Governments all over the world try to encourage economic growth. But growth -- with the high employment and rising living standards that politicians crave -- results from creativity. As people pursue new directions in business, science and the arts, they develop innovations and improvements that drive the economy forward. So how, beyond mere rhetoric, can governments promote creativity?
Intellectual property law -- patents and copyrights -- is the clearest example of a government policy designed to stimulate creativity. The idea dates back to renaissance Italy, but modern patent law originated in England, where, in 1624, the Statute of Monopolies was enacted to grant a 14-year exclusive right to the "true and first inventor" of any manufacturing method. The law benefited inventors in a way that tied an invention's reward to its economic dividends.
This approach can result in large rewards for important inventions -- precisely what is needed if maximum incentive is to be given to people to develop bold new concepts -- and has served us well over the centuries since 1624. But until recently, patent law was based on a rather narrow definition of creativity, usually the kind embodied in the invention of devices or industrial processes.
In recent years, however, patent law widened enormously with the acceptance, in the US, Australia, Japan and South Korea, of business-method patents -- that is, patents not on a technological process but on a way of doing business. The turning point in the US came in 1998, when a federal court decision upheld a patent on an accounting system, which launched a flood of business-method patents -- over 1,000 a year in 1999 and 2000.
The expanding scope of patents increases their value as a tool to promote creativity. While previously most patentable inventions were produced in laboratories, with business-method patents the rewards for creativity can now motivate all kinds of people throughout a business organization. Indeed, countries that do not allow business-method patents -- even though some of their citizens apply for patents in the US -- run the risk that their businesses will lose some of their creative edge.
One area where business-method patents promise to spur innovation is financial markets. Despite dramatic theoretical advances, financial institutions were, until recently, slow to develop and expand new instruments allowing people to exploit many risk-sharing opportunities. Yet, as I argued in a recent book, financial instruments that increase our ability to manage risks that are now regarded as "non-diversifiable" would be of great economic importance.
Introducing such instruments, however, is likely to be costly. People will probably not buy and sell them unless the markets for them are liquid, which means that a lot of traders must be there at the same time. But generating enough liquidity implies huge expenses: the public must be educated to understand the concept of risk management and overcome serious psychological barriers before it can be persuaded of the usefulness of the new instruments. Financial innovators might not incur these costs if they expect that others will copy their ideas at little or no cost to themselves as soon as they are shown to work.
The harm of inadequate patent protection in the financial world before 1998 was clear. In 1993, the American Stock Exchange (AMEX) expended considerable resources to develop and promote its new concept of an exchange-traded fund (ETF), with its first embodiment as Standard & Poor's Depository Receipts (SPDR's). The ETF was a key innovation that made it possible for investors to hold an instrument that effectively tracked the value of a specified portfolio, such as the S index, with low trading costs.