Economics has long emphasized the market failures that beset the competitive provision of innovations (Arrow, 1962). Creative and inventive activities produce

*Partial support for this research project was provided by Pioneer Hi-Bred International by means of a gift to the Iowa State University Foundation.

intangible assets that can be quite costly to obtain, that may be extremely valuable to society at large, but that can be copied and/or imitated very easily. Intellectual property rights (IPRs) such as patents, copyrights and trademarks - allowing the producers of new and/or original work to assert (limited) exclusive ownership on the outcome of their efforts - can provide a solution to the incentive problems that arise in this context. But the solution provided by IPRs displays a quintessential second-best nature (Langinier and Moschini, 2002). Ex ante, the profit opportunities made possible by the exclusivity conferred by IPRs provide a critical incentive for private research and development (R&D) activities. But ex post, because IPRs confer a degree of monopoly power, they introduce a novel source of distortions in the economy by restricting the use of innovations (which typically have the nature of a public good). This leads to the basic trade-off between static and dynamic efficiency illustrated by Nordhaus (1969), which implies that weak IPRs may provide insufficient incentive, but strong IPRs may inefficiently restrict the use of an innovation. Thus, the form and extent of the optimal IPR system is still an open question.

The fact that most innovations are not produced in isolation, but are rather often derived from the existing stock of possibly proprietary knowledge, adds a new dimension to the analysis of IPRs. In particular, to provide adequate incentives for innovation, IPRs should offer protection not only from imitation but also from future inventions that will compete with the protected product (Scotchmer, 1991). This is especially critical in a sequential and cumulative innovation context, such as that characterizing the case of biotechnology's 'research tools', or the case in which successive innovations can be viewed as a quality ladder. The possibility of granting patents with a so-called leading breadth that is sufficiently large can, in principle, provide sufficient protection. But then it is not clear whether the competitors' research activities themselves, which in the case of cumulative innovation unavoidably rely on the use of existing (proprietary) knowledge, should be viewed as infringing. To put it another way, the question is whether IPRs should contemplate a well-defined 'experimental use' or 'research exemption' (RE) provision. Such a provision would clearly weaken the exclusivity conferred by IPRs, thereby affecting the incentive to innovate. At the same time, it is quite plausible that restricting the 'experimental use' of proprietary technology could overly restrict future improvements on an innovation and be suboptimal from the social point of view. So far there has been no systematic attempt to investigate this question and relate it to the relevant features of the specific cumulative research process under consideration.

This chapter focuses on the RE to compare and contrast the innovation incentives provided to plant breeders by two alternative IPR instruments: utility patents and so-called plant breeders' rights (PBRs), which in the USA are implemented by the 1970 Plant Variety Protection Act (PVPA). PBRs allow the use of others' proprietary germplasm when breeding new varieties. This RE provision stands in sharp contrast with the stronger type of protection granted by utility patents. As was confirmed by the Court of Appeals for the Federal Circuit in Madey v Duke, the US patent law does not envision a statutory RE (Eisenberg, 2003). As the innovation process of interest (plant breeding) is a quintessential sequential endeavour, the dynamic incentive issues related to the availability of an RE (or lack thereof) take on a central role. This chapter also discusses the main features of PBRs and patent systems for the problem at hand. The economic impacts of PVP have been the subject of many empirical studies, which are briefly reviewed. The assessment that they yield is (perhaps inevitably) largely inconclusive. This motivates us to pursue a more theoretical approach. Thus the simple model that is developed, rooted in the quality ladder models of sequential innovation, permits an initial investigation of the different innovation incentives that flow from PVP and patent protection. We find that the presence of an RE inevitably weakens the firms' ex ante incentive to innovate.

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