prior probability

David Segal has just published this fascinating feature on patent-troll extraordinaire Erich Spangenberg in the Sunday Times under the title “Has Patent, Will Sue.” 

In brief, a “patent troll” is someone who buys patents and then sues firms for infringing its patents. As Mr Segal puts it in his article, “There is debate about the definition of patent trolls, but the term broadly refers to people who sue companies for infringement, often using patents of dubious value or questionable relevance, and then hold on like a terrier until they get license fees.”

This tactic is especially effective when the price of the license fee is less than the cost of defending a patent-infringement lawsuit. So is this type of shake-down tactic by patent trolls a soft form of extortion (“pay me or else”) or a textbook example of “Coasian bargaining” in which legal rights are allocated to their highest-valued use?

Either way, this example illustrates a potential problem with the Coase theorem: what happens to economic efficiency when parties over-invest in the acquisition of legal rights (such as patents), or what I would call “Coasian rent-seeking,” for the sole purpose of selling those rights later?  In other words, if rent-seeking is inefficient in the domain of politics (such as subsidies for ethanol), it should also be inefficient in the domain of patent law as well. But at the same time, the fact that many firms are willing to settle with patent trolls to avoid litigation might be the efficient outcome if these shakedowns encourage inventors to invest in research. It’s hard to say in the abstract which effect will win out.