Monopolies and innovation

Marcelo Clerici-Arias, Stanford University, Anita Bhide, Oriol Pons-Benaiges, Claire Xue – All at Stanford University

Summary

Uses Bayer as an example of an innovative firm that relies on intellectual property to recover fixed research and development costs, and make a profit.


Context for Use

- Is the activity appropriate for principles courses, intermediate courses, or selective elective courses?
o Principles
- What prior student knowledge is required?
o Demand and marginal revenue, cost curves, profit maximization, consumer and producer surplus, deadweight loss.
- Are there class size limitations?
o Tested with class of 86 students. Probably would work well with larger classes, as long as the shared responses are visible to all.
- How much time is needed for the activity? Does it extend across more than one class period?
o The application can be kept to a 50-minute period, though it can be extended, particularly with a discussion on intellectual property and innovation.
- Is this activity connected to another TBL activity? If so, please provide a link to that activity. For example, is this activity part of a group of activities within a single TBL module?
o This application can certainly be used independently, though it has been used as part of a group of activities within a single TBL module.

Overview

Stylized version of the pharmaceutical company Bayer deciding whether to make the necessary investment to bring a new drug to market. This application includes the analysis of two different market structures (monopoly vs. perfect competition), two different types of pricing (single price vs. perfect price discrimination)

Expected Student Learning Outcomes

- Analyzing and contrasting a monopoly's behavior vs. the behavior of competitive firms.
- Connecting patents and intellectual property with incentives to innovate.
- Comparing the profit-maximizing behavior of a single-price monopolist with perfect price discrimination
- Evaluating different market outcomes

Information Given to Students


Monopolies and innovation (Microsoft Word 2007 (.docx) 19kB Oct1 18)



Teaching Notes and Tips

This application presents a stylized scenario of a pharmaceutical company that has to decide whether to incur in the fixed costs of researching an antibiotic, and how different legal structures may influence the market structure, or even whether the market exists or not.

Before this application students have read the chapter on monopoly, and they have also solved a classroom exercise on natural monopoly.

Part 1 establishes a common structure across teams. Students should not have significant problems with this part.

Part 2 compares the cost structures of an innovator vs. a follower that copies a formula. Again, students should not face significant problems.

Part 3 allows the students to explore a situation where the innovator is not protected by a patent, and other firms can quickly copy their product. Part 4 can be solved concurrently, with the idea that students will conclude that Bayer would not invest $1 billion in the first place and there would be no new antibiotic in the market, so what may have seemed to be a gain in consumer surplus and efficiency, actually results in no market at all, with no consumer surplus and no producer surplus. Some teams may not have seen through the final consequences of the lack of patents. This is a good point to talk about the role of patents, and how firms innovated before the legal protection of patents. Basically, firms and individuals kept their innovations a secret to try to extract as much as possible from them for as long as they could, before an imitator caught up. Patents are seen as a tradeoff between granting a temporary monopoly to the holder of the patent, while requiring the creator to share the innovation with society, so everyone would know the nature and the details of the innovations, and others could build upon that innovation once the patent expired.

Parts 5, 6, 7, and 8 provide the necessary scaffolding for students to analyze various aspects of Bayer as a monopoly in this market.

Note that in my class each team has a small whiteboard (sometimes called a huddleboard) to respond to most questions, and they share their results by raising their whiteboards simultaneously (the whiteboards/huddleboards are small and light enough that they can be raised by one person, and they are big enough that everyone can observe the results of all other teams).

Assessment

Direct observation of team's responses on their portable whiteboards, as well as the verbal contributions to the large group conversation. The module ends in a capstone test. The final exam also tests these learning outcomes.

References and Resources