Christine McDaniel on International Trade and Intellectual Property

For a number of economic and geopolitical reasons, reviving the Trans-Pacific Partnership may be an extremely sensible course of policy action.

Christine McDaniel is a Senior Research Fellow at the Mercatus Center with the American Economy and Globalization Program. Christine previously held several positions in the US government, including Deputy Assistant Secretary at the Treasury Department, and Senior Trade Economist in the White House Council of Economic Advisors. In addition she has worked in the economic offices of the US Department of Commerce, US Trade Representative, and the US International Trade Commission. Christine joins the Macro Musings podcast to discuss her research of intellectual property rights and trade.

Read the full episode transcript:

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected]

David Beckworth: Christine, welcome to the show.

Christine McDaniel: Thank you.

Beckworth: Full disclosure, we're colleagues here at Mercatus, if it wasn't already apparent. Christine really isn't a stranger to this show. She's just down the hall from the studio.

McDaniel: Long time listener, first time participant.

Beckworth: Right, and we chat when I'm up here in town. It's great to get you on, and to have you in conversations. Especially the times we live in. I joke with our other colleague, Dan Griswold, who you work with closely on trade issues that President Trump has been the vest thing for your work. The Full Employment Act for the trade economists at Mercatus, so keeps you busy.

Beckworth: We're going to talk about some of these issues today, but before we do that I want to ask, now, how did you get into economics, and then ultimately into this area of intellectual property rights, patents and trade?

McDaniel: Yeah, so I knew you were going to ask me that question about economics, and I was really trying to think about how I did get interested in economics. I think it was, one day... I may have been in middle school, and it was reading the local paper, the Rockford Register Star, from Rockford, Illinois. They were quoting Kenneth Boulding, who is economist, but also really into evolutionary economics. I just loved how he talked about resource allocation, unlimited wants, limited resources. Then, I remember, one day in my basement I think I set up this artificial town to see what would be the most efficient allocation of resources.

Beckworth: Nice.

McDaniel: Then, from there it sort of just continued.

Beckworth: Okay, so you went on to grad school, you got your PhD in economics. How did you go from there, though, into this area of intellectual property right, and trade?

McDaniel: Yeah, so in undergrad I developed real interest in Japan. I took intensive Japanese language classes all throughout undergrad. The, went to Japan as an undergraduate student, foreign exchange student. That was sort of the Japan bug, and then with economic interest, and at that time, remember, the Asian Miracle was being written about, and being studied. The World Bank's famous, what was that, Asian Miracle report came out that Dr. Sully talked about it yesterday, right?

McDaniel: I just became more interested in the role of technology, and innovation, and technology diffusion, and the role in economic development, and catching up in the Asian Miracle. Then, grad school, I saw Keith Maskus's work at the University of Colorado. I went to talk to him, and realized I wanted to go there and work for him as his research assistant, and during my PhD. I wanted to do something on Japan and intellectual property rights.

Beckworth: Okay, and from there you've journeyed into several government positions. Tell us about that, and tell us what is it like to be an economist in government? There might be some listeners out there who are grad students. In fact, I know a number of them are, and they might be budding young economists, thinking about working for the government. Tell us about your journey into that, and particularly, again, there's this emphasis on trade, and intellectual property rights.

McDaniel: Yeah, and about the economists, I meet them a lot. I love working with younger folks, and everybody wants to know, like we all wanted to know when we were that age, what should I do, what's the secret? There really is no one secret, except just following your real interests. Then, things sort of just will work out in the way they do. I went to the International Trade Commission during a Summer, during grad school in the Research Division there.

Beckworth: What do they do, International Trade Commission?

McDaniel: The International Trade Commission, they're an independent government agency, quasi-judicial. They have a lot of economists, a lot of industry analysts. They also have these six commissioners sit on top of it, and that's where the anti dumping countervailing duty cases are decided. Section 337 cases are also decided there. Hence, the quasi-judicial. That's the intellectual property right cases when a US patent holder believes an import is infringing on their US patent. They can take it to the district court and/or ITC under Section 337.

Beckworth: Just to be clear, this has to be an activity that happens in the US. If a foreigner sends in some electronic device, maybe a phone. I'm Apple, and I think, "Oh, this is something that they've copied from me," I would go to this court.

McDaniel: Right.

Beckworth: It only applies to the US, is that right?

McDaniel: Right, right.

Beckworth: Okay.

McDaniel: If you think somebody is stealing your IP abroad, you cannot go to the ITC. That's somebody else.

Beckworth: Okay.

McDaniel: Anyway, but the Research Division, they do the economic modeling, and metrics. At that time, they were the heavy lifters of economic analysis in the US government. Given their independent agency status, it was a really interesting place to be. They didn't have a seat at the inter-agency table per se, but the ITC does these great Section 332 fact-finding investigations. Senate finance, House Ways and Means, USTR will ask, "What is the effect of X on Y? What are the potential effects of this free trade agreement," or this, or that. Then, they can ask the ITC to do those studies. It's a really great place to work, and I fell I love with it when I was a student trainee economist there for that one Summer. Luckily, they took me back. It was my first job out of grad school. That's really where I learned the practical aspects of economic modeling.

Beckworth: Now, you also worked at the US Trade Representative's Office as well. Is that right?

McDaniel: Right. I did a detail at sort of a convent, if you will. That was when Zoellick was there, and when the US was off to the races...

Beckworth: Robert Zoellick, is that right?

McDaniel: Robert Zoellick.

Beckworth: Okay.

McDaniel: ... off to the races on free trade agreements. That's really when the bilateral free trade agreement rush came into play, and he sort of started this competitive liberalization. At least that's how he talked about it, and how he saw it, so very busy with numerous bilateral negotiations.

Beckworth: Is this after the ITC then?

McDaniel: Yeah, after USTR, I was going to go back to ITC. Then, John Menace at Commerce Department, he wanted to do this big conference at the Woodrow Wilson Center to bring together academics, and government people, and government economist, academic economists, policy makers, and talk about the strengths and weaknesses, and limitations and capabilities of economic modeling. Remember, at that time, with Zoellick doing all these FTAs, and the ITC doing all of their economic effects studies, they're getting a lot of questions on, how reliable are these numbers, how do we understand these numbers, what are the weaknesses, the abilities of these models? They were great at looking at effects of tariff elimination, but increasingly, non-tariff issues were coming up in these negotiations, so wanted to talk about that too. I ended up working with John Menes at Commerce, that conference, and then ended up going to work for him at Department of Commerce for a while. Then, after that went to Council of Economic Advisors.

Beckworth: All right, under President Bush.

McDaniel: Under President Bush.

Beckworth: Then, Bernanke too. You worked with Ben Bernanke, is that right?

McDaniel: Chairman Bernanke, and then Matt Slaughter was the member that covered international.

Beckworth: Okay.

McDaniel: Really fortunate to have been able to work with great people.

Beckworth: Then, you followed him into Treasury? Is that right?

McDaniel: Well, no. Then, Phil Swagel went to Treasury, and then he asked if I wanted to come in with him, yeah.

Beckworth: Okay. All right, so you've been through a lot of government agencies, and you've always dealt with trade, intellectual property focus, is that right?

McDaniel: More or less.

Beckworth: Okay. You really have a good handle on that, and that's what you're doing here at Mercatus. That's become a big issue with some of President Trump's trade concerns. He has some concerns that I think are just simply misguided. He doesn't like any kind of trade deficit, period. He doesn't understand, I think, the implications and nuances of that. He also has this concern about intellectual property rights being eroded, being taken advantage of by the Chinese. They had their trade representative look into it, and he found up to several hundred billion dollars are lost. It's a huge number, and they finally followed through with putting some penalties on China.

Beckworth: That's one of the driving things, and that was an issue that would've been around no matter who had been president. This intellectual property's been an issue. It continues to be an issue. I don't think someone else had been president, the trade deficit itself would've been quite the issue as it is with Trump. We want to focus on that, and get a better understanding of it. I want to begin by asking, in what ways are intellectual property rights a big deal for international trade? On the ground, where does this become an issue? Why do we hire people like you in the US government to think about these issues?

McDaniel: Yeah. That's a good question, and it was just relatively recently that the awareness of how trade-related are patents in intellectual property rights. Not really until the '90s did that really come to light, and get talked about more and more. Intellectual property rights are trade-related to the extent that the strength of patent protection, the design of the patent regime can affect innovation, diffusion, incentives to innovate, and incentives to imitate as well. Then, that's how it can affect imports, and exports, foreign direct investment. We saw that all come to a head with the trade-related intellectual property rights agreement, TRIPS, which tried to set a minimum standard across all countries.

McDaniel: It's hard, because what is the optimal level of patent protection? The optimal level of patent protection really depends on the country. The country's level of development, their goals. Every country wants to innovate and become wealthier, and increase their quality of life. Countries start out at different levels of development. They have different paths, different ways of viewing technology, sharing, diffusion, rights. That's why it got really interesting with TRIPS. At the end, they had to have a multi-tiered system for industrialized countries, and then developing countries, and the least of all countries, which is probably the way to go. There's always that tension there across countries.

McDaniel: Then, even within a country, because it's a real balancing act, every patent office struggles with this. Getting the balance right between keeping the incentives to innovate strong enough, but yet also not providing overlay strong patent protection in order to allow technology diffusion. A patent is, in that way, sort of the grand bargain. You, David Beckworth, smart guy, you want to innovate, but are you really going to? Well, is there a payoff? You can apply for a patent and then get, in exchange for sharing your idea with the government, and then the government will publish it, you get a limited monopoly on it for a particular time.

McDaniel: Then, the questions become, what is that time? What's that optimal patent protection time? Then, there's other issues too. Institutional features of patent systems that we can get into later when we talk abut Japan. Definitely, it's a balance. Very rarely does any country ever get it right and stay there, because everything keeps changing. Everyone's always trying to balance all of those things.

Beckworth: Since we're on the domestic patent system here, we're focusing on domestic, we'll get back to the international issue. There's been a lot of discussion about our US patent system. Some people say it's broken, or it's really in need of reform. There's a lot of talk about patent trolls. People who just file patents to sue. Another innovator, I heard one show talk about all these people who had ideas, but they were just simply afraid to take them to market to try to patent them because they thought they would be sued by someone else. Are at the point where patents are too protective, there's too much power? Do we need to pull back a bit? We need to find better place to be?

McDaniel: Yeah. Really good question. This actually came up in the TDP negotiations a few years ago. Has the US gone too far? Now, we're trying to get other countries to adapt to our bad habits, if you will. There has been some discussion around this notion of, in the US it's too easy to obtain a patent, too easy to defend a patent, and too costly to challenge a patent. When you get all those three things together, then that can be a real red flag because that might limit technology diffusion, and competition.

McDaniel: It does appear that most of the IP and econ experts tend to have, sort of hovering around that consensus, but it does vary across industries. Pharmaceuticals is very different from manufacturing. To put all this in perspective, remember, companies, and just innovators in general, there's many different ways to protect your idea. If you look at surveys of businesses, you find across the board... We saw this in Australia, we see this in the US, even in the EU... that patents are actually among the least popular ways to protect your idea.

Beckworth: Right.

McDaniel: By far, most companies choose other methods, like trade secrets, or just... right, so it's just that economists tend to talk about patents a lot because we have data on patents. There's a lot more innovation that goes on out there, and there's far more popular ways to protect those ideas.

Beckworth: Like Coca Cola's secret recipe for its drink.

McDaniel: Exactly, exactly.

Beckworth: That's still some kind of secret, okay.

McDaniel: Yeah. Exactly.

Beckworth: Is it easy, if I were to file a patent is it really costly as an individual for me to do that? Part of the concern I hear is that, big corporations have the resources to file patents, to defend patents, to fight off these patent trolls, but the individual, just to even get a patent, is it real expensive, and hard? A big hurdle today?

McDaniel: It depends. It's getting easier...

Beckworth: Oh, it is. Okay.

McDaniel: ... with the digitization of legal services, yeah.

Beckworth: Okay.

McDaniel: It depends on what you think expensive is. The price has been going up, but on the other hand, keeping in line with other fees of service as well. It's not extraordinarily expensive, but it can get very expensive if you find yourself in court.

Beckworth: Okay, all right. Many of us have ideas, I'm sure. Things that we think are great ideas. I know my dad had a patent idea, and he went and tried to file it. He found out many other's had the same idea.

McDaniel: Really? Yeah, yeah.

Beckworth: Yeah. All right, well let's go back to the international focus. What you did in your positions, and the reason the US government cares about intellectual property rights and trade is because, if we go overseas, or if someone comes into the US, but let's talk about going overseas, going into China.

McDaniel: Right. I realize we didn't get to the China answer.

Beckworth: Yeah, that's fine. The reason we China and Japan anywhere, what we're trying to do is export our system of intellectual property rights. Is that what we're trying to do?

McDaniel: First all, US firms want to do business to the greatest extent possible. 95% of consumers are outside of our border, so they often find themselves exporting, or trying to reach foreign markets. They reach foreign markets by exporting, foreign direct investment, joint ventures, et cetera, or just license their capabilities. Where the China issue has come up in IP is, it's one thing when a foreign firm, or any firm steals a IP here in the US. There's, like we said, recourse through district court, or if it's an imported product that's violating US patent, Section 337.

McDaniel: When it happens abroad, you have fewer options. For example, with China, we don't have a free trade agreement with China. They are a member of the WTO, so we have the dispute settlement mechanism there, and that can be very effective, very strong. It does take time. For this case that you're talking about, the Section 301 case against China regarding IP theft and so-called force technology transfer, this has probably been a long time coming. Many US firms have complained about this, noted concerns about this for many, many years, but have just been reluctant to speak publicly about it for fear of, frankly, retaliation from the Chinese firms and government.

McDaniel: On the other hand, remember, when a US firm goes abroad to do business, that's their choice, they don't have to. Some firms find it in their interest to trade off their best ideas for the ability to have access to the largest growing market in the world, right? China.

Beckworth: They're doing a cost benefit calculation that, you know what? Even if our technology gets stolen, the benefit exceeds the cost. That's someone else that made that observation. I found that interesting that there are still US firms going into China despite the fact China is forcibly, in some cases, taking their technology.

McDaniel: Yeah. Although now, it seems like the appetite for that is changing a bit, and maybe some firms have just said, "We're not going to do it." For some other firms in some other industries, it makes sense. To the extent that there are WTO violations, then that brings it to a new level. I always like to go back to the Japanese experience, and the Korean experience when I'm thinking of China and IP theft, and forced technology transfer, if you will.

McDaniel: With Japan the thing is, all these countries, they're all sovereign nations. You can't really force another country to do something. The only thing we can really get through the WTO is, if you are found to be violating agreed WTO rules, then to the extent there has been harm, then I can retaliate against you up to that amount. Even that won't necessarily change your behavior.

Beckworth: Let me focus in on that. The WTO, the World Trade Organization, they're supposed to settle these trade disputes. In the case of China... spend a little more time on China before we move on to Japan...

McDaniel: Okay.

Beckworth: ... There's several complaints that we've heard about China. The big one is technology transfers, but there's been other ones. Maybe these were smaller. I don't know, but one is piracy of software, music, movies over there. I read some time ago that, if you go to China, the average computer, 90% of the software is pirated on it. That may have changed. Also, counterfeits. They literally make fake Chevy cars, medicine, and clothing.

McDaniel: Yes, yes.

Beckworth: You can order some of these fake pills online from China. Those are ones, I'm not sure maybe if those are a big deal. I think the big ones, again, at the center of the Trump concern is the technology transfer. Just to flesh this out, any firm that goes over there, my understanding is that the WTO forces China to say you can come in. Once you're in China gets you by forcing you have to have a domestic partner who owns at least 50%-51% of the company. Then, if that happens they take your technology, they ask you to share your technology with them. Those partners are often very friendly with the government.

McDaniel: Right.

Beckworth: It's like China is keeping maybe the letter of the law with the WTO, but not the spirit of the law, so the WTO really hasn't been effective. That's my interpretation. It's been effective in stamping out this concern about technology transfers.

McDaniel: The truth be told, it was very effective in terms of national treatment. The Chinese government cannot treat domestic firms any more favorably than foreign firms, in terms of goods and services and commerce. In terms of intellectual property issues, it's a lot more gray area there. There's really no clear evidence that foreign firms are treated that much differently than domestic firms. It's just that the US doesn't like it.

Beckworth: Oh, okay.

McDaniel: This happens around the world in developing economies. It's just that China's so large, and such a huge trading partner of the United States, and this has gone on for so long and so many complaints, and now we have a president who, for one reason or another, decided just to take it on himself to address this. Which, in a lot of ways, is great, a welcome move. The next question is, though, what can we really get from this, and how far is President Trump going to go before realizing that China's not going to have a US-style patent regime probably anytime soon?

McDaniel: What we don't want to have happen is tariff escalation, increasing trade restrictions. US and China together, as you know, 40% of world trade, and key components in global value chain, so we can't have these two countries escalating the cost of doing business with each other. It's going to have huge ramifications.

Beckworth: Real quick on that point, though. What's frustrating about that, and our previous guest, your friend, Caroline Freund... Razeen Sally was here as well. He's been on the show... They've all brought up this point that the tactic that President Trump is taking is like a bilateral negotiation, "I want to stick my finger in your eye. You're going to stick your finger in my eye. We're going to rough it up." It would've been a whole lot better if the US had stuck with the Trans-Pacific Partnership, the TPP, because then you would've had 40% of the world economy coming to China's door and saying, "Hey, let's try to play by the rules." That wouldn't guaranty anything, but it sure would be a whole lot more effective than just the US going alone.

McDaniel: Yeah. To be fair, there are some advantages, though, of doing certain things bilaterally.

Beckworth: Oh, okay.

McDaniel: It's a different world, though, today, than it was with Japan, when we had Japan problems... semiconductor industry. We didn't have WTO back then either, and we had a very different relationship with Japan than we have with China. Yeah. We'll see what they can do bilaterally, but it's...

Beckworth: You're hopefully they might still…

McDaniel: Well, I wouldn't say hopeful. I'm cautiously optimistic that we can avert a huge tariff escalation, and get sufficient progress to avoid that. Then, I'm also cautiously optimistic that this administration will see that, indeed, all roads lead the US back to TPP. Again, we cannot force China. No one country is going to force China, the size it is, and the level of development and growth ahead of them they have, and just their style of government to make any change, per se. China's going to do what they think is in their interest to do. Given their level of development, it's really not clear that a US-style patent regime is even necessarily in their interest.

McDaniel: You could make the case that so much stronger incentives to innovate are in their interest to nudge them a bit more toward innovation, and away from imitation, but these are complicated dynamic issues, and beyond the scope of this discussion. The way I think, as I've said, and I agree with Caroline and others on this, the way to reign in China is to team with like-minded allies across the Atlantic, across the Pacific, and pen in stronger rules on state-owned enterprises. Investment, intellectual property, dispute settlement. That will then force China's hand, because they'll be, really, the odd man out at that point.

Beckworth: That's a great way of thinking about it. It helps them too. The political leaders, it gives them cover if someone from the outside boots the rules. China is what we've been talking about. It's the trade villain today, but in the 1980s it was Japan, and you talked about that. I want to return to that, and just to remind our listeners, during that time the US was running large trade deficits with Japan like it has with China. They were buying up our property. I was just looking back over this, getting ready for the show. Mitsubishi Estate took control of Manhattan's Rockefeller Center in late 1989, and this followed a decade of Japanese buying up US trophy assets. Firestone Tire and Rubber, Columbia Pictures, Plum Real Estate. These deals were all struck in the '80s and it was like the Japanese…

McDaniel: Oh, yeah. Yeah.

Beckworth: ... freak out. Just like they are about China today.

McDaniel: Yeah.

Beckworth: Here's what's interesting as I was thinking about this. This all came to a head and ended in 1989-1990, when their stock market crashed. It would be interesting, and I'm not a prophet here, but there's lots of talk about China's debt bubble. Its huge asset price depreciation. If something similar happens to China, I'm just speculating...

McDaniel: Right.

Beckworth: Nonetheless, there's parallels there, and you've written about this and talked about it. Tell us, what are some of the insights and lessons that we can learn from the Japanese experience as applied to China today?

McDaniel: Remember, if you go back to the newspaper articles around that time, there's mass hysteria about Japan buying up US assets. I don't think there was a CFIUS back then, but it was a hostile relationship in a way, commercially, but yet it really never feared them in terms of a military superpower either. There's still mass hysteria about them buying up US assets. Then, remember, Japan lost all that money.

Beckworth: Right.

McDaniel: They lost their shirts on most of those investments. You have to peel away the hysteria, and just look at the real value of what's going on. Also, in terms of longterm growth, the asset bubble, yes, but the fact that Japan hasn't really recovered from that in terms of productivity growth, in the long run almost everything is about productivity growth, right?

Beckworth: Right.

McDaniel: Why wouldn't the same thing apply to China? That's a big question, and something to keep in mind when everyone, again, has this hysteria about their 2025 plans. What they say they're going to do on paper is one thing. Can they achieve it? Hopefully, they can. We all want peace and prosperity to go together, but to be so scared about it may not be so well-founded. I think you're alluding to the computer chip wars with Japan in the 1980s.

Beckworth: Yeah.

McDaniel: I love the story about St. Clair Kilby, which largely motivated my dissertation. Jack St. Clair Kilby, this American engineer, went to go work for Texas Instruments in 1958. The Spring of '58. In the Summer, everybody was taking vacation. He'd just got there. He didn't have enough vacation time. He had to stay. He was basically put to work on miniaturization of modules, the tyranny of numbers problem back then. To increase computing power the way they wanted to just wasn't going to be possible, because the modules were physically lined up all side-by-side.

McDaniel: He had this tyranny of numbers problem to work out. Very quiet Summer there, and he eventually ended up inventing the semi-monolithic integrated circuit, which led to the entire semiconductor industry. Now, there were others as well. Noyce, who... really interesting story. Noyce was one of the founders of Intel, but Kilby was really the first to invent that idea. Although Noyce made it to the patent office around the same time, and actually got his patent first, that was largely attributed, they say to, Noyce just had a great patent attorney, who helped Noyce write out, explaining the commercialization and the innovation applications of it. Anyway...

Beckworth: Does Jack Kilby not make a fortune off it?

McDaniel: Well, he won a Nobel Peace Prize for it.

Beckworth: He fared okay.

McDaniel: Oh, he fared okay, yeah. He fared okay.

Beckworth: He wasn't robbed.

McDaniel: No, he wasn't robbed, but they say that he and TI were largely robbed, though. They applied for the US patent, and then a couple years later applied for the Japanese patent. It took the Japanese patent office nearly 30 years to grant Kilby his patent.

Beckworth: Wow.

McDaniel: Now, back then, Japan, they were first to file, where the US was first to invent.

Beckworth: Can you explain those differences for our listeners?

McDaniel: Well, now the US is first to file. A while ago, the US used to be first to invent. For example, let's say you and I were both working on more or less the same idea. Let's say I wrote it down in January 1980, and you were working on it too, but you just got to the patent office first. It took me longer. As long as I could show that I invented it before you say you invented it, then I would have the rights to the patent.

Beckworth: Okay.

McDaniel: Most countries have always been first to file, and the US eventually came around and went to first to file as well. There's pros and cons to each, but first of all, all else equal does get the inventor to the patent office a bit more quickly, which has positive implications for technology diffusion, and innovation. Also, remember, pre-grant disclosure. You file a patent, and then after a certain amount of time it's laid open to the public... while the Japanese patent office is examining your patent. For 30 years, Kilby's patent application was laid open to the public, and dozens, hundreds of Japanese firms were reading this laid open patent application and inventing around it, and filing their own patent, and actually getting grants for their own innovations while Kilby was still waiting on his patent.

Beckworth: Amazing.

McDaniel: Yeah. Remember, back then, MITI had a very strong role in-

Beckworth: That's the Ministry of...

McDaniel: Back then it was Ministry of... what was it... National Trade and... Industry and Trade?

Beckworth: It did industrial policies...

McDaniel: Industrial policies.

Beckworth: ... for Japan, okay.

McDaniel: Yeah, and government and industry, very close relationship. MITI largely oversaw a lot of that, and directed it and guided a lot of that. I was hearing testimony on this issue. People were coming up. Engineers from TI were coming, and explaining how they would literally see Japanese patent applications that look like they were literally written on the back of an envelope, just to mimic Kilby's patent, with only a couple things changed. Then, they would file. Back then, in Japan, a lot of it was just giving the patent office your pad and portfolio. It was really your patent application portfolio. It wasn't really grants, per se. Japanese culture largely was sharing, so it was a lot of cross-licensing. I'd want to file a patent just so I could say I had the application pending, and then to invite you to cross-license with me. It was much more about that than it was actually getting the grant.

McDaniel:The Japanese became very competitive in semiconductors, and computer chips. Then, there were other trade disputes on anti dumping, and then the IP was going on. Then, a lot of trade spats. Mostly, US accusing Japan. During President Reagan's term, a solution and agreement was discovered, and Japan eventually did reform its patent system. Then, a couple pretty big Japanese firms settled with Texas Instrument, and it's been reported that TI received hundreds of millions of dollars every year for quite a while from that. The lesson there is, why did Japan reform its patent system? Did Reagan have the secret sauce?

Beckworth: He's the great communicator, right?

McDaniel: He's a great communicator, and so well spoken. He got along so well with the Japanese in a lot of ways... and Nancy Reagan. Then, you read from the Japanese perspective and it was really much less about external pressure, and much more about... once enough, domestic Japanese firms in the industry got advanced enough that they were pushing against the technology frontier, then they found themselves getting copycatted. They found it in their own interest to...

Beckworth: Interesting.

McDaniel: ... to pressure Japanese government and say, "Look. We actually do need stronger patent rights, because we're not going to stay competitive if our ideas, which are starting to become the best and the brightest across the, not only region, but globe, if we're getting imitated here at home." Again, it's hard to think that will be really different for China. How much will China reform due to external pressure, versus internal? That's the question right now.

Beckworth: Interesting. It was in their own self interest to reform, because if they wanted to do trade treaties and stuff they wanted to say, "Hey, we've got our patent shop in order." I'm just curious on the Kilby case. He waited 30 years. Do you think that was intentional? Was the patent office just that bad, or was there intention in the patent office to give their Japanese buddies a shot to see what was going on, and help boost domestic industries?

McDaniel: You read things, and it was probably a bit of both. Remember, MITI, at that time really had a say over who did, and did not get patents and licenses, and that industry was on MITI's priority list in terms of industrial policy. That said, the Japanese patent office just had a history of much longer pendency periods than the US did. It would take them five to 10 years to grant a patent. Longer, for foreign patents. Because of this pre-grant disclosure rule, it really did encourage and facilitate technology diffusion. There's empirical evidence that it also facilitated productivity improvements. That all goes into their catching-up story.

Beckworth: It was a bit of both. They're just not that efficient and...

McDaniel: That's not on purpose.

Beckworth: ... it conveniently worked out to help their Japanese firms.

McDaniel: Yes.

Beckworth: I'm just curious, the years for the Kilby case. When did he file a patent? When did that 30-year span?

McDaniel: Oh, he got it in '89. I think he filed it in '60-'61 in Japan, so a nearly 40-

Beckworth: Wow. Was he even still alive?

McDaniel: Oh, yeah, alive. Then, a few years after that, in early '90s, Jack Sinclair Kilby received the Kyoto Prize, which is the highest level as a private award from the Japanese government. Recognition for advancements and technological achievements on a global scale. That really reflects Japan's true knowledge, and recognition, and appreciation for this technology.

Beckworth: Okay.

McDaniel: It wasn't malicious. Really, it was just part of their culture, but deep down they realized, they knew that this was a huge innovation by Kilby, and the Japanese government recognized that at one of the highest levels.

Beckworth: Okay. The hope here is that China will eventually fall into the same pattern. That they'll, at some point say, "Hey, we want to continue to have access to these great foreign markets." There are certain rules of the game that the international community plays by. Maybe there's a TPP by then.

McDaniel: Yeah.

Beckworth: The hope is that they too, will see it's in their own interest to have better patents, better intellectual property protection.

McDaniel: Yeah, definitely. As they move through time, and progress, and develop, they will continue to do what they believe is in their self interest. Right now, at their level of development, what they're doing, they believe is in their self interest. That will probably change over time, as they go up the technology ladder. The big question for the United States is, what are we going to do in the meantime? What we know we shouldn't do is, shoot ourselves in the foot with more tariffs. That's not going to change Chinese behavior, and it's just going to make the cost of doing business here at home more expensive, and hurt US manufacturers. Not to mention US consumers, and households. Time will tell how the administration comes to terms with that reality.

Beckworth: Okay, so the best path forward then is to stay engaged in the world, to develop these alliances, to revisit TPP. It's going to be a lot harder, my understand is, now to try to go back in the TPP than if we had stuck with it initially, if President Trump had signed on on it.

McDaniel: We'll see. We'll see.

Beckworth: Okay.

McDaniel: Yeah, we still are a very large country. Remember, we had been working on that for a long time. We were one of the P4, but one of the founding members on the P4. Yeah, this is definitely a blip, but I'm not ready to write it off yet.

Beckworth: I like your optimism, Christine. This is why it's great working with you through Mercatus. You're very optimistic, and help me keep my focus ahead, looking forward. I want to do something here. I want to play the devil's advocate. I've had yourself, a number of others on who have talked about trade, because it's very topical, obviously. I'm going to play the devil's advocate here and take China's side of the story. I want to do that by talking about America's own past history of stealing intellectual property rights. I found this great little piece from an individual named Christopher Wolf from PRI, Public Radio International. He wrote this up, and I just want to read it. It's not very long. Then, have you respond to it. What it does is, it goes through some of the interesting history of the US engaged in terms of intellectual property theft, so it starts out like this...

Beckworth: "In 1787, American agent, Andrew Mitchell, was intercepted by British authorities as he was trying to smuggle new technology out of the UK. His trunk was seized after being loaded on board a ship. Inside the trunk were models, and drawings of one of Britain's great industrial machines. Mitchell himself was able to escape, and seek refuge in Denmark, but his mission marks the start of the sustained US campaign to steal technology from the world's high tech superpower of the day. Mitchell was sent by Pennsylvania economist and businessman, Pench Cox, a close associate of Alexander Hamilton."

Beckworth: He goes on and talks about how Alexander Hamilton was purposefully sending out these people to try to do that. He mentions some other individuals that are well known, that also followed through. He mentions one man who, "Eluded British authorities with Samuel Slater, who heard about youth incentives, and made his way to Rhode Island in 1789. Slater had been apprenticed to a textile factory under in England, and brought his knowledge of the new cut and carting, and spinning machines in use there. He became incredibly wealthy." It's mentioned, he died with his wealth, amounted to one-tenth of the percent of GDP, he was so successful.

Beckworth: Probably, the most famous one this author jumps to is, Francis Cabot Lowell. "In 1810, Massachusetts businessman, Cabot Lowell, visited England. He spent his time trying to figure out how the Brits had managed to automate the process of weaving cloth. He charmed his way into factories, and attempted to memorize what he saw. Back in New England he worked with a clock maker, managed to reproduce the weaving machine from memory. Soon, he and his boss and associates built a whole new city on the Merrimack River to house their new textile factories. The city was ultimately named Lowell, after the enterprising spy. The drive to acquire foreign intellectual property died down in the early 19th Century, as homegrown Yankee ingenuity came to the fore, supported by American venture capital. However, America's industrial development in the first generation after independence was not guaranteed, and we can think Hamilton for providing the state support, and protection of these new businesses."

Beckworth: Now, I know this history's probably a little more nuanced than that, but there were clearly some cases of industrial espionage, right? We were stealing secrets. Needless to say, we're not still doing that. I don't know.

McDaniel: Yeah, absolutely.

Beckworth: Who's to say that the CIA, and other... NSA might be helping businesses on the margin. I know that's not their main mission, but my point is, this had been done historically. China can say to us, "Hey, we're just doing what any country does. We're doing what the US did. We're doing what Japan did." You mentioned, in the '80s. How do we reply to that?

McDaniel: Yeah. There's really no reply to that. This is just a human desire for progress, right?

Beckworth: Yup.

McDaniel: Wherever you are, and whatever period of time you are, you have that desire for progress. You invent to the extent you can. You imitate to the extent you can. You go on and find what people are doing that works, and try that yourself. That's just human nature. You can understand why firms do this around the world, and there is a sort of first mover advantage thing. It's no mystery why more advanced industrialized nations have stronger patent regimes.

McDaniel: When we say, "Hey, stop stealing our technologies," and China says, "Hey, you guys did it when you were in our level of development," yeah. It's true, but now we have the WTO, and we have the rules of the road.

Beckworth: Okay.

McDaniel: There really is no easy answer to this. There is really no high moral ground to this, except, like you brought up the Chinese phone company. What was it? ZT...

Beckworth: Oh, ZTE.

McDaniel: Right, ZTE.

Beckworth: They've been sanctioned here in the US for sending phones on up to North Korea, and I forget where else.

McDaniel: Right. Iran, I think too, right?

Beckworth: They've been sanctioned in the US, and this may affect their business, because they have a huge market share in the US of phones.

McDaniel: Right. Then, there's other non-economic aspects of this. It's one thing to imitate, or invent around. Another thing to copy, and steal, and another thing to steal someone's technology and sell it to their enemies, right?

Beckworth: Right.

McDaniel: Who knows what has been really going on there. Yeah, there's a diplomacy aspect to these things. There's a national security aspect to these issues. At the end of the day, all we have is our laws. Our laws within our borders, and our laws that we have with other trading partners. That is why, again, all roads lead us back to TPP, and TTIP. That is the only way to reign in China. We cannot do this on our own. We know it's futile to impose trade restrictions. We rely on Chinese imports for so many things.

McDaniel: Really, there is no other way that I see right now to deal with this, other than teaming up with like-minded countries who are just as frustrated, and penning in stronger rules that everyone can agree on. You know that you're not going to have the same rules abroad that you have at home, but to the extent you can reach agreement on something reasonable, and go from there. Then, use the WTO when China violates agreed upon WTO rules. That really is all we can do.

McDaniel: Pretty soon I think Secretary Mnuchin, Navarro, Kudlow and Lighthizer are going over to China. It'll be interesting to see how that goes. Hopefully, they'll realize that it might not be such a good idea to expect too much, because again, China's going to do what's in their interest, and frankly, the US should do what is in our interest, which is not to keep imposing trade restrictions on ourselves. It's going to be a delicate balancing act, but I really do hope that this administration can do it in a way that imposes the least costs on American firms, and consumers and households.

Beckworth: Okay, that's a very hopeful message. Again, I really that about you, Christine. I want to end the few minutes we have left just talking about something you mentioned earlier. That is that patents aren't the only way to protect your intellectual property rights, and also the observation that some firms still go over to China despite the fact that they have to share their technology. There's a number of firms that are still engaged. They just do cost benefit calculation. It's worth the cost to go in there and do this.

Beckworth: You also mentioned a first mover advantage. Think of Boeing, and Airbus. There's a limited market for big commercial aircraft, and the first ones to market often can lower their average production cost if they have a big enough scale, so it's hard to compete against them. There are those advantages. There's trade secrets. Coca Cola, other firms, and I'm sure there's corporate espionage going on all the time to get around that. There are these other ways to engage, including just making a cost benefit calculation gong in there, so it's not the end of the world, even if we do have these issues right now. Is that fair?

McDaniel: Yeah. No, that's fair. Remember, no one's forcing US firms to do business in China. That's their decision. Like you said, they need to make that cost benefit calculation before they go over. When President Trump talks about reciprocity, to the extent that we want other countries to treat us like we treat them. That's sort of the national treatment aspect of WTO. The problem is, though, that often that's how all Chinese firms are treated in China, so we're just going to have to wait that out a bit. Surely, there's some room for progress there, that China will still see that it's within their interest, and that will address some of these legitimate concerns. Then, above and beyond that, then we team up with cross-Atlantic, cross-Pacific and try to close the deal that way.

Beckworth: All right. On that optimistic note, our time has come to an end. Our guest today has been Christine McDaniel. Christine, thank you so much for coming on the show.

McDaniel: Thank you so much. So fun.

About Macro Musings

Hosted by Senior Research Fellow David Beckworth, the Macro Musings podcast pulls back the curtain on the important macroeconomic issues of the past, present, and future.