The Countervailing Incentive of Restricted Patch Distribution: Economic and Policy Implications

Traditionally, the government has been the sole entity to enforce anti-piracy measures. Of late, software vendors are attempting to thwart piracy of their products by limiting the patch to only legal users. By doing so, the vendor can vertically differentiate the legal copy from the pirated copy since pirates suffer more from hacker activity. Such an action by the vendor has interesting implications on a vendor’s profit and the social welfare. In this paper, by constructing a game-theoretic model, we analyze the economic as well as the policy implications of restricted patch distribution by a monopolistic vendor. Based on our analysis, we find that a monopolist does not always benefit from vertical differentiation. More specifically, in the presence of intense anti-piracy effort exerted by the government, the vendor does not benefit from complementing the government’s action with piracy thwarting action if the cost of providing a good quality patch is high. In addition, our analysis shows that if the government exerts sufficient anti-piracy effort, then it is optimal for the vendor to release the patch to all users. One striking finding of our analysis is that when anti-piracy effort is low, it is welfare improving to strategically utilize hacking activity through restricted patch distribution.