12 May 2012

Innovation and Copyright

'The Copyright-Innovation Trade-Off: Property Rules, Liability Rules, and Intentional Infliction of Harm' by Dotan Oliar in 64 Stanford Law Review (2012) 951-1019 asks -
Should the law secure to copyright owners control over new technological uses of their works? Or should the law leave technological innovators free to explore and exploit such uses? The greater control afforded to copyright owners, the greater the incentive to produce content, but also the greater the disincentive to produce better technologies to enjoy it. This Article studies the degree to which protecting copyright owners or technological innovators by property rules or liability rules over new technological uses of content would drive members of each group to invest desirably in their respective creations and in reducing the interference between their activities.
The Article offers three major contributions: (1) it assesses the degree to which different entitlements promote authorship and innovation as well as investments to minimize the interference between them, (2) it shows that a property rule in technological innovators might drive them to harm copyright owners intentionally, and (3) it suggests a way of modifying legal entitlements that can improve copyright owners and innovators’ incentives to invest.
Oliar comments that
Should copyright law impose liability on innovators of technologies used to copy, manipulate, or disseminate protected content? Intellectual property law’s goal, and constitutional mandate, is to promote both authorship and invention. Often, each of these goals can be pursued independently. Sometimes, however, they conflict. New technologies — such as record players, radio, motion pictures, photocopiers, VCRs, MP3 players, and file-sharing networks — often weaken copyright owners’ control over content. As the Supreme Court observed, imposing copyright liability on technology companies would promote authorship but chill innovation, while immunizing innovators from liability would promote innovation but chill authorship. How should the law balance these two interests? 
This question has been asked respecting each of the technologies above and many others. Each time, however, courts and Congress have struck the balance differently. The law has alternated over time between protecting copyright owners and innovators by either property rules or liability rules. The copyright- innovation conflict is one of the most important and recurring themes in copyright law’s evolution, and it has been studied extensively. Unfortunately, despite much congressional, judicial, and scholarly attention, the law has not treated content-technology conflicts coherently.
This Article takes a first-principles approach to content-technology conflicts. It views authorship and innovation as two economic activities that interfere. It conducts a systematic analysis of how allocating property rules and liability rules to copyright owners and innovators would induce each group toinvest both in pursuing its own trade and in minimizing the copyright- innovation interference.
For example, a property rule in innovators — an entitlement allowing them to manufacture any technology regardless of harm to copyright owners — may drive some of them to produce harmful technologies and to actively promote their use for infringement. Such inefficient investments in technology creation and harm generation may allow some innovators to extract value from copyright owners in return for shutting down. Imagine, for instance, an innovator contemplating a technology — such as an online file-sharing network — that creates a small value of 10 but that also harms copyright owners by 100. Backed by a right to market this technology, an innovator would produce it. The innovator and copyright owners would quickly realize that all can be made better off by shutting down the technology. In negotiations, the innovator would not accept anything less than 10 to shut down while copyright owners would pay 100 at most. Under equal bargaining power, the innovator would shut down in return for 55. Assume, however, that when the innovator creates the new tech- nology, he can invest an extra 5 to increase the technology’s harmful effect to 200. While a net loss in social welfare, this investment in harm exacerbation would pay off for the innovator, because it would increase the copyright owners’ maximal willingness to pay to 200, thus increasing the innovator’s settle- ment amount to 105. This is just one effect of one legal rule — this Article provides a comprehensive analysis of the incentives generated by each of the four classic entitlements. 
Charting the incentive effects of alternative legal rules can explain observed phenomena and predict future ones. For instance, before the rise of file-sharing networks over the past decade, the relevant Supreme Court precedent,  Sony Corp. of America v. Universal City Studios, Inc. was largely understood as vesting a property rule in innovators. Several courts found that file-sharing networks actively induced infringement by end users, a behavior consistent with the predicted behavior of the similarly protected innovator in the numeri- cal example in the preceding paragraph. Also consistent with that example were the negotiations between Napster, the file-sharing network, and music labels, pursuant to which Napster would shut down its harmful technology in return for value. 
A major cost of legal rules is that they may drive protected parties to make clearly inefficient investments. For instance, the innovator in the numerical ex-ample above found it privately profitable to invest in a socially harmful technology. When it comes to technological change, lawmakers often cannot predict the nature of future technologies before they are invented. Their choice is often limited to allocating background entitlements under limited information regarding the future. Although lawmakers cannot observe the nature of the par- ties’ investments in real time, they might still be able to verify their type (socially beneficial or harmful) once a content-technology conflict occurs. A legal system that, upon observing a protected party who invested inefficiently, re-allocates the entitlement to its counterpart, will provide the parties with improved incentives to invest. Contrary to conventional wisdom regarding content-technology conflicts, this prescription holds true even if the parties can transact costlessly at the time a conflict occurs. The purpose of this prescription is not to overcome transaction costs after the parties’ activities already conflict. In such a case, under costless bargaining, the efficient result will happen regard- less of the applicable entitlement, as the example above shows. Rather, this prescription seeks to make the parties invest efficiently at an earlier time when they cannot yet transact, a time when improved incentives to invest may pre-vent a future conflict from arising. 
The Supreme Court’s decision in MGM Studios Inc. v. Grokster, Ltd. suggests that the legal system is at times capable of verifying the nature of the parties’ earlier investments during a conflict, and of reallocating entitlements accordingly. In Grokster, the Ninth Circuit allowed the technology company to rely on the background entitlement from Sony to manufacture its harmful technology. The Supreme Court likely believed that the technology was harmful (i.e., it was of little or no independent value yet created great harm to copyright owners) and so the Court reallocated the entitlement to copyright owners. Doctrinally, it did so by crafting a new theory of liability — intentional inducement — that led to a reversal of the outcome below. Providing improved investment incentives therefore requires mechanisms to reallocate entitlements from innovators to copyright owners in certain cases (such as by way of the Court’s doctrinal innovation in Grokster), but also from copyright owners to innovators in other appropriate cases. The fair use doctrine is one major way in which the latter reallocation can be done, and indeed Sony can be read as having used the doctrine in this way. 
This Article proceeds as follows. Part I reviews the historical cycle of technological disruption of copyright owners’ business models, ensuing copy- right litigation, and systemic doctrinal uncertainty and unpredictability. Part II presents a framework modeling how different property rules and liability rules affect copyright owners’ and innovators’ incentives to invest in their respective economic activities and in reducing the interference between them. Part III discusses cases that are consistent with the framework’s predictions and additional descriptive and prescriptive implications. It presents the concept of modifiable property and liability rules, argues that they can improve copyright owners and innovators’ incentives to invest, and suggests that several cases can be read as consistent with a de facto allocation of modifiable entitlements. Part IV discusses the extent to which the analysis applies once some of its assumptions are relaxed and the optimal timing of modification.