Sequential Innovation , R & D Intensity , and Patent Policy

This paper studies optimal patent policy in a dynamic setting with sequential innovation. Firms innovate by undertaking “research” activities to generate new ideas and by undertaking “developement” activities to commercialize these ideas. To provide firms with incentive to invest in R&D, the social planner grants a monopoly right (patent) to an innovator to exclude its opponent from producing the goods based on its innovation for a certain period of time. If the idea arrival process is exogenous, the optimal policy is stationary and a new idea is patentable if its quality is better than a constant cutoff. If idea arrival is endogenously determined by firms’“research” investment, the optimal policy is in general nonstationary and characterized by two cutoffs, and the policy switches from one cutoff to the other cutoff only once.