Market power in the global economy: the exhaustion and protection of intellectual property

This paper analyzes economic linkages between the exhaustion and protection of intellectual property. We consider a North-South model, where a firm that enjoys monopoly status in the North by virtue of an intellectual property right (IPR) -- such as a patent or a trademark -- has the incentive to price discriminate internationally because Northern consumers value its product more than Southern ones. The key intuition underlying the model is that while Northern policy regarding the territorial exhaustion of IPRs determines whether the firm can price discriminate internationally and therefore exercise market power across regions, Southern policy regarding the protection of IPRs determines the firm's monopoly power within the South. In equilibrium, each region's policy takes into account the firm's pricing behavior, its incentive to export, and the other region's policy stance. Major results are: (a) the North is more likely to prefer national exhaustion when the South does not protect IPRs whereas the South is more willing to protect intellectual property if the North chooses national exhaustion; (b) the firm values protection of intellectual property relatively more than the freedom to price discriminate internationally that exists under national exhaustion if and only if the quality gap between it and Southern imitators lies below a certain threshold; (c) except for the situation where the firm sells in the South regardless of the global policy environment, the two regions find themselves in a policy stand-off wherein each region takes into account whether or not the other would be willing to implement its less preferred policy to induce the firm to export and (d) requiring the South to protect IPRs increases global welfare iff (i) it induces the North to reverse its policy stance from national to international exhaustion and (ii) the quality gap between the Northern original and the Southern imitation exceeds a certain minimum threshold.