Patents, Research Exemption, and the Incentive forSequential Innovation

We develop a dynamic duopoly model of R&D competition to improve the quality of a finalgood. The innovation process is sequential and cumulative, and takes place alongside productionin an infinite-horizon setting. In this context we study the R&D incentive impacts resultingfrom a “research exemption” or “experimental use” provision. We specify and solve theinnovation and production model under two distinct intellectual property right (IPR) regimes,essentially a patent system with and without a research exemption. The model applies closely tothe question of the optimal mode of IPR protection for plants, where traditional plant breeder’srights allow for a well-defined research exemption, whereas standard utility patents do not. Wecharacterize the properties of the relevant Markov perfect equilibria and investigate the profitand welfare effects of the research exemption. We find that firms, ex ante, always prefer fullpatent protection. The welfare ranking of the two IPR regimes, on the other hand, depends onthe relative magnitudes of the costs of initial innovation and improvements. In particular, aresearch exemption is most likely to provide inadequate R&D incentives when there is a largecost to establish the initial research program.[...]