Capitalism Without Capital and the Role of Intellectual Property Rights
Apr 11, 2018
A peculiar thing happened at the dawn of the 21st century, and according to economists Jonathan Haskel and Stian Westlake this mostly unnoticed milestone is playing a profound role in everything from economic stagnation to the rise of today’s tech titans. If the uninterrupted trend continues it will only become more important as time goes on. Investment in intangible property overtook investment in tangible properties in the United States and other EU countries. These include R&D for new inventions, the branding of trademarks by everyday businesses, and the value attributed to copyrighted works of art; but also, know-how, processes, and other assets that retain economic value but don’t have a legal identity and may not be reflected in financial accounting. In their recently published “Capitalism Without Capital: The Rise of the Intangible Economy” Haskel and Westlake shed light on the intangible economy and examine its prominent role in everyday life. Property Rights Alliance was happy to interview the authors on some of the finer points of the intangible economy.
Jonathan Haskel is a professor of economics at Imperial College Business School. Stian Westlake is the Policy Advisor to the United Kingdom’s Minister of State for Universities, Science, Research, and Innovation in the Department for Business, Energy and Industrial Strategy.
PRA: Capitalism Without Capital presents data revealing that investment in intangibles has overtaken investment in tangible properties as a proportion of GDP in a few of the world’s largest economies. How much of this phenomenon is due to policy choices, or is it more of a result of wider trends associated with technological advances and globalization in general?
We expect levels of investment in intangible assets will continue to grow both in developed and developing countries. The reason for this is that the growth of intangible investment seems to be a very long-term and stable trend. Research by Carol Corrado of the Conference Board suggests that intangible investment in the US has been growing steadily since at least World War Two, and probably longer. There is less evidence on the very long run in other rich counties, but we know that intangible investment there has been growing since at least the 1990s. It would be surprising if such long-term trends were to suddenly cease.
It is hard to say what precisely is driving the growth of intangibles. It may be a general tendency in economies as they become richer, just as the service sector of countries grows as their economy grows.
We’ve heard it argued that advances in tech have encouraged the growth of intangibles. This seems plausible to the extent that computers make investment in many intangibles more valuable. But on the other hand, the growth of intangible investment in the US predates the invention of the web browser, the Internet and even the semiconductor. One might speculate that the link is the other way around: an economy increasingly based on information goods encouraged, rewarded and induced innovations in information technologies.
We do know that some broad policy choices are associated with more intangible investment. Higher public spending on R&D seems to increase overall levels of intangible investment (perhaps by crowding in private investment into innovation). Lower levels of product market and labor market regulation are associated with higher intangible investment (perhaps because lighter regulation makes it easier for businesses to make the changes necessary to implement new business processes to take advantage of intangible investments).
PRA: Regarding property rights, Capitalism Without Capital recommends that states clarify and define intellectual property rights, and notes that ownership rights of tangible properties have had quite the head start. The TRIPS agreement and the establishment of the WTO in the 1990s set the first minimum enforceable standard for IPR protections. Can you elaborate on the long-term benefits of setting international norms?
The very first human law code that survives, the law code of Ur-Nammu of Sumeria, describes the ownership of tangible goods. It took over three and half millennia for the first laws about intangible property. So it is no wonder that rules over who owns intangible assets are less clear and more contested than those relating to the ownership of factories, vans or machines.
Clear rules encourage investment. It’s well known that in countries where the rule of law is weak or corruption is high, a risk premium attaches to any investment, and businesses invest less than they otherwise would. Unclear laws around the ownership of intangible assets have a similar chilling effect. What’s more, clear rules encourage businesses to spend time on productive activities, rather than on lobbying to change the rules in their favor or on aggressive enforcement of uncertain rights (such as patent trolling). They also make it easier for markets in intellectual property rights to arise.
The need for clarity does not, however, imply that laws on the ownership of intangible asset should be as strict as possible. Rules that swing too far in the interests of existing rightsholders may limit the ability to realize the synergies between intangible assets by combining them in novel ways, which could reduce productivity growth. Balance is important.
PRA: Capitalism Without Capital identifies a measurement problem, is there actually more economic activity going on than is being recorded? how are we getting measurement wrong, and what effects might this have?
Intangibles are being mismeasured in two places: in our GDP figures and in company accounts.
When GDP was devised, it treated only tangible things as investments: machines, buildings, vehicles and so on. In recent years, a few types of intangible asset have gradually been added, so now software, R&D and artistic originals like movie scripts are included in national investment. But many intangibles, worth collectively many billions of dollars, are still left out: organizational structures, brands and training for example. This means that headline GDP figures are lower than they ought to be; it also means that some of the most dynamic parts of the economy are poorly reflected in our national income figures. We’d love to be able to tell you this gap is big enough to explain recent low levels of productivity; unfortunately mismeasurement of intangibles only explains a fairly small part of the sluggish growth of recent years, but it’s still an important thing governments should fix.
The situation is if anything worse when it comes to company accounts. Corporate balance sheets generally include almost no intangibles – even for R&D-intensive companies or those that rely on valuable brands. The one thing they do include and describe as an intangible is so-called “goodwill” resulting from M&A deals, which represents the difference in value between the book value of an acquired company and the price paid for it. This creates the bizarre situation where companies can create intangibles on their balance sheets by doing M&A, but not by actually creating real intangibles through R&D or investing in their own businesses. The end result is that company accounts, and balance sheets in particular, are becoming ever less informative as intangibles become more important.
PRA: Lastly, Capitalism Without Capital calls for important tax reform to incentivize equity based capital. Intangible-intensive firms simply have less tangible property to leverage for traditional debt financing, they’re equity heavy but can’t expense the cost of equity the same way firms can deduct interest paid on loans. What sort of growth and wider economic impacts do you predict could happen if equity heavy financing did not face the same regulatory barriers?
Removing the disincentives to equity– for example by equalizing the tax treatment of debt and equity finance could provide a big boost for intangible investment. This is because intangibles tend to be a sunk cost: they provide little recourse to a lender if a business fails and are generally little use as collateral for a loan. And economy mostly dependent on debt finance will be increasingly unable to provide the finance businesses need as the economy becomes more reliant on intangibles. It is hard to say what the precise economic benefit of a shift to a more equity-based system would be, but it could be very substantial.
We shouldn’t underestimate what a big shift this would be, and the institutional changes that would be required to make it happen. As things stand, there are relatively few institutional channels for investing equity into all but the largest of businesses, and little culture of accepting equity investment among business owners (Silicon Valley, where outside equity investment is common is very much the exception). Alongside tax changes, considerable innovation in the financial services sector would be required. But if it did happen, it could be a very worthwhile change.