Patent Damages and Spatial Competition

This paper analyzes price competition between a spatially differentiated product patentee and an imitator anticipating the possibility of future patent damages. We compare the performance of three damage regimes. The “reasonable royalty” regime, the only one that yields symmetric equilibrium pricing, maximizes static welfare and yields the highest incentives to innovate when patent enforcement is nearly certain. The “lost profits” regime, the only one that may deter infringement, yields the highest incentives to innovate when patent enforcement is less-than-certain and product value is sufficiently high. The “unjust enrichment” regime is weakest. Our results offer an efficiency argument for abandoning it. We also describe new insights into the “hypothetical negotiation” that the courts use to construct reasonable royalty damages. JEL Classification: K2, O3