers and producers over time.
With this in mind, I will now suggest four general “framework principles” to inform a CWS analysis that properly accounts for innovation and dynamic factors. These principles are tentative and merely suggestive, intended to prompt a further dialogue on CWS among interested commentators. (Also, many practical details will need to be filled in, based on further analysis.)
Enforcers should consider all effects on consumer welfare in evaluating a transaction. Under the rule of reason, a reduction in surplus to particular defined consumers should not condemn a business practice (merger or non-merger) if other consumers are likely to enjoy accretions to surplus and if aggregate consumer surplus appears unlikely to decline, on net, due to the practice. Surplus need not be quantified—the likely direction of change in surplus is all that is required. In other words, “actual welfare balancing” is not required, consistent with the practical impossibility of quantifying new welfare effects in almost all cases (see, e.g., Hovenkamp, here). This principle is unaffected by market definition—all affected consumers should be assessed, whether they are “in” or “out” of a hypothesized market.
Vertical intellectual-property-licensing contracts should not be subject to antitrust scrutiny unless there is substantial evidence that they are being used to facilitate horizontal collusion. This principle draws on the “New Madison Approach” associated with former Assistant Attorney General for Antitrust Makan Delrahim. It applies to a set of practices that further the interests of both consumers and producers. Vertical IP licensing (particularly patent licensing) “is highly important to the dynamic and efficient dissemination of new technologies throughout the economy, which, in turn, promotes innovation and increased welfare (consumer and producer surplus).” (See here, for example.) The 9th U.S. Circuit Court of Appeals’ refusal to condemn Qualcomm’s patent-licensing contracts (which had been challenged by the FTC) is consistent with this principle; it “evinces a refusal to find anticompetitive harm in licensing markets without hard empirical support.” (See here.)
Furthermore, enforcers should carefully assess the ability of “non-standard” commercial contracts—horizontal and vertical—to overcome market failures, as described by transaction-cost economics (see here, and here, for example). Non-standard contracts may be designed to deal with problems (for instance) of contractual incompleteness and opportunism that stymie efforts to advance new commercial opportunities. To the extent that such contracts create opportunities for transactions that expand or enhance market offerings, they generate new consumer surplus (new or “shifted out” demand curves) and enhance consumer welfare. Thus, they should enjoy a general (though rebuttable) presumption of legality.
Fourth, and most fundamentally, enforcers should take account of cost-benefit analysis, rooted in error-cost considerations, in their enforcement initiatives, in order to further consumer welfare. As I have previously written:
Assuming that one views modern antitrust enforcement as an exercise in consumer welfare maximization, what does that tell us about optimal antitrust enforcement policy design? In order to maximize welfare, enforcers must have an understanding of – and seek to maximize the difference between – the aggregate costs and benefits that are likely to flow from their policies. It therefore follows that cost-benefit analysis should be applied to antitrust enforcement design. Specifically, antitrust enforcers first should ensure that the rules they propagate create net welfare benefits. Next, they should (to the extent possible) seek to calibrate those rules so as to maximize net welfare. (Significantly, Federal Trade Commissioner Josh Wright also has highlighted the merits of utilizing cost-benefit analysis in the work of the FTC.) [Eight specific suggestions for implementing cost-beneficial antitrust evaluations are then put forth in this article.]
One must hope that efforts to eliminate consumer welfare as the focal point of U.S. antitrust will fail. But even if they do, market-oriented commentators should be alert to any efforts to “hijack” the CWS by interventionist market-skeptical scholars. A particular threat may involve efforts to define the CWS as merely involving short-term consumer surplus maximization in narrowly defined markets. Such efforts could, if successful, justify highly interventionist enforcement protocols deployed against a wide variety of efficient (though too often mischaracterized) business practices.
To counter interventionist antitrust proposals, it is important to demonstrate that claims of faltering competition and inadequate antitrust enforcement under current norms simply are inaccurate. Such an effort, though necessary, is not enough.
In order to win the day, it will be important for market mavens to explain that novel business practices aimed at promoting producer surplus tend to increase consumer surplus as well. That is because efficiency-enhancing stratagems (often embodied in restrictive IP-licensing agreements and non-standard contracts) that further innovation and overcome transaction-cost difficulties frequently pave the way for innovation and the dissemination of new technologies throughout the economy. Those effects, in turn, expand and create new market opportunities, yielding huge additions to consumer surplus—accretions that swamp short-term static effects.
Enlightened enforcers should apply enforcement protocols that allow such benefits to be taken into account. They should also focus on the interests of all consumers affected by a practice, not just a narrow subset of targeted potentially “harmed” consumers. Finally, public officials should view their enforcement mission through a cost-benefit lens, which is designed to promote welfare.
U.S. antitrust policy seeks to promote vigorous marketplace competition in order to enhance consumer welfare. For more than four decades, mainstream antitrust enforcers have taken their cue from the U.S. Supreme Court’s statement in Reiter v. Sonotone (1979) that antitrust is “a consumer welfare prescription.” Recent suggestions (see here and here) by new Biden administration Federal Trade Commission (FTC) and U.S. Justice Department (DOJ) leadership that antitrust should promote goals apart from consumer welfare have yet to be embodied in actual agency actions, and they have not been tested by the courts. (Given Supreme Court case law, judicial abandonment of the consumer welfare standard appears unlikely, unless new legislation that displaces it is enacted.)
Assuming that the consumer welfare paradigm retains its primacy in U.S. antitrust, how do the goals of antitrust match up with those of national security? Consistent with federal government pronouncements, the “basic objective of U.S. national security policy is to preserve and enhance the security of the United States and its fundamental values and institutions.” Properly applied, antitrust can retain its consumer welfare focus in a manner consistent with national security interests. Indeed, sound antitrust and national-security policies generally go hand-in-hand. The FTC and the DOJ should keep that in mind in formulating their antitrust policies (spoiler alert: they sometimes have failed to do so).
At first blush, it would seem odd that enlightened consumer-welfare-oriented antitrust enforcement and national-security policy would be in tension. After all, enlightened antitrust enforcement is concerned with targeting transactions that harmfully reduce output and undermine innovation, such as hard-core collusion and courses of conduct that inefficiently exclude competition and weaken marketplace competition. U.S. national security would seem to be promoted (or, at least, not harmed) by antitrust enforcement directed at supporting stronger, more vibrant American markets.
This initial instinct is correct, if antitrust-enforcement policy indeed reflects economically sound, consumer-welfare-centric principles. But are there examples where antitrust enforcement falls short and thereby is at odds with national security? An evaluation of three areas of interaction between the two American policy interests is instructive.
The degree of congruence between national security and appropriate consumer welfare-enhancing antitrust enforcement is illustrated by a brief discussion of:
the intellectual property-antitrust interface, with a focus on patent licensing; and
proposed federal antitrust legislation.
The first topic presents an example of clear consistency between consumer-welfare-centric antitrust and national defense. In contrast, the second topic demonstrates that antitrust prosecutions (and policies) that inappropriately weaken intellectual-property protections are inconsistent with national defense interests. The second topic does not manifest a tension between antitrust and national security; rather, it illustrates a tension between national security and unsound antitrust enforcement. In a related vein, the third topic demonstrates how a change in the antitrust statutes that would undermine the consumer welfare paradigm would also threaten U.S. national security.
The consistency between antitrust goals and national security is relatively strong and straightforward in the field of defense-industry-related mergers and joint ventures. The FTC and DOJ traditionally have worked closely with the U.S. Defense Department (DOD) to promote competition and consumer welfare in evaluating business transactions that affect national defense needs.
The DOD has long supported policies to prevent overreliance on a single supplier for critical industrial-defense needs. Such a posture is consistent with the antitrust goal of preventing mergers to monopoly that reduce competition, raise prices, and diminish quality by creating or entrenching a dominant firm. As then-FTC Commissioner William Kovacic commented about an FTC settlement that permitted the United Launch Alliance (an American spacecraft launch service provider established in 2006 as a joint venture between Lockheed Martin and Boeing), “[i]n reviewing defense industry mergers, competition authorities and the DOD generally should apply a presumption that favors the maintenance of at least two suppliers for every weapon system or subsystem.”
Antitrust enforcers have, however, worked with DOD to allow the only two remaining suppliers of a defense-related product or service to combine their operations, subject to appropriate safeguards, when presented with scale economy and quality rationales that advanced national-security interests (see here).
Antitrust enforcers have also consulted and found common cause with DOD in opposing anticompetitive mergers that have national-security overtones. For example, antitrust enforcement actions targeting vertical defense-sector mergers that threaten anticompetitive input foreclosure or facilitate anticompetitive information exchanges are in line with the national-security goal of preserving vibrant markets that offer the federal government competitive, high-quality, innovative, and reasonably priced purchase options for its defense needs.
The FTC’s recent success in convincing Lockheed Martin to drop its proposed acquisition of Aerojet Rocketdyne holdings fits into this category. (I express no view on the merits of this matter; I merely cite it as an example of FTC-DOD cooperation in considering a merger challenge.) In its February 2022 press release announcing the abandonment of this merger, the FTC stated that “[t]he acquisition would have eliminated the country’s last independent supplier of key missile propulsion inputs and given Lockheed the ability to cut off its competitors’ access to these critical components.” The FTC also emphasized the full consistency between its enforcement action and national-security interests:
Simply put, the deal would have resulted in higher prices and diminished quality and innovation for programs that are critical to national security. The FTC’s enforcement action in this matter dovetails with the DoD report released this week recommending stronger merger oversight of the highly concentrated defense industrial base.
Shifts in government IP-antitrust patent-licensing policy perspectives
Standard setting through standard setting organizations (SSOs) has been a particularly important means of spawning valuable benchmarks (standards) that have enabled new patent-backed technologies to drive innovation and enable mass distribution of new high-tech products, such as smartphones. The licensing of patents that cover and make possible valuable standards—“standard-essential patents” or SEPs—has played a crucial role in bringing to market these products and encouraging follow-on innovations that have driven fast-paced welfare-enhancing product and process quality improvements.
Licensing, cross-licensing, or otherwise transferring intellectual property (hereinafter “licensing”) can facilitate integration of the licensed property with complementary factors of production. This integration can lead to more efficient exploitation of the intellectual property, benefiting consumers through the reduction of costs and the introduction of new products. Such arrangements increase the value of intellectual property to consumers and owners. Licensing can allow an innovator to capture returns from its investment in making and developing an invention through royalty payments from those that practice its invention, thus providing an incentive to invest in innovative efforts. …
[L]imitations on intellectual property licenses may serve procompetitive ends by allowing the licensor to exploit its property as efficiently and effectively as possible. These various forms of exclusivity can be used to give a licensee an incentive to invest in the commercialization and distribution of products embodying the licensed intellectual property and to develop additional applications for the licensed property. The restrictions may do so, for example, by protecting the licensee against free riding on the licensee’s investments by other licensees or by the licensor. They may also increase the licensor’s incentive to license, for example, by protecting the licensor from competition in the licensor’s own technology in a market niche that it prefers to keep to itself.
Unfortunately, however, FTC and DOJ antitrust policies over the last 15 years have too often belied this generally favorable view of licensing practices with respect to SEPs. (See generally here, here, and here). Notably, the antitrust agencies have at various times taken policy postures and enforcement actions indicating that SEP holders may face antitrust challenges if:
they fail to license all comers, including competitors, on fair, reasonable, and nondiscriminatory (FRAND) terms; and
seek to obtain injunctions against infringers.
In addition, antitrust policy officials (see 2011 FTC Report) have described FRAND price terms as cabined by the difference between the licensing rates for the first (included in the standard) and second (not included in the standard) best competing patented technologies available prior to the adoption of a standard. This pricing measure—based on the “incremental difference” between first and second-best technologies—has been described as necessary to prevent SEP holders from deriving artificial “monopoly rents” that reflect the market power conferred by a standard. (But see then FTC-Commissioner Joshua Wright’s 2013 essay to the contrary, based on the economics of incomplete contracts.)
This approach to SEPs undervalues them, harming the economy. Limitations on seeking injunctions (which are a classic property-right remedy) encourages opportunistic patent infringements and artificially disfavors SEP holders in bargaining over licensing terms with technology implementers, thereby reducing the value of SEPs. SEP holders are further disadvantaged by the presumption that they must license all comers. They also are harmed by the implication that they must be limited to a relatively low hypothetical “ex ante” licensing rate—a rate that totally fails to take into account the substantial economic welfare value that will accrue to the economy due to their contribution to the standard. Considered individually and as a whole, these negative factors discourage innovators from participating in standardization, to the detriment of standards quality. Lower-quality standards translate into inferior standardized produces and processes and reduced innovation.
Recognizing this problem, in 2018 DOJ, Assistant Attorney General for Antitrust Makan Delrahim announced a “New Madison Approach” (NMA) to SEP licensing, which recognized:
antitrust remedies are inappropriate for patent-licensing disputes between SEP-holders and implementers of a standard;
SSOs should not allow collective actions by standard-implementers to disfavor patent holders;
SSOs and courts should be hesitant to restrict SEP holders’ right to exclude implementers from access to their patents by seeking injunctions; and
unilateral and unconditional decisions not to license a patent should be per se legal. (See, for example, here and here.)
Acceptance of the NMA would have counter-acted the economically harmful degradation of SEPs stemming from prior government policies.
Regrettably, antitrust-enforcement-agency statements during the last year effectively have rejected the NMA. Most recently, in December 2021, the DOJ issued for public comment a Draft Policy Statement on Licensing Negotiations and Remedies, SEPs, which displaces a 2019 statement that had been in line with the NMA. Unless the FTC and Biden DOJ rethink their new position and decide instead to support the NMA, the anti-innovation approach to SEPs will once again prevail, with unfortunate consequences for American innovation.
The “weaker patents” implications of the draft policy statement would also prove detrimental to national security, as explained in a comment on the statement by a group of leading law, economics, and business scholars (including Nobel Laureate Vernon Smith) convened by the International Center for Law & Economics:
China routinely undermines U.S. intellectual property protections through its industrial policy. The government’s stated goal is to promote “fair and reasonable” international rules, but it is clear that China stretches its power over intellectual property around the world by granting “anti-suit injunctions” on behalf of Chinese smartphone makers, designed to curtail enforcement of foreign companies’ patent rights. …
Insufficient protections for intellectual property will hasten China’s objective of dominating collaborative standard development in the medium to long term. Simultaneously, this will engender a switch to greater reliance on proprietary, closed standards rather than collaborative, open standards. These harmful consequences are magnified in the context of the global technology landscape, and in light of China’s strategic effort to shape international technology standards. Chinese companies, directed by their government authorities, will gain significant control of the technologies that will underpin tomorrow’s digital goods and services.
A Center for Security and International Studies submission on the draft policy statement (signed by a former deputy secretary of the DOD, as well as former directors of the U.S. Patent and Trademark Office and the National Institute of Standards and Technology) also raised China-related national-security concerns:
[T]he largest short-term and long-term beneficiaries of the 2021 Draft Policy Statement are firms based in China. Currently, China is the world’s largest consumer of SEP-based technology, so weakening protection of American owned patents directly benefits Chinese manufacturers. The unintended effect of the 2021 Draft Policy Statement will be to support Chinese efforts to dominate critical technology standards and other advanced technologies, such as 5G. Put simply, devaluing U.S. patents is akin to a subsidized tech transfer to China.
Furthermore, in a more general vein, leading innovation economist David Teece also noted the negative national-security implications in his submission on the draft policy statement:
The US government, in reviewing competition policy issues that might impact standards, therefore needs to be aware that the issues at hand have tremendous geopolitical consequences and cannot be looked at in isolation. … Success in this regard will promote competition and is our best chance to maintain technological leadership—and, along with it, long-term economic growth and consumer welfare and national security.
That’s not all. In its public comment warning against precipitous finalization of the draft policy statement, the Innovation Alliance noted that, in recent years, major foreign jurisdictions have rejected the notion that SEP holders should be deprived the opportunity to seek injunctions. The Innovation Alliance opined in detail on the China national-security issues (footnotes omitted):
[T]he proposed shift in policy will undermine the confidence and clarity necessary to incentivize investments in important and risky research and development while simultaneously giving foreign competitors who do not rely on patents to drive investment in key technologies, like China, a distinct advantage. …
The draft policy statement … would devalue SEPs, and undermine the ability of U.S. firms to invest in the research and development needed to maintain global leadership in 5G and other critical technologies.
Without robust American investments, China—which has clear aspirations to control and lead in critical standards and technologies that are essential to our national security—will be left without any competition. Since 2015, President Xi has declared “whoever controls the standards controls the world.” China has rolled out the “China Standards 2035” plan and has outspent the United States by approximately $24 billion in wireless communications infrastructure, while China’s five-year economic plan calls for $400 billion in 5G-related investment.
Simply put, the draft policy statement will give an edge to China in the standards race because, without injunctions, American companies will lose the incentive to invest in the research and development needed to lead in standards setting. Chinese companies, on the other hand, will continue to race forward, funded primarily not by license fees, but by the focused investment of the Chinese government. …
Public hearings are necessary to take into full account the uncertainty of issuing yet another policy on this subject in such a short time period.
A key part of those hearings and further discussions must be the national security implications of a further shift in patent enforceability policy. Our future safety depends on continued U.S. leadership in areas like 5G and artificial intelligence. Policies that undermine the enforceability of patent rights disincentivize the substantial private sector investment necessary for research and development in these areas. Without that investment, development of these key technologies will begin elsewhere—likely China. Before any policy is accepted, key national-security stakeholders in the U.S. government should be asked for their official input.
These are not the only comments that raised the negative national-security ramifications of the draft policy statement (see here and here). For example, current Republican and Democratic senators, prior International Trade Commissioners, and former top DOJ and FTC officials also noted concerns. What’s more, the Patent Protection Society of China, which represents leading Chinese corporate implementers, filed a rather nonanalytic submission in favor of the draft statement. As one leading patent-licensing lawyer explains: “UC Berkley Law Professor Mark Cohen, whose distinguished government service includes serving as the USPTO representative in China, submitted a thoughtful comment explaining how the draft Policy Statement plays into China’s industrial and strategic interests.”
Finally, by weakening patent protection, the draft policy statement is at odds with the 2021 National Security Commission on Artificial Intelligence Report, which called for the United States to “[d]evelop and implement national IP policies to incentivize, expand, and protect emerging technologies[,]” in response to Chinese “leveraging and exploiting intellectual property (IP) policies as a critical tool within its national strategies for emerging technologies.”
In sum, adoption of the draft policy statement would raise antitrust risks, weaken key property rights protections for SEPs, and undercut U.S. technological innovation efforts vis-à-vis China, thereby undermining U.S. national security.
FTC v. Qualcomm: Misguided enforcement and national security
U.S. national-security interests have been threatened by more than just the recent SEP policy pronouncements. In filing a January 2017 antitrust suit (at the very end of the Obama administration) against Qualcomm’s patent-licensing practices, the FTC (by a partisan 2-1 vote) ignored the economic efficiencies that underpinned this highly successful American technology company’s practices. Had the suit succeeded, U.S. innovation in a critically important technology area would have needlessly suffered, with China as a major beneficiary. A recent Federalist Society Regulatory Transparency Project report on the New Madison Approach underscored the broad policy implications of FTC V. Qualcomm (citations deleted):
The FTC’s Qualcomm complaint reflected the anti-SEP bias present during the Obama administration. If it had been successful, the FTC’s prosecution would have seriously undermined the freedom of the company to engage in efficient licensing of its SEPs.
Qualcomm is perhaps the world’s leading wireless technology innovator. It has developed, patented, and licensed key technologies that power smartphones and other wireless devices, and continues to do so. Many of Qualcomm’s key patents are SEPs subject to FRAND, directed to communications standards adopted by wireless devices makers. Qualcomm also makes computer processors and chips embodied in cutting edge wireless devices. Thanks in large part to Qualcomm technology, those devices have improved dramatically over the last decade, offering consumers a vast array of new services at a lower and lower price, when quality is factored in. Qualcomm thus is the epitome of a high tech American success story that has greatly benefited consumers.
Qualcomm: (1) sells its chips to “downstream” original equipment manufacturers (OEMs, such as Samsung and Apple), on the condition that the OEMs obtain licenses to Qualcomm SEPs; and (2) refuses to license its FRAND-encumbered SEPs to rival chip makers, while allowing those rivals to create and sell chips embodying Qualcomm SEP technologies to those OEMS that have entered a licensing agreement with Qualcomm.
The FTC’s 2017 antitrust complaint, filed in federal district court in San Francisco, charged that Qualcomm’s “no license, no chips” policy allegedly “forced” OEM cell phone manufacturers to pay elevated royalties on products that use a competitor’s baseband processors. The FTC deemed this an illegal “anticompetitive tax” on the use of rivals’ processors, since phone manufacturers “could not run the risk” of declining licenses and thus losing all access to Qualcomm’s processors (which would be needed to sell phones on important cellular networks). The FTC also argued that Qualcomm’s refusal to license its rivals despite its SEP FRAND commitment violated the antitrust laws. Finally, the FTC asserted that a 2011-2016 Qualcomm exclusive dealing contract with Apple (in exchange for reduced patent royalties) had excluded business opportunities for Qualcomm competitors.
The federal district court held for the FTC. It ordered that Qualcomm end these supposedly anticompetitive practices and renegotiate its many contracts. [Among the beneficiaries of new pro-implementer contract terms would have been a leading Chinese licensee of Qualcomm’s, Huawei, the huge Chinese telecommunications company that has been accused by the U.S. government of using technological “back doors” to spy on the United States.]
Qualcomm appealed, and in August 2020 a panel of the Ninth Circuit Court of Appeals reversed the district court, holding for Qualcomm. Some of the key points underlying this holding were: (1) Qualcomm had no antitrust duty to deal with competitors, consistent with established Supreme Court precedent (a very narrow exception to this precedent did not apply); (2) Qualcomm’s rates were chip supplier neutral because all OEMs paid royalties, not just rivals’ customers; (3) the lower court failed to show how the “no license, no chips” policy harmed Qualcomm’s competitors; and (4) Qualcomm’s agreements with Apple did not have the effect of substantially foreclosing the market to competitors. The Ninth Circuit as a whole rejected the FTC’s “en banc” appeal for review of the panel decision.
The appellate decision in Qualcomm largely supports pillar four of the NMA, that unilateral and unconditional decisions not to license a patent should be deemed legal under the antitrust laws. More generally, the decision evinces a refusal to find anticompetitive harm in licensing markets without hard empirical support. The FTC and the lower court’s findings of “harm” had been essentially speculative and anecdotal at best. They had ignored the “big picture” that the markets in which Qualcomm operates had seen vigorous competition and the conferral of enormous and growing welfare benefits on consumers, year-by-year. The lower court and the FTC had also turned a deaf ear to a legitimate efficiency-related business rationale that explained Qualcomm’s “no license, no chips” policy – a fully justifiable desire to obtain a fair return on Qualcomm’s patented technology.
Qualcomm is well reasoned, and in line with sound modern antitrust precedent, but it is only one holding. The extent to which this case’s reasoning proves influential in other courts may in part depend on the policies advanced by DOJ and the FTC going forward. Thus, a preliminary examination of the Biden administration’s emerging patent-antitrust policy is warranted. [Subsequent discussion shows that the Biden administration apparently has rejected pro-consumer policies embodied in the 9th U.S. Circuit’s Qualcomm decision and in the NMA.]
Although the 9th Circuit did not comment on them, national-security-policy concerns weighed powerfully against the FTC v. Qualcomm suit. In a July 2019 Statement of Interest (SOI) filed with the circuit court, DOJ cogently set forth the antitrust flaws in the district court’s decision favoring the FTC. Furthermore, the SOI also explained that “the public interest” favored a stay of the district court holding, due to national-security concerns (described in some detail in statements by the departments of Defense and Energy, appended to the SOI):
[T]he public interest also takes account of national security concerns. Winter v. NRDC, 555 U.S. 7, 23-24 (2008). This case presents such concerns. In the view of the Executive Branch, diminishment of Qualcomm’s competitiveness in 5G innovation and standard-setting would significantly impact U.S. national security. A251-54 (CFIUS); LD ¶¶10-16 (Department of Defense); ED ¶¶9-10 (Department of Energy). Qualcomm is a trusted supplier of mission-critical products and services to the Department of Defense and the Department of Energy. LD ¶¶5-8; ED ¶¶8-9. Accordingly, the Department of Defense “is seriously concerned that any detrimental impact on Qualcomm’s position as global leader would adversely affect its ability to support national security.” LD ¶16.
The [district] court’s remedy [requiring the renegotiation of Qualcomm’s licensing contracts] is intended to deprive, and risks depriving, Qualcomm of substantial licensing revenue that could otherwise fund time-sensitive R&D and that Qualcomm cannot recover later if it prevails. See, e.g., Op. 227-28. To be sure, if Qualcomm ultimately prevails, vacatur of the injunction will limit the severity of Qualcomm’s revenue loss and the consequent impairment of its ability to perform functions critical to national security. The Department of Defense “firmly believes,” however, “that any measure that inappropriately limits Qualcomm’s technological leadership, ability to invest in [R&D], and market competitiveness, even in the short term, could harm national security. The risks to national security include the disruption of [the Department’s] supply chain and unsure U.S. leadership in 5G.” LD ¶3. Consequently, the public interest necessitates a stay pending this Court’s resolution of the merits. In these rare circumstances, the interest in preventing even a risk to national security—“an urgent objective of the highest order”—presents reason enough not to enforce the remedy immediately. Int’l Refugee Assistance Project, 137 S. Ct. at 2088 (internal quotations omitted).
Not all national-security arguments against antitrust enforcement may be well-grounded, of course. The key point is that the interests of national security and consumer-welfare-centric antitrust are fully aligned when antitrust suits would inefficiently undermine the competitive vigor of a firm or firms that play a major role in supporting U.S. national-security interests. Such was the case in FTC v. Qualcomm. More generally, heightened antitrust scrutiny of efficient patent-licensing practices (as threatened by the Biden administration) would tend to diminish innovation by U.S. patentees, particularly in areas covered by standards that are key to leading global technologies. Such a diminution in innovation will tend to weaken American advantages in important industry sectors that are vital to U.S. national-security interests.
Proposed Federal Antitrust Legislation
Proposed federal antitrust legislation being considered by Congress (see here, here, and here for informed critiques) would prescriptively restrict certain large technology companies’ business transactions. If enacted, such legislation would thereby preclude case-specific analysis of potential transaction-specific efficiencies, thereby undermining the consumer welfare standard at the heart of current sound and principled antitrust enforcement. The legislation would also be at odds with our national-security interests, as a recent U.S. Chamber of Commerce paper explains:
Congress is considering new antitrust legislation which, perversely, would weaken leading U.S. technology companies by crafting special purpose regulations under the guise of antitrust to prohibit those firms from engaging in business conduct that is widely acceptable when engaged in by rival competitors.
A series of legislative proposals – some of which already have been approved by relevant Congressional committees – would, among other things: dismantle these companies; prohibit them from engaging in significant new acquisitions or investments; require them to disclose sensitive user data and sensitive IP and trade secrets to competitors, including those that are foreign-owned and controlled; facilitate foreign influence in the United States; and compromise cybersecurity. These bills would fundamentally undermine American security interests while exempting from scrutiny Chinese and other foreign firms that do not meet arbitrary user and market capitalization thresholds specified in the legislation. …
The United States has never used legislation to punish success. In many industries, scale is important and has resulted in significant gains for the American economy, including small businesses. U.S. competition law promotes the interests of consumers, not competitors. It should not be used to pick winners and losers in the market or to manage competitive outcomes to benefit select competitors. Aggressive competition benefits consumers and society, for example by pushing down prices, disrupting existing business models, and introducing innovative products and services.
If enacted, the legislative proposals would drag the United States down in an unfolding global technological competition. Companies captured by the legislation would be required to compete against integrated foreign rivals with one hand tied behind their backs. Those firms that are the strongest drivers of U.S. innovation in AI, quantum computing, and other strategic technologies would be hamstrung or even broken apart, while foreign and state-backed producers of these same technologies would remain unscathed and seize the opportunity to increase market share, both in the U.S. and globally. …
Instead of warping antitrust law to punish a discrete group of American companies, the U.S. government should focus instead on vigorous enforcement of current law and on vocally opposing and effectively countering foreign regimes that deploy competition law and other legal and regulatory methods as industrial policy tools to unfairly target U.S. companies. The U.S. should avoid self-inflicted wounds to our competitiveness and national security that would result from turning antitrust into a weapon against dynamic and successful U.S. firms.
Consistent with this analysis, former Obama administration Defense Secretary Leon Panetta and former Trump administration Director of National Intelligence Dan Coats argued in a letter to U.S. House leadership (see here) that “imposing severe restrictions solely on U.S. giants will pave the way for a tech landscape dominated by China — echoing a position voiced by the Big Tech companies themselves.”
The national-security arguments against current antitrust legislative proposals, like the critiques of the unfounded FTC v. Qualcomm case, represent an alignment between sound antitrust policy and national-security analysis. Unfounded antitrust attacks on efficient business practices by large firms that help maintain U.S. technological leadership in key areas undermine both principled antitrust and national security.
Enlightened antitrust enforcement, centered on consumer welfare, can and should be read in a manner that is harmonious with national-security interests.
The cooperation between U.S. federal antitrust enforcers and the DOD in assessing defense-industry mergers and joint ventures is, generally speaking, an example of successful harmonization. This success reflects the fact that antitrust enforcers carry out their reviews of those transactions with an eye toward accommodating efficiencies that advance defense goals without sacrificing consumer welfare. Close antitrust-agency consultation with DOD is key to that approach.
Unfortunately, federal enforcement directed toward efficient intellectual-property licensing, as manifested in the Qualcomm case, reflects a disharmony between antitrust and national security. This disharmony could be eliminated if DOJ and the FTC adopted a dynamic view of intellectual property and the substantial economic-welfare benefits that flow from restrictive patent-licensing transactions.
In sum, a dynamic analysis reveals that consumer welfare is enhanced, not harmed, by not subjecting such licensing arrangements to antitrust threat. A more permissive approach to licensing is thus consistent with principled antitrust and with the national security interest of protecting and promoting strong American intellectual property (and, in particular, patent) protection. The DOJ and the FTC should keep this in mind and make appropriate changes to their IP-antitrust policies forthwith.
Finally, proposed federal antitrust legislation would bring about statutory changes that would simultaneously displace consumer welfare considerations and undercut national security interests. As such, national security is supported by rejecting unsound legislation, in order to keep in place consumer-welfare-based antitrust enforcement.
The acceptance and implementation of due-process standards confer a variety of welfare benefits on society. As Christopher Yoo, Thomas Fetzer, Shan Jiang, and Yong Huang explain, strong procedural due-process protections promote: (1) compliance with basic norms of impartiality; (2) greater accuracy of decisions; (3) stronger economic growth; (4) increased respect for government; (5) better compliance with the law; (6) better control of the bureaucracy; (7) restraints on the influence of special-interest groups; and (8) reduced corruption.
Recognizing these benefits (and consistent with the long Anglo-American tradition of recognizing due-process rights that dates back to Magna Carta), the U.S. government (USG) has long been active in advancing the adoption of due-process principles by competition-law authorities around the world, working particularly through the Organisation for Economic Co-operation and Development (OECD) and the International Competition Network (ICN). More generally, due process may be seen as an aspect of the rule of law, which is as important in antitrust as in other legal areas.
The USG has supported OECD Competition Committee work on due-process safeguards which began in 2010, and which culminated in the OECD ministers’ October 2021 adoption of a “Recommendation on Transparency and Procedural Fairness in Competition Law Enforcement.” This recommendation calls for: (1) competition and predictability in competition-law enforcement; (2) independence, impartiality, and professionalism of competition authorities; (3) non-discrimination, proportionality, and consistency in the treatment of parties subject to scrutiny; (4) timeliness in handling cases; (5) meaningful engagement with parties (including parties’ right to respond and be heard); (6) protection of confidential and privileged information; (7) impartial judicial review of enforcement decisions; and (8) periodic review of policies, rules, procedures, and guidelines, to ensure that they are aligned with the preceding seven principles.
The USG has also worked through the International Competition Network (ICN) to generate support for the acceptance of due-process principles by ICN member competition agencies and their governments. In describing ICN due-process initiatives, James Rill and Jana Seidl have explained that “[t]he current challenge is to determine the extent to which the ICN, as a voluntary organization, can or should establish mechanisms to evaluate implementation of … [due process] norms by its members and even non-members.”
In 2019, the ICN announced creation of a Framework for Competition Agency Procedures (CAP), open to both ICN and non-ICN national and multinational (most prominently, the EU’s Directorate General for Competition) competition agencies. The CAP essentially embodied the principles of a June 2018 U.S. Justice Department (DOJ) framework proposal. A September 2021 CAP Report (footnotes omitted) issued at an ICN steering-group meeting noted that the CAP had 73 members, and summarized the history and goals of the CAP as follows:
The ICN CAP is a non-binding, opt-in framework. It makes use of the ICN infrastructure to maximize visibility and impact while minimizing the administrative burden for participants that operate in different legal regimes and enforcement systems with different resource constraints. The ICN CAP promotes agreement among competition agencies worldwide on fundamental procedural norms. The Multilateral Framework for Procedures project, launched by the US Department of Justice in 2018, was the starting point for what is now the ICN CAP.
The ICN CAP rests on two pillars: the first pillar is a catalogue of fundamental, consensus principles for fair and effective agency procedures that reflect the broad consensus within the global competition community. The principles address: non-discrimination, transparency, notice of investigations, timely resolution, confidentiality protections, conflicts of interest, opportunity to defend, representation, written decisions, and judicial review.
The second pillar of the ICN CAP consists of two processes: the “CAP Cooperation Process,” which facilitates a dialogue between participating agencies, and the “CAP Review Process,” which enhances transparency about the rules governing participants’ investigation and enforcement procedures.
The ICN CAP template is the practical implementation tool for the CAP. Participants each submit CAP templates, outlining how their agencies adhere to each of the CAP principles. The templates allow participants to share and explain important features of their systems, including links and other references to related materials such as legislation, rules, regulations, and guidelines. The CAP templates are a useful resource for agencies to consult when they would like to gain a quick overview of other agencies’ procedures, benchmark with peer agencies, and develop new processes and procedures.
Through the two pillars and the template, the CAP provides a framework for agencies to affirm the importance of the CAP principles, to confer with other jurisdictions, and to illustrate how their regulations and guidelines adhere to those principles.
In short, the overarching goal of the ICN CAP is to give agencies a “nudge” to implement due-process principles by encouraging consultation with peer CAP members and exposing to public view agencies’ actual due-process record. The extent to which agencies will prove willing to strengthen their commitment to due process because of the CAP, or even join the CAP, remains to be seen. (China’s competition agency, the State Administration for Market Regulation (SAMR), has not joined the ICN CAP.)
Antitrust, Due Process, and the Rule of Law at the DOJ and the FTC
Now that the ICN CAP and OECD recommendation are in place, it is important that the DOJ and Federal Trade Commission (FTC), as long-time international promoters of due process, lead by example in adhering to all of those multinational instruments’ principles. A failure to do so would, in addition to having negative welfare consequences for affected parties (and U.S. economic welfare), undermine USG international due-process advocacy. Less effective advocacy efforts could, of course, impose additional costs on American businesses operating overseas, by subjecting them to more procedurally defective foreign antitrust prosecutions than otherwise.
With those considerations in mind, let us briefly examine the current status of due-process protections afforded by the FTC and DOJ. Although traditionally robust procedural safeguards remain strong overall, some worrisome developments during the first year of the Biden administration merit highlighting. Those developments implicate classic procedural issues and some broader rule of law concerns. (This commentary does not examine due-process and rule-of-law issues associated with U.S. antitrust enforcement at the state level, a topic that warrants scrutiny as well.)
New FTC leadership has taken several actions that have unfortunate due-process and rule-of-law implications (many of them through highly partisan 3-2 commission votes featuring strong dissents).
Consider the HSR Act, a Congressional compromise that gave enforcers advance notice of deals and parties the benefit of repose. HSR review [at the FTC] now faces death by a thousand cuts. We have hit month nine of a “temporary” and “brief” suspension of early termination. Letters are sent to parties when their waiting periods expire, warning them to close at their own risk. Is the investigation ongoing? Is there a set amount of time the parties should wait? No one knows! The new prior approval policy will flip the burden of proof and capture many deals below statutory thresholds. And sprawling investigations covering non-competition concerns exceed our Clayton Act authority.
These policy changes impose a gratuitous tax on merger activity – anticompetitive and procompetitive alike. There are costs to interfering with the market for corporate control, especially as we attempt to rebound from the pandemic. If new leadership wants the HSR Act rewritten, they should persuade Congress to amend it rather than taking matters into their own hands.
Uncertainty and delay surrounding merger proposals and new merger-review processes that appear to flaunt tension with statutory commands are FTC “innovations” that are in obvious tension with due-process guarantees.
FTC rulemaking initiatives have due-process and rule-of-law problems. As Commissioner Wilson noted (footnotes omitted), “[t]he [FTC] majority changed our rules of practice to limit stakeholder input and consolidate rulemaking power in the chair’s office. In Commissioner [Noah] Phillips’ words, these changes facilitate more rules, but not better ones.” Lack of stakeholder input offends due process. Even more serious, however, is the fact that far-reaching FTC competition rules are being planned (see the December 2021 FTC Statement of Regulatory Priorities). FTC competition rulemaking is likely beyond its statutory authority and would fail a cost-benefit analysis (see here). Moreover, even if competition rules survived, they would offend the rule of law (see here) by “lead[ing] to disparate legal treatment of a firm’s business practices, depending upon whether the FTC or the U.S. Justice Department was the investigating agency.”
The FTC’s July 2021 withdrawal of its 2015 “Statement of Enforcement Principles Regarding ‘Unfair Methods of Competition’ [UMC] Under Section 5 of the FTC Act” likewise undercuts the rule of law (see here). The 2015 Statement had tended to increase predictability in enforcement by tying the FTC’s exercise of its UMC authority to well-understood antitrust rule-of-reason principles and the generally accepted consumer welfare standard. By withdrawing the statement (over the dissents of Commissioners Wilson and Phillips) without promulgating a new policy, the FTC majority reduced enforcement guidance and generated greater legal uncertainty. The notion that the FTC may apply the UMC concept in an unbounded fashion lacks legal principle and threatens to chill innovative and welfare-enhancing business conduct.
Finally, the FTC’s abrupt September 2021 withdrawal of its approval of jointly issued 2020 DOJ-FTC Vertical Merger Guidelines (again over a dissent by Commissioners Wilson and Phillips), offends the rule of law in three ways. As Commissioner Wilson explains, it engenders confusion as to FTC policies regarding vertical-merger analysis going forward; it appears to reflect flawed economic thinking regarding vertical integration (which may in turn lead to enforcement error); and it creates a potential tension between DOJ and FTC approaches to vertical acquisitions (the third concern may disappear if and when DOJ and FTC agree to new merger guidelines).
As of now, the Biden administration DOJ has not taken as many actions that implicate rule-of-law and due-process concerns. Two recent initiatives with significant rule-of-law implications, however, deserve mention.
First, on Dec. 6, 2021, DOJ suddenly withdrew a 2019 policy statement on “Licensing Negotiations and Remedies for Standards-Essential Patents Subject to Voluntary F/RAND Commitments.” In so doing, DOJ simultaneously released a new draft policy statement on the same topic, and requested public comments. The timing of the withdrawal was peculiar, since the U.S. Patent and Trademark Office (PTO) and the National Institute of Standards and Technology (NIST)—who had joined with DOJ in the 2019 policy statement (which itself had replaced a 2013 policy statement)—did not yet have new Senate-confirmed leadership and were apparently not involved in the withdrawal. What’s more, DOJ originally requested that public comments be filed by the beginning of January, a ridiculously short amount of time for such a complex topic. (It later relented and established an early February deadline.) More serious than these procedural irregularities, however, are two new features of the Draft Policy Statement: (1) its delineation of a suggested private-negotiation framework for patent licensing; and (2) its assertion that standard essential patent (SEP) holders essentially forfeit the right to seek an injunction. These provisions, though not binding, may have a coercive effect on some private negotiators, and they problematically insert the government into matters that are appropriately the province of private businesses and the courts. Such an involvement by government enforcers in private negotiations, which treats one category of patents (SEPs) less favorably than others, raises rule-of-law questions.
Second, in January 2018, DOJ and the FTC jointly issued a “Request for Information on Merger Enforcement” [RIF] that contemplated the issuance of new merger guidelines (see my recent analysis, here). The RIF was chock full of numerous queries to prospective commentators that generally reflected a merger-skeptical tone. This suggests a predisposition to challenge mergers that, if embodied in guidelines language, could discourage some (or perhaps many) non-problematic consolidations from being proposed. New merger guidelines that impliedly were anti-merger would be a departure from previous guidelines, which stated in neutral fashion that they would consider both the anticompetitive risks and procompetitive benefits of mergers being reviewed. A second major concern is that the enforcement agencies might produce long and detailed guidelines containing all or most of the many theories of competitive harm found in the RIF. Overly complex guidelines would not produce any true guidance to private parties, inconsistent with the principle that individuals should be informed what the law is. Such guidelines also would give enforcers greater flexibility to selectively pick and choose theories best suited to block particular mergers. As such, the guidelines might be viewed by judges as justifications for arbitrary, rather than principled, enforcement, at odds with the rule of law.
It is to be hoped that the FTC and DOJ will take into account this international dimension in assessing the merits of antitrust “reforms” now under consideration. New enforcement policies that sow delay and uncertainty undermine the rule of law and are inconsistent with due-process principles. The consumer welfare harm that may flow from such deficient policies may be substantial. The agency missteps identified above should be rectified and new polices that would weaken due-process protections and undermine the rule of law should be avoided.
President Joe Biden’s July 2021 executive order set forth a commitment to reinvigorate U.S. innovation and competitiveness. The administration’s efforts to pass the America COMPETES Act would appear to further demonstrate a serious intent to pursue these objectives.
Yet several actions taken by federal agencies threaten to undermine the intellectual-property rights and transactional structures that have driven the exceptional performance of U.S. firms in key areas of the global innovation economy. These regulatory missteps together represent a policy “lose-lose” that lacks any sound basis in innovation economics and threatens U.S. leadership in mission-critical technology sectors.
Life Sciences: USTR Campaigns Against Intellectual-Property Rights
In the pharmaceutical sector, the administration’s signature action has been an unprecedented campaign by the Office of the U.S. Trade Representative (USTR) to block enforcement of patents and other intellectual-property rights held by companies that have broken records in the speed with which they developed and manufactured COVID-19 vaccines on a mass scale.
Patents were not an impediment in this process. To the contrary: they were necessary predicates to induce venture-capital investment in a small firm like BioNTech, which undertook drug development and then partnered with the much larger Pfizer to execute testing, production, and distribution. If success in vaccine development is rewarded with expropriation, this vital public-health sector is unlikely to attract investors in the future.
Contrary to increasingly common assertions that the Bayh-Dole Act (which enables universities to seek patents arising from research funded by the federal government) “robs” taxpayers of intellectual property they funded, the development of Covid-19 vaccines by scientist-founded firms illustrates how the combination of patents and private capital is essential to convert academic research into life-saving medical solutions. The biotech ecosystem has long relied on patents to structure partnerships among universities, startups, and large firms. The costly path from lab to market relies on a secure property-rights infrastructure to ensure exclusivity, without which no investor would put capital at stake in what is already a high-risk, high-cost enterprise.
This is not mere speculation. During the decades prior to the Bayh-Dole Act, the federal government placed strict limitations on the ability to patent or exclusively license innovations arising from federally funded research projects. The result: the market showed little interest in making the investment needed to convert those innovations into commercially viable products that might benefit consumers. This history casts great doubt on the wisdom of the USTR’s campaign to limit the ability of biopharmaceutical firms to maintain legal exclusivity over certain life sciences innovations.
Genomics: FTC Attempts to Block the Illumina/GRAIL Acquisition
In the genomics industry, the Federal Trade Commission (FTC) has devoted extensive resources to oppose the acquisition by Illumina—the market leader in next-generation DNA-sequencing equipment—of a medical-diagnostics startup, GRAIL (an Illumina spinoff), that has developed an early-stage cancer screening test.
It is hard to see the competitive threat. GRAIL is a pre-revenue company that operates in a novel market segment and its diagnostic test has not yet received approval from the Food and Drug Administration (FDA). To address concerns over barriers to potential competitors in this nascent market, Illumina has committed to 12-year supply contracts that would bar price increases or differential treatment for firms that develop oncology-detection tests requiring use of the Illumina platform.
The FTC’s case against Illumina’s re-acquisition of GRAIL relies on theoretical predictions of consumer harm in a market that is not yet operational. Hypothetical market failure scenarios may suit an academic seminar but fall well below the probative threshold for antitrust intervention.
Most critically, the Illumina enforcement action places at-risk a key element of well-functioning innovation ecosystems. Economies of scale and network effects lead technology markets to converge on a handful of leading platforms, which then often outsource research and development by funding and sometimes acquiring smaller firms that develop complementary technologies. This symbiotic relationship encourages entry and benefits consumers by bringing new products to market as efficiently as possible.
If antitrust interventions based on regulatory fiat, rather than empirical analysis, disrupt settled expectations in the M&A market that innovations can be monetized through acquisition transactions by larger firms, venture capital may be unwilling to fund such startups in the first place. Independent development or an initial public offering are often not feasible exit options. It is likely that innovation will then retreat to the confines of large incumbents that can fund research internally but often execute it less effectively.
Wireless Communications: DOJ Takes Aim at Standard-Essential Patents
Wireless communications stand at the heart of the global transition to a 5G-enabled “Internet of Things” that will transform business models and unlock efficiencies in myriad industries. It is therefore of paramount importance that policy actions in this sector rest on a rigorous economic basis. Unfortunately, a recent policy shift proposed by the U.S. Department of Justice’s (DOJ) Antitrust Division does not meet this standard.
In December 2021, the Antitrust Division released a draft policy statement that would largely bar owners of standard-essential patents from seeking injunctions against infringers, which are usually large device manufacturers. These patents cover wireless functionalities that enable transformative solutions in myriad industries, ranging from communications to transportation to health care. A handful of U.S. and European firms lead in wireless chip design and rely on patent licensing to disseminate technology to device manufacturers and to fund billions of dollars in research and development. The result is a technology ecosystem that has enjoyed continuous innovation, widespread user adoption, and declining quality-adjusted prices.
Rather than promoting competition or innovation, the proposed policy would simply transfer wealth from firms that develop new technologies at great cost and risk to firms that prefer to use those technologies at no cost at all. This does not benefit anyone other than device manufacturers that already capture the largest portion of economic value in the smartphone supply chain.
From international trade to antitrust to patent policy, the administration’s actions imply little appreciation for the property rights and contractual infrastructure that support real-world innovation markets. In particular, the administration’s policies endanger the intellectual-property rights and monetization pathways that support market incentives to invest in the development and commercialization of transformative technologies.
This creates an inviting vacuum for strategic rivals that are vigorously pursuing leadership positions in global technology markets. In industries that stand at the heart of the knowledge economy—life sciences, genomics, and wireless communications—the administration is on a counterproductive trajectory that overlooks the business realities of technology markets and threatens to push capital away from the entrepreneurs that drive a robust innovation ecosystem. It is time to reverse course.
During the exceptional rise in stock-market valuations from March 2020 to January 2022, both equity investors and antitrust regulators have implicitly agreed that so-called “Big Tech” firms enjoyed unbeatable competitive advantages as gatekeepers with largely unmitigated power over the digital ecosystem.
Investors bid up the value of tech stocks to exceptional levels, anticipating no competitive threat to incumbent platforms. Antitrust enforcers and some legislators have exhibited belief in the same underlying assumption. In their case, it has spurred advocacy of dramatic remedies—including breaking up the Big Tech platforms—as necessary interventions to restore competition.
Other voices in the antitrust community have been more circumspect. A key reason is the theory of contestable markets, developed in the 1980s by the late William Baumol and other economists, which holds that even extremely large market shares are at best a potential indicator of market power. To illustrate, consider the extreme case of a market occupied by a single firm. Intuitively, the firm would appear to have unqualified pricing power. Not so fast, say contestable market theorists. Suppose entry costs into the market are low and consumers can easily move to other providers. This means that the apparent monopolist will act as if the market is populated by other competitors. The takeaway: market share alone cannot demonstrate market power without evidence of sufficiently strong barriers to market entry.
While regulators and some legislators have overlooked this inconvenient principle, it appears the market has not. To illustrate, look no further than the Feb. 3 $230 billion crash in the market value of Meta Platforms—parent company of Facebook, Instagram, and WhatsApp, among other services.
In its antitrust suit against Meta, the Federal Trade Commission (FTC) has argued that Meta’s Facebook service enjoys a social-networking monopoly, a contention that the judge in the case initially rejected in June 2021 as so lacking in factual support that the suit was provisionally dismissed. The judge’s ruling (which he withdrew last month, allowing the suit to go forward after the FTC submitted a revised complaint) has been portrayed as evidence for the view that existing antitrust law sets overly demanding evidentiary standards that unfairly shelter corporate defendants.
Yet, the record-setting single-day loss in Meta’s value suggests the evidentiary standard is set just about right and the judge’s skepticism was fully warranted. Consider one of the principal reasons behind Meta’s plunge in value: its service had suffered substantial losses of users to TikTok, a formidable rival in a social-networking market in which the FTC claims that Facebook faces no serious competition. The market begs to differ. In light of the obvious competitive threat posed by TikTok and other services, investors reassessed Facebook’s staying power, which was then reflected in its owner Meta’s downgraded stock price.
Just as the investment bubble that had supported the stock market’s case for Meta has popped, so too must the regulatory bubble that had supported the FTC’s antitrust case against it. Investors’ reevaluation rebuts the FTC’s strained market definition that had implausibly excluded TikTok as a competitor.
Even more fundamentally, the market’s assessment shows that Facebook’s users face nominal switching costs—in which case, its leadership position is contestable and the Facebook “monopoly” is not much of a monopoly. While this conclusion might seem surprising, Facebook’s vulnerability is hardly exceptional: Nokia, Blackberry, AOL, Yahoo, Netscape, and PalmPilot illustrate how often seemingly unbeatable tech leaders have been toppled with remarkable speed.
The unraveling of the FTC’s case against what would appear to be an obviously dominant platform should be a wake-up call for those policymakers who have embraced populist antitrust’s view that existing evidentiary requirements, which minimize the risk of “false positive” findings of anticompetitive conduct, should be set aside as an inconvenient obstacle to regulatory and judicial intervention.
None of this should be interpreted to deny that concentration levels in certain digital markets raise significant antitrust concerns that merit close scrutiny. In particular, regulators have overlooked how some leading platforms have devalued intellectual-property rights in a manner that distorts technology and content markets by advantaging firms that operate integrated product and service ecosystems while disadvantaging firms that specialize in supplying the technological and creative inputs on which those ecosystems rely.
The fundamental point is that potential risks to competition posed by any leading platform’s business practices can be assessed through rigorous fact-based application of the existing toolkit of antitrust analysis. This is critical to evaluate whether a given firm likely occupies a transitory, rather than durable, leadership position. The plunge in Meta’s stock in response to a revealed competitive threat illustrates the perils of discarding that surgical toolkit in favor of a blunt “big is bad” principle.
Contrary to what has become an increasingly common narrative in policy discussions and political commentary, the existing framework of antitrust analysis was not designed by scholars strategically acting to protect “big business.” Rather, this framework was designed and refined by scholars dedicated to rationalizing, through the rigorous application of economic principles, an incoherent body of case law that had often harmed consumers by shielding incumbents against threats posed by more efficient rivals. The legal shortcuts being pursued by antitrust populists to detour around appropriately demanding evidentiary requirements are writing a “back to the future” script that threatens to return antitrust law to that unfortunate predicament.
Responding to a new draft policy statement from the U.S. Patent & Trademark Office (USPTO), the National Institute of Standards and Technology (NIST), and the U.S. Department of Justice, Antitrust Division (DOJ) regarding remedies for infringement of standard-essential patents (SEPs), a group of 19 distinguished law, economics, and business scholars convened by the International Center for Law & Economics (ICLE) submitted comments arguing that the guidance would improperly tilt the balance of power between implementers and inventors, and could undermine incentives for innovation.
As explained in the scholars’ comments, the draft policy statement misunderstands many aspects of patent and antitrust policy. The draft notably underestimates the value of injunctions and the circumstances in which they are a necessary remedy. It also overlooks important features of the standardization process that make opportunistic behavior much less likely than policymakers typically recognize. These points are discussed in even more detail in previous work by ICLE scholars, including here and here.
These first-order considerations are only the tip of the iceberg, however. Patent policy has a huge range of second-order effects that the draft policy statement and policymakers more generally tend to overlook. Indeed, reducing patent protection has more detrimental effects on economic welfare than the conventional wisdom typically assumes.
The comments highlight three important areas affected by SEP policy that would be undermined by the draft statement.
First, SEPs are established through an industry-wide, collaborative process that develops and protects innovations considered essential to an industry’s core functioning. This process enables firms to specialize in various functions throughout an industry, rather than vertically integrate to ensure compatibility.
Second, strong patent protection, especially of SEPs, boosts startup creation via a broader set of mechanisms than is typically recognized.
Finally, strong SEP protection is essential to safeguard U.S. technology leadership and sovereignty.
As explained in the scholars’ comments, the draft policy statement would be detrimental on all three of these dimensions.
To be clear, the comments do not argue that addressing these secondary effects should be a central focus of patent and antitrust policy. Instead, the point is that policymakers must deal with a far more complex set of issues than is commonly recognized; the effects of SEP policy aren’t limited to the allocation of rents among inventors and implementers (as they are sometimes framed in policy debates). Accordingly, policymakers should proceed with caution and resist the temptation to alter by fiat terms that have emerged through careful negotiation among inventors and implementers, and which have been governed for centuries by the common law of contract.
Collaborative Standard-Setting and Specialization as Substitutes for Proprietary Standards and Vertical Integration
Intellectual property in general—and patents, more specifically—is often described as a means to increase the monetary returns from the creation and distribution of innovations. While this is undeniably the case, this framing overlooks the essential role that IP also plays in promoting specialization throughout the economy.
As Ronald Coase famously showed in his Nobel-winning work, firms must constantly decide whether to perform functions in-house (by vertically integrating), or contract them out to third parties (via the market mechanism). Coase concluded that these decisions hinge on whether the transaction costs associated with the market mechanism outweigh the cost of organizing production internally. Decades later, Oliver Williamson added a key finding to this insight. He found that among the most important transaction costs that firms encounter are those that stem from incomplete contracts and the scope for opportunistic behavior they entail.
This leads to a simple rule of thumb: as the scope for opportunistic behavior increases, firms are less likely to use the market mechanism and will instead perform tasks in-house, leading to increased vertical integration.
IP plays a key role in this process. Patents drastically reduce the transaction costs associated with the transfer of knowledge. This gives firms the opportunity to develop innovations collaboratively and without fear that trading partners might opportunistically appropriate their inventions. In turn, this leads to increased specialization. As Robert Merges observes:
Patents facilitate arms-length trade of a technology-intensive input, leading to entry and specialization.
More specifically, it is worth noting that the development and commercialization of inventions can lead to two important sources of opportunistic behavior: patent holdup and patent holdout. As the assembled scholars explain in their comments, while patent holdup has drawn the lion’s share of policymaker attention, empirical and anecdotal evidence suggest that holdout is the more salient problem.
Policies that reduce these costs—especially patent holdout—in a cost-effective manner are worthwhile, with the immediate result that technologies are more widely distributed than would otherwise be the case. Inventors also see more intense and extensive incentives to produce those technologies in the first place.
The Importance of Intellectual Property Rights for Startup Activity
Strong patent rights are essential to monetize innovation, thus enabling new firms to gain a foothold in the marketplace. As the scholars’ comments explain, this is even more true for startup companies. There are three main reasons for this:
Patent rights protected by injunctions prevent established companies from simply copying innovative startups, with the expectation that they will be able to afford court-set royalties;
Patent rights can be the basis for securitization, facilitating access to startup funding; and
Patent rights drive venture capital (VC) investment.
While point (1) is widely acknowledged, many fail to recognize it is particularly important for startup companies. There is abundant literature on firms’ appropriability mechanisms (these are essentially the strategies firms employ to prevent rivals from copying their inventions). The literature tells us that patent protection is far from the only strategy firms use to protect their inventions (see. e.g., here, here and here).
The alternative appropriability mechanisms identified by these studies tend to be easier to implement for well-established firms. For instance, many firms earn returns on their inventions by incorporating them into physical products that cannot be reverse engineered. This is much easier for firms that already have a large industry presence and advanced manufacturing capabilities. In contrast, startup companies—almost by definition—must outsource production.
Second, property rights could drive startup activity through the collateralization of IP. By offering security interests in patents, trademarks, and copyrights, startups with little or no tangible assets can obtain funding without surrendering significant equity. As Gaétan de Rassenfosse puts it:
SMEs can leverage their IP to facilitate R&D financing…. [P]atents materialize the value of knowledge stock: they codify the knowledge and make it tradable, such that they can be used as collaterals. Recent theoretical evidence by Amable et al. (2010) suggests that a systematic use of patents as collateral would allow a high growth rate of innovations despite financial constraints.
Finally, there is reason to believe intellectual-property protection is an important driver of venture capital activity. Beyond simply enabling firms to earn returns on their investments, patents might signal to potential investors that a company is successful and/or valuable. Empirical research by Hsu and Ziedonis, for instance, supports this hypothesis:
[W]e find a statistically significant and economically large effect of patent filings on investor estimates of start-up value…. A doubling in the patent application stock of a new venture [in] this sector is associated with a 28 percent increase in valuation, representing an upward funding-round adjustment of approximately $16.8 million for the average start-up in our sample.
In short, intellectual property can stimulate startup activity through various mechanisms. There is thus a sense that, at the margin, weakening patent protection will make it harder for entrepreneurs to embark on new business ventures.
The Role of Strong SEP Rights in Guarding Against China’s ‘Cyber Great Power’ Ambitions
The United States, due in large measure to its strong intellectual-property protections, is a nation of innovators, and its production of IP is one of its most important comparative advantages.
IP and its legal protections become even more important, however, when dealing with international jurisdictions, like China, that don’t offer similar levels of legal protection. By making it harder for patent holders to obtain injunctions, licensees and implementers gain the advantage in the short term, because they are able to use patented technology without having to engage in negotiations to pay the full market price.
In the case of many SEPs—particularly those in the telecommunications sector—a great many patent holders are U.S.-based, while the lion’s share of implementers are Chinese. The anti-injunction policy espoused in the draft policy statement thus amounts to a subsidy to Chinese infringers of U.S. technology.
At the same time, China routinely undermines U.S. intellectual property protections through its industrial policy. The government’s stated goal is to promote “fair and reasonable” international rules, but it is clear that China stretches its power over intellectual property around the world by granting “anti-suit injunctions” on behalf of Chinese smartphone makers, designed to curtail enforcement of foreign companies’ patent rights.
This is part of the Chinese government’s larger approach to industrial policy, which seeks to expand Chinese power in international trade negotiations and in global standards bodies. As one Chinese Communist Party official put it:
Standards are the commanding heights, the right to speak, and the right to control. Therefore, the one who obtains the standards gains the world.
Insufficient protections for intellectual property will hasten China’s objective of dominating collaborative standard development in the medium to long term. Simultaneously, this will engender a switch to greater reliance on proprietary, closed standards rather than collaborative, open standards. These harmful consequences are magnified in the context of the global technology landscape, and in light of China’s strategic effort to shape international technology standards. Chinese companies, directed by their government authorities, will gain significant control of the technologies that will underpin tomorrow’s digital goods and services.
The scholars convened by ICLE were not alone in voicing these fears. David Teece (also a signatory to the ICLE-convened comments), for example, surmises in his comments that:
The US government, in reviewing competition policy issues that might impact standards, therefore needs to be aware that the issues at hand have tremendous geopolitical consequences and cannot be looked at in isolation…. Success in this regard will promote competition and is our best chance to maintain technological leadership—and, along with it, long-term economic growth and consumer welfare and national security.
What is more, the largest short-term and long-term beneficiaries of the 2021 Draft Policy Statement are firms based in China. Currently, China is the world’s largest consumer of SEP-based technology, so weakening protection of American owned patents directly benefits Chinese manufacturers. The unintended effect of the 2021 Draft Policy Statement will be to support Chinese efforts to dominate critical technology standards and other advanced technologies, such as 5G. Put simply, devaluing U.S. patents is akin to a subsidized tech transfer to China.
With Chinese authorities joining standardization bodies and increasingly claiming jurisdiction over F/RAND disputes, there should be careful reevaluation of the ways the draft policy statement would further weaken the United States’ comparative advantage in IP-dependent technological innovation.
In short, weakening patent protection could have detrimental ramifications that are routinely overlooked by policymakers. These include increasing inventors’ incentives to vertically integrate rather than develop innovations collaboratively; reducing startup activity (especially when combined with antitrust enforcers’ newfound proclivity to challenge startup acquisitions); and eroding America’s global technology leadership, particularly with respect to China.
For these reasons (and others), the text of the draft policy statement should be reconsidered and either revised substantially to better reflect these concerns or withdrawn entirely.
The signatories to the comments are:
Alden F. Abbott
Senior Research Fellow, Mercatus Center George Mason University Former General Counsel, U.S. Federal Trade Commission
Torrey H. Webb Professor of Law University of Southern California
Ronald A. Cass
Dean Emeritus, School of Law Boston University Former Commissioner and Vice-Chairman, U.S. International Trade Commission
Jean Monnet Chair in European Innovation Policy and Associate Professor of Competition Law & Economics University of Basilicata and LUISS (Italy)
Richard A. Epstein
Laurence A. Tisch Professor of Law New York University
Executive Director, Tusher Initiative at the Haas School of Business University of California, Berkeley
Justin (Gus) Hurwitz
Professor of Law University of Nebraska
Thomas A. Lambert
Wall Chair in Corporate Law and Governance University of Missouri
Stan J. Liebowitz
Ashbel Smith Professor of Economics University of Texas at Dallas
John E. Lopatka
A. Robert Noll Distinguished Professor of Law Penn State University
Founder and Managing Partner WiseHarbor
Geoffrey A. Manne
President and Founder International Center for Law & Economics
Professor of Law George Mason University
Austin E. Owen Research Scholar and Professor of Law University of Richmond
Vernon L. Smith
George L. Argyros Endowed Chair in Finance and Economics Chapman University Nobel Laureate in Economics (2002)
Daniel F. Spulber
Elinor Hobbs Distinguished Professor of International Business Northwestern University
David J. Teece
Thomas W. Tusher Professor in Global Business University of California, Berkeley
Joshua D. Wright
University Professor of Law George Mason University Former Commissioner, U.S. Federal Trade Commission
John M. Yun
Associate Professor of Law George Mason University Former Acting Deputy Assistant Director, Bureau of Economics, U.S. Federal Trade Commission
In Fleites v. MindGeek—currently before the U.S. District Court for the District of Central California, Southern Division—plaintiffs seek to hold MindGeek subsidiary PornHub liable for alleged instances of human trafficking under the Racketeer Influenced and Corrupt Organizations (RICO) and the Trafficking Victims Protection Reauthorization Act (TVPRA). Writing for the International Center for Law & Economics (ICLE), we have filed a motion for leave to submit an amicus brief regarding whether it is valid to treat co-defendant Visa Inc. as a proper party under principles of collateral liability.
The proposed brief draws on our previous work on the law & economics of collateral liability, and argues that holding Visa liable as a participant under RICO or TVPRA would amount to stretching collateral liability far beyond what is reasonable. Such a move, we posit, would “generate a massive amount of social cost that would outweigh the potential deterrent or compensatory gains sought.”
Collateral liability can make sense when intermediaries are in a position to effectively monitor and control potential harms. That is, it can be appropriate to apply collateral liability to parties who are what is often referred to as a “least cost avoider.” As we write:
In some circumstances it is indeed proper to hold third parties liable even though they are not primary actors directly implicated in wrongdoing. Most significantly, such liability may be appropriate when a collateral actor stands in a relationship to the wrongdoing (or wrongdoers or victims) such that the threat of liability can incentivize it to take action (or refrain from taking action) to prevent or mitigate the wrongdoing. That is to say, collateral liability may be appropriate when the third party has a significant enough degree of control over the primary actors such that its actions can cause them to reduce the risk of harm at reasonable cost. Importantly, however, such liability is appropriate only when direct deterrence is insufficient and/or the third party can prevent harm at lower cost or more effectively than direct enforcement… From an economic perspective, liability should be imposed upon the party or parties best positioned to deter the harms in question, such that the costs of enforcement do not exceed the social gains realized.
The law of negligence under the common law, as well as contributory infringement under copyright law, both help illustrate this principle. Under the common law, collateral actors have a duty in only limited circumstances, when the harms are “reasonably foreseeable” and the actor has special access to particularized information about the victims or the perpetrators, as well as a special ability to control harmful conditions. Under copyright law, collateral liability is similarly limited to circumstances where collateral actors are best positioned to prevent the harm, and the benefits of holding such actors liable exceed the harms.
Neither of these conditions are true in Fleites v. MindGeek: Visa is not the type of collateral actor that has any access to specialized information or the ability to control actual bad actors. Visa, as a card-payment network, simply processes payments. The only tool at the disposal of Visa is a giant sledgehammer: it can foreclose all transactions to particular sites that run over its network. There is no dispute that the vast majority of content hosted on sites like MindGeek is lawful, however awful one may believe pornography to be. Holding card networks liable here would create incentives to avoid processing payments for such sites altogether in order to avoid legal consequences.
The potential costs of the theory of liability asserted here stretch far beyond Visa or this particular case. The plaintiffs’ theory would hold anyone liable who provides services that “allow the alleged principal actors to continue to do business.” This would mean that Federal Express, for example, would be liable for continuing to deliver packages to MindGeek’s address or that a waste-management company could be liable for providing custodial services to the building where MindGeek has an office.
According to the plaintiffs, even the mere existence of a newspaper article alleging a company is doing something illegal is sufficient to find that professionals who have provided services to that company “participate” in a conspiracy. This would have ripple effects for professionals from many other industries—from accountants to bankers to insurance—who all would see significantly increased risk of liability.
Activists who railed against the Stop Online Piracy Act (SOPA) and the PROTECT IP Act (PIPA) a decade ago today celebrate the 10th anniversary of their day of protest, which they credit with sending the bills down to defeat.
But despite the activists’ temporary legislative victory, the methods of combating digital piracy that SOPA/PIPA contemplated have been employed successfully around the world. It may, indeed, be time for the United States to revisit that approach, as the very real problems the legislation sought to combat haven’t gone away.
From the perspective of rightsholders, the bill’s most important feature was also its most contentious: the ability to enforce judicial “site-blocking orders.” A site-blocking order is a type of remedy sometimes referred to as a no-fault injunction. Under SOPA/PIPA, a court would have been permitted to issue orders that could be used to force a range of firms—from financial providers to ISPs—to cease doing business with or suspend the service of a website that hosted infringing content.
Under current U.S. law, even when a court finds that a site has willfully engaged in infringement, stopping the infringement can be difficult, especially when the parties and their facilities are located outside the country. While Section 512 of the Digital Millennium Copyright Act does allow courts to issue injunctions, there is ambiguity as to whether it allows courts to issue injunctions that obligate online service providers (“OSP”) not directly party to a case to remove infringing material.
Section 512(j), for instance, provides for issuing injunctions “against a service provider that is not subject to monetary remedies under this section.” The “not subject to monetary remedies under this section” language could be construed to mean that such injunctions may be obtained even against OSPs that have not been found at fault for the underlying infringement. But as Motion Picture Association President Stanford K. McCoy testified in 2020:
In more than twenty years … these provisions of the DMCA have never been deployed, presumably because of uncertainty about whether it is necessary to find fault against the service provider before an injunction could issue, unlike the clear no-fault injunctive remedies available in other countries.
But while no-fault injunctions for copyright infringement have not materialized in the United States, this remedy has been used widely around the world. In fact, more than 40 countries—including Denmark, Finland, France, India, England, and Wales—have enacted or are under some obligation to enact rules allowing for no-fault injunctions that direct ISPs to disable access to websites that predominantly promote copyright infringement.
In short, precisely the approach to controlling piracy that SOPA/PIPA envisioned has been in force around the world over the last decade. This demonstrates that, if properly tailored, no-fault injunctions are an ideal tool for courts to use in the fight to combat piracy.
If anything, we should be using the anniversary of SOPA/PIPA as an opportunity to reflect on a missed opportunity. Congress should take this opportunity to amend Section 512 to grant U.S. courts authority to issue no-fault injunctions that require OSPs to block access to sites that willfully engage in mass infringement.
The leading contribution to sound competition policy made by former Assistant U.S. Attorney General Makan Delrahim was his enunciation of the “New Madison Approach” to patent-antitrust enforcement—and, in particular, to the antitrust treatment of standard essential patent licensing (see, for example, here, here, and here). In short (citations omitted):
The New Madison Approach (“NMA”) advanced by former Assistant Attorney General for Antitrust Makan Delrahim is a simple analytical framework for understanding the interplay between patents and antitrust law arising out of standard setting. A key aspect of the NMA is its rejection of the application of antitrust law to the “hold-up” problem, whereby patent holders demand supposedly supra-competitive licensing fees to grant access to their patents that “read on” a standard – standard essential patents (“SEPs”). This scenario is associated with an SEP holder’s prior commitment to a standard setting organization (“SSO”), that is: if its patented technology is included in a proposed new standard, it will license its patents on fair, reasonable, and non-discriminatory (“FRAND”) terms. “Hold-up” is said to arise subsequently, when the SEP holder reneges on its FRAND commitment and demands that a technology implementer pay higher-than-FRAND licensing fees to access its SEPs.
The NMA has four basic premises that are aimed at ensuring that patent holders have adequate incentives to innovate and create welfare-enhancing new technologies, and that licensees have appropriate incentives to implement those technologies:
1. Hold-up is not an antitrust problem. Accordingly, an antitrust remedy is not the correct tool to resolve patent licensing disputes between SEP-holders and implementers of a standard.
2. SSOs should not allow collective actions by standard-implementers to disfavor patent holders in setting the terms of access to patents that cover a new standard.
3. A fundamental element of patent rights is the right to exclude. As such, SSOs and courts should be hesitant to restrict SEP holders’ right to exclude implementers from access to their patents, by, for example, seeking injunctions.
4. Unilateral and unconditional decisions not to license a patent should be per se legal.
Delrahim emphasizes that the threat of antitrust liability, specifically treble damages, distorts the incentives associated with good faith negotiations with SSOs over patent inclusion. Contract law, he goes on to note, is perfectly capable of providing an ex post solution to licensing disputes between SEP holders and implementers of a standard. Unlike antitrust law, a contract law framework allows all parties equal leverage in licensing negotiations.
[P]atented technology serves as a catalyst for the wealth-creating diffusion of innovation. This occurs through numerous commercialization methods; in the context of standardized technologies, the development of standards is a process of discovery. At each [SSO], the process of discussion and negotiation between engineers, businesspersons, and all other relevant stakeholders reveals the relative value of alternative technologies and tends to result in the best patents being integrated into a standard.
The NMA supports this process of discovery and implementation of the best patented technology born of the labors of the innovators who created it. As a result, the NMA ensures SEP valuations that allow SEP holders to obtain an appropriate return for the new economic surplus that results from the commercialization of standard-engendered innovations. It recognizes that dynamic economic growth is fostered through the incentivization of innovative activities backed by patents.
In sum, the NMA seeks to promote innovation by offering incentives for SEP-driven technological improvements. As such, it rejects as ill-founded prior Federal Trade Commission (FTC) litigation settlements and Obama-era U.S. Justice Department (DOJ) Antitrust Division policy statements that artificially favored implementor licensees’ interests over those of SEP licensors (see here).
In light of the NMA, DOJ cooperated with the U.S. Patent and Trademark Office and National Institute of Standards and Technology (NIST) in issuing a 2019 SEP Policy Statement clarifying that an SEP holder’s promise to license a patent on fair, reasonable, and non-discriminatory (FRAND) terms does not bar it from seeking any available remedy for patent infringement, including an injunction. This signaled that SEPs and non-SEP patents enjoy equivalent legal status.
Furthermore, DOJ issued a July 2019 Statement of Interest before the 9th U.S. Circuit Court of Appeals in FTC v. Qualcomm, explaining that unilateral and unconditional decisions not to license a patent are legal under the antitrust laws. In October 2020, the 9th Circuit reversed a district court decision and rejected the FTC’s monopolization suit against Qualcomm. The circuit court, among other findings, held that Qualcomm had no antitrust duty to license its SEPs to competitors.
Regrettably, the Biden Administration appears to be close to rejecting the NMA and to reinstituting the anti-strong patents SEP-skeptical views of the Obama administration (see here and here). DOJ already has effectively repudiated the 2020 supplement to the 2015 IEEE letter and the 2019 SEP Policy Statement. Furthermore, written responses to Senate Judiciary Committee questions by assistant attorney general nominee Jonathan Kanter suggest support for renewed antitrust scrutiny of SEP licensing. These developments are highly problematic if one supports dynamic economic growth.
The NMA represents a pro-American, pro-growth innovation policy prescription. Its abandonment would reduce incentives to invest in patents and standard-setting activities, to the detriment of the U.S. economy. Such a development would be particularly unfortunate at a time when U.S. Supreme Court decisions have weakened American patent rights (see here); China is taking steps to strengthen Chinese patents and raise incentives to obtain Chinese patents (see here); and China is engaging in litigation to weaken key U.S. patents and undermine American technological leadership (see here).
The rejection of NMA would also be in tension with the logic of the 5th U.S. Circuit Court of Appeals’ 2021 HTC v. Ericsson decision, which held that the non-discrimination portion of the FRAND commitment required Ericsson to give HTC the same licensing terms as given to larger mobile-device manufacturers. Furthermore, recent important European court decisions are generally consistent with NMA principles (see here).
Given the importance of dynamic competition in an increasingly globalized world economy, Biden administration officials may wish to take a closer look at the economic arguments supporting the NMA before taking final action to condemn it. Among other things, the administration might take note that major U.S. digital platforms, which are the subject of multiple U.S. and foreign antitrust enforcement investigations, tend to firmly oppose strong patents rights. As one major innovation economist recently pointed out:
If policymakers and antitrust gurus are so concerned about stemming the rising power of Big Tech platforms, they should start by first stopping the relentless attack on IP. Without the IP system, only the big and powerful have the privilege to innovate[.]
The patent system is too often caricatured as involving the grant of “monopolies” that may be used to delay entry and retard competition in key sectors of the economy. The accumulation of allegedly “poor-quality” patents into thickets and portfolios held by “patent trolls” is said by critics to spawn excessive royalty-licensing demands and threatened “holdups” of firms that produce innovative products and services. These alleged patent abuses have been characterized as a wasteful “tax” on high-tech implementers of patented technologies, which inefficiently raises price and harms consumer welfare.
Fortunately, solid scholarship has debunked these stories and instead pointed to the key role patents play in enhancing competition and driving innovation. See, for example, here, here, here, here, here, here, and here.
Before it takes further steps that would undermine patent protections, the administration should consider new research that underscores how patents help to spawn dynamic market growth through “design around” competition and through licensing that promotes new technologies and product markets.
Critics sometimes bemoan the fact that patents covering a new product or technology allegedly retard competition by preventing new firms from entering a market. (Never mind the fact that the market might not have existed but for the patent.) This thinking, which confuses a patent with a product-market monopoly, is badly mistaken. It is belied by the fact that the publicly available patented technology itself (1) provides valuable information to third parties; and (2) thereby incentivizes them to innovate and compete by refining technologies that fall outside the scope of the patent. In short, patents on important new technologies stimulate, rather than retard, competition. They do this by leading third parties to “design around” the patented technology and thus generate competition that features a richer set of technological options realized in new products.
The importance of design around is revealed, for example, in the development of the incandescent light bulb market in the late 19th century, in reaction to Edison’s patent on a long-lived light bulb. In a 2021 article in the Journal of Competition Law and Economics, Ron D. Katznelson and John Howells did an empirical study of this important example of product innovation. The article’s synopsis explains:
Designing around patents is prevalent but not often appreciated as a means by which patents promote economic development through competition. We provide a novel empirical study of the extent and timing of designing around patent claims. We study the filing rate of incandescent lamp-related patents during 1878–1898 and find that the enforcement of Edison’s incandescent lamp patent in 1891–1894 stimulated a surge of patenting. We studied the specific design features of the lamps described in these lamp patents and compared them with Edison’s claimed invention to create a count of noninfringing designs by filing date. Most of these noninfringing designs circumvented Edison’s patent claims by creating substitute technologies to enable participation in the market. Our forward citation analysis of these patents shows that some had introduced pioneering prior art for new fields. This indicates that invention around patents is not duplicative research and contributes to dynamic economic efficiency. We show that the Edison lamp patent did not suppress advance in electric lighting and the market power of the Edison patent owner weakened during this patent’s enforcement. We propose that investigation of the effects of design around patents is essential for establishing the degree of market power conferred by patents.
In a recent commentary, Katznelson highlights the procompetitive consumer welfare benefits of the Edison light bulb design around:
GE’s enforcement of the Edison patent by injunctions did not stifle competition nor did it endow GE with undue market power, let alone a “monopoly.” Instead, it resulted in clear and tangible consumer welfare benefits. Investments in design-arounds resulted in tangible and measurable dynamic economic efficiencies by (a) increased competition, (b) lamp price reductions, (c) larger choice of suppliers, (d) acceleration of downstream development of new electric illumination technologies, and (e) collateral creation of new technologies that would not have been developed for some time but for the need to design around Edison’s patent claims. These are all imparted benefits attributable to patent enforcement.
Katznelson further explains that “the mythical harm to innovation inflicted by enforcers of pioneer patents is not unique to the Edison case.” He cites additional research debunking claims that the Wright brothers’ pioneer airplane patent seriously retarded progress in aviation (“[a]ircraft manufacturing and investments grew at an even faster pace after the assertion of the Wright Brothers’ patent than before”) and debunking similar claims made about the early radio industry and the early automobile industry. He also notes strong research refuting the patent holdup conjecture regarding standard essential patents. He concludes by bemoaning “infringers’ rhetoric” that “suppresses information on the positive aspects of patent enforcement, such as the design-around effects that we study in this article.”
The Bayh-Dole Act: Licensing that Promotes New Technologies and Product Markets
The Bayh-Dole Act of 1980 has played an enormously important role in accelerating American technological innovation by creating a property rights-based incentive to use government labs. As this good summary from the Biotechnology Innovation Organization puts it, it “[e]mpowers universities, small businesses and non-profit institutions to take ownership [through patent rights] of inventions made during federally-funded research, so they can license these basic inventions for further applied research and development and broader public use.”
The act has continued to generate many new welfare-enhancing technologies and related high-tech business opportunities even during the “COVID slowdown year” of 2020, according to a newly released survey by a nonprofit organization representing the technology management community (see here):
° The number of startup companies launched around academic inventions rose from 1,040 in 2019 to 1,117 in 2020. Almost 70% of these companies locate in the same state as the research institution that licensed them—making Bayh-Dole a critical driver of state and regional economic development; ° Invention disclosures went from 25,392 to 27,112 in 2020; ° New patent applications increased from 15,972 to 17,738; ° Licenses and options went from 9,751 in ’19 to 10,050 in ’20, with 60% of licenses going to small companies; and ° Most impressive of all—new products introduced to the market based on academic inventions jumped from 711 in 2019 to 933 in 2020.
Despite this continued record of success, the Biden Administration has taken actions that create uncertainty about the government’s support for Bayh-Dole.
As explained by the Congressional Research Service, “march-in rights allow the government, in specified circumstances, to require the contractor or successors in title to the patent to grant a ‘nonexclusive, partially exclusive, or exclusive license’ to a ‘responsible applicant or applicants.’ If the patent owner refuses to do so, the government may grant the license itself.” Government march-in rights thus far have not been invoked, but a serious threat of their routine invocation would greatly disincentivize future use of Bayh-Dole, thereby undermining patent-backed innovation.
Despite this, the president’s July 9 Executive Order on Competition (noted above) instructed the U.S. Commerce Department to defer finalizing a regulation (see here) “that would have ensured that march-in rights under Bayh Dole would not be misused to allow the government to set prices, but utilized for its statutory intent of providing oversight so good faith efforts are being made to turn government-funded innovations into products. But that’s all up in the air now.”
What’s more, a new U.S. Energy Department policy that would more closely scrutinize Bayh-Dole patentees’ licensing transactions and acquisitions (apparently to encourage more domestic manufacturing) has raised questions in the Bayh-Dole community and may discourage licensing transactions (see here and here). Added to this is the fact that “prominent Members of Congress are pressing the Biden Administration to misconstrue the march-in rights clause to control prices of products arising from National Institutes of Health and Department of Defense funding.” All told, therefore, the outlook for continued patent-inspired innovation through Bayh-Dole processes appears to be worse than it has been in many years.
The patent system does far more than provide potential rewards to enhance incentives for particular individuals to invent. The system also creates a means to enhance welfare by facilitating the diffusion of technology through market processes (see here).
But it does even more than that. It actually drives new forms of dynamic competition by inducing third parties to design around new patents, to the benefit of consumers and the overall economy. As revealed by the Bayh-Dole Act, it also has facilitated the more efficient use of federal labs to generate innovation and new products and processes that would not otherwise have seen the light of day. Let us hope that the Biden administration pays heed to these benefits to the American economy and thinks again before taking steps that would further weaken our patent system.