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An Economic Model of Patent Exhaustion

39 Pages Posted: 23 Feb 2017 Last revised: 4 Oct 2017

Olena Ivus

Smith School of Business

Edwin L.-C. Lai

Hong Kong University of Science & Technology (HKUST) - Department of Economics

Ted M. Sichelman

University of San Diego School of Law

Date Written: September 17, 2017

Abstract

The doctrine of “patent exhaustion” implies that the authorized sale of patented goods “exhausts” the patent rights in the goods sold and precludes additional license fees from downstream buyers. This paper offers the first formal economic model of domestic patent exhaustion that incorporates transaction costs in consumer licensing, and examines how a shift in patent policy from absolute to presumptive exhaustion, in which the patent owner can opt- out of exhaustion via contract, affects social welfare. The results show that when transaction costs are low, presumptive exhaustion is socially optimal, because it allows welfare-enhancing price discrimination via downstream licensing. Conversely, when transaction costs are high, the regime of presumptive patent exhaustion leads to a greater loss of static efficiency, because transaction cost frictions offset the benefits of price discrimination, but dynamic benefits in promoting ex ante investment in product quality may outweigh any static inefficiencies.

Keywords: Intellectual Property, Patent Exhaustion, First Sale Doctrine, Patent Licensing

JEL Classification: F10, O34, F100, O310

Suggested Citation

Ivus, Olena and Lai, Edwin L.-C. and Sichelman, Ted M., An Economic Model of Patent Exhaustion (September 17, 2017). San Diego Legal Studies Paper No. 17-265; CESifo Working Paper Series No. 6638. Available at SSRN: https://ssrn.com/abstract=2921443 or http://dx.doi.org/10.2139/ssrn.2921443

Olena Ivus

Smith School of Business ( email )

Queen's University
143 Union Street
Kingston, Ontario K7L 3N6
Canada

Edwin L.-C. Lai

Hong Kong University of Science & Technology (HKUST) - Department of Economics ( email )

Clear Water Bay
Kowloon, Hong Kong
China

Ted M. Sichelman (Contact Author)

University of San Diego School of Law ( email )

5998 Alcala Park
San Diego, CA 92110-2492
United States
(619) 260-7512 (Phone)
(619) 260-2748 (Fax)

HOME PAGE: http://https://www.sandiego.edu/law/faculty/profiles/bio.php?ID=795

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