Abstract

This paper considers a simple general equilibrium model to explore the optimality of free licensing. In a model of an economy where the representative consumer has a CES utility function over two goods which are produced by two different firms and one of the firms has a patent on an efficient production technology, we show that free licensing is superior to no licensing, but it is optimal to set positive royalties when royalty licensing is allowed. In an extended model with a basic good that follows a hierarchical demand (Matsuyama, 2002) and that is produced by a competitive fringe of firms, we show that free licensing to all firms can be superior even to royalty licensing.

Co-author: Giorgos Stamatopoulos