The Effect of Litigation on Intellectual Property and Welfare

This paper shows that “wasteful” litigation about intellectual property may be welfare enhancing. The aim of an intellectual property protection system is to solve the trade-off between exante innovation incentive and ex-post monopoly welfare loss. The litigation about intellectual property in court decreases the expected rent from intellectual property, therefore reducing the incentive to innovate in the first place leading to a negative effect on social welfare. Yet the legal contest may have the positive welfare effect of breaking the monopoly and allowing an entrant into the market, thus lowering prices and reducing the welfare loss of monopoly. If the welfare effect of increasing competition outweighs the first effect of reduced research, a litigation contest is welfare increasing.