How Chicago Is Beating Silicon Valley At The Patent Game

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Silicon Valley leads the world in technology but it’s losing a debate over how that technology should be used. A new surge in patent lawsuits shows that Chicago, not Silicon Valley, is setting the rules for how patents should encourage innovation.

The University of Chicago, through its Nobel-prize winning economists, is a champion of property rights and free market policies. Now, in the field of technology, Chicago’s ideas are also being used to justify harmful and expensive lawsuits.

Patent lawsuits made headlines yet again this month after Yahoo (NSDQ:YHOO - News) used ten questionable patents to claim that it, not Facebook, invented the social network. There have also been a rash of new suits by patent trolls—shell companies that don’t make anything but use patents to sue companies that do.

Trolls (known more politely as “non-practicing entities”) have been around for years but stepped into high gear in 2012. In the last two months, for instance, troll shell companies have unleashed lawsuits that claim monopolies on everything from emoticons to virtual goods in video games.

The problem is becoming worse. Top patent lawyers are leaving their firms to partner with hedge funds on new trolling ventures and super-troll Intellectual Ventures (reported to own more than 60,000 patents) is now suing with a vengeance. Meanwhile, mystery troll Lodsys is still demanding small app developers hand over two percent of revenues or else be taken to court over a common ‘in-app purchase’ feature.

So where does Chicago fit into all this? The answer is that it’s behind the “liquid market” theory of patents that gives a gloss of legitimacy to what many people would call extortion.

Chicago firms like Ocean Tomo, which runs intellectual property auctions, have helped popularize the idea of treating patents like widgets to be bought and sold. Lodsys front man, Mark Small, is also from Chicago. In their view, the patent status quo is working well.

The liquid market theory has a more formidable defender in Richard Epstein, a renowned University of Chicago law professor and Financial Times contributor. In an email exchange, he described trolls as “an overrated issue” and added,  “So long as there is quick closure, a patent is a wasting asset, and marketing beats lurking every time.”

This view—that treats patents as any other form property to be bought and sold—holds up in theory. But in practice, it’s dangerous because the property in question is not a widget but an idea that the owner can control and punish others for using. And since a patent is effectively a monopoly, the royalty demands seem less like a free market exchange than an old fashioned tax.

If Congress imposed a two percent tax “invention tax”, the politicians responsible would be voted out for a generation. But if a company like Lodsys does the same thing, it can claim to be promoting a free market.

The larger problem here is that a market for shaky patents is not a good idea in the first place. Do we think a complicated IRS tax is justified just because it creates a market for accounting services?

And if anyone doubts the patents are shaky, read what a former Yahoo engineer or a leading venture capitalist has to say about Yahoo’s so-called inventions. And these are just a small sample of the thousands of suspect patents fueling lawsuits and license demands.

The patent system is obviously dysfunctional and needs to be fixed but the role of patents in American mythology makes it hard to do so. To most people, the word “patent” still conjures images of Thomas Edison or Abraham Lincoln (US Patent 6469)—even though most of today’s patents are the product of lawyers and MBA’s using obtuse language to pressure a swamped and overworked patent office. The courts, meanwhile, are still in a state of confusion about what can and can’t be patented.

As for Silicon Valley developers, most know intuitively that innovation comes from sharing and collaboration and not from a single genius shrieking Eureka! For them and many academics, patent monopolies (especially those for software and “business methods”) are not a spur to research but a barrier.

These real inventors of Silicon Valley have champions of their own such as Mark Lemley, a Stanford professor and the country’s leading authority on patent law.

In a new paper called “The Myth of the Solo Inventor,” Lemley provides evidence that many famous inventions were produced by different people at the same time, and that patent owners typically sue independent inventors and not copycats. His work raises important questions about why patents are awarded in the first place.

Meanwhile, new economic research
suggests that free licensing is more efficient than patent monopolies to achieve technology breakthroughs and create large markets for new products.

For now, though, this research is going unheeded as Intellectual Ventures and others continue to spin Chicago-style theories to justify their troll taxes.

If Silicon Valley is to escape a circular firing squad of patent litigation, it must push back with its own homegrown patent theories. The recent SOPA victory taught engineers to flex their political muscles. Now, it’s time for them to flex their policy ones and restore sanity to the patent system.

(A final note: debates over innovation are, of course, taking place in many forms across the country. In this article, “Chicago” and “Silicon Valley” are simply used as shorthand for two very different visions of America’s patent system—one based on market theories and one based on how innovation actually works—and to point out that Chicago has gained the upper hand.)

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