Patents internalize positive externalities, maintaining incentives to invent.

Intellectual property scholars widely recognize that patents internalize positive externalities from technological development.123 As we will see, even traditional property rights theorists like Harold Demsetz argued that patents enable inventors to internalize some of the external benefits of their inventions, thus bolstering incentives to invent.124 Citing Demsetz, legal scholars Oren Bar-Gill and Gideon Parchomovsky state: "Patents, like other property rights, internalize the positive externalities flowing from inventions and allow the inventor to license the invention to third parties."125

Of course, the patent system neither aims for nor achieves full internalization of positive externalities. Legal scholars Brett Frischmann and Mark Lemley influentially argue that internalizing all spillovers by giving a patentee complete control over all uses of an invention would decrease, rather than increase, welfare.126 Indeed, the patent system is designed to both internalize some positive externalities and produce others.127 Patents facilitate information spillovers by requiring patentees to disclose their inventions.128 Economist Giovanni Ramello even argues that "the existence of information externalities is the statutory goal of intellectual property."129 Furthermore, patents generate temporal spillovers through providing widespread access to an invention after a patent expires.130 Returning to the example of Merck, after its patent expires, spillovers increase substantially as generic competition drives down the price of a formerly patented drug.131

That being said, internalizing positive externalities remains the core function of patents. While the patent system does not aim to internalize all positive innovation externalities, it must allow inventors to internalize a meaningful share of spillovers to maintain incentives to invent.