Review of Industrial Organization (2006) 28:41–62 © Springer 2006
Patent Renewals as Options: Improving the
Mechanism for Weeding Out Lousy Patents
Department of Economics, University of Rennes I, CREM-CNRS, 7 Place Hoche, 35000
College of Europe
Abstract. This paper examines how patent renewal fees may be restructured to discourage
low-value patents with the goal of reducing the burden on patent ofﬁces without unduly
impairing innovation incentives. We depart from Pakes’ (1986, Econometrica, 54, 755–784)
real-option model by moving to an approach involving binomial trees, widely used in
valuing ﬁnancial options. The new approach has the advantage of allowing the dynamics
of the patent rent to follow a wide range of stochastic processes. The model is estimated
using French data from 1970 to 2002. Policy simulations cast some doubt on the rele-
vance of the current schedule of renewal fees. An alternative fee schedule is suggested.
Key words: patent renewal, real-option model.
JEL Classiﬁcations: C51, O31.
There is a growing concern that self-funding patent ofﬁces, in an effort to
be “friendly” to their patent-applicant “customers,” are granting patents of
questionable value/validity (Merges, 1999; Lemley, 2001). Diminished pat-
ent quality may reduce the effectiveness of the patent system as a whole.
A raft of low-quality patents can create considerable uncertainty among
inventors and users about the novelty of their inventions and thus slow
down the pace of innovation. Large numbers of low-quality patents may
also dramatically increase the level of fragmentation of property rights
leading to problems of access to and use of knowledge, i.e. situations where
“multiple owners each have a right to exclude others from a scarce resource
and no one has an effective privilege of use” (Heller and Eisenberg, 1998,
p. 698). A low standard for patent quality is also likely to spur signiﬁ-
cant increases in the rate of patent applications, further straining already
overburdened patent ofﬁces.
How can patent ofﬁces maintain quality standards when quantity is grow-
ing so rapidly in most countries? One possibility is to have the patentees use