The Knockoff Economy

by Kal Raustiala

  In sum, like the recording industry, Hollywood views copying—especially in its growing markets abroad, such as China—as a grave threat. But unlike the recording industry, Hollywood has responded, at least so far, in ways that effectively blunt piracy’s impact. It focuses on the experience—watching a movie in a theater is different and, for many people, better than watching a pirated copy on a computer monitor. It focuses on quality, both in the theater (new digital projection and 3-D technologies) and for the home viewer (high-resolution Blu-Ray). It offers multiple ways for viewers to access content. What Hollywood does is not precisely the same as any of the other industries that we’ve studied. But Hollywood has taken a page out of several of their playbooks.

  There is much the music industry could learn from this openness to new approaches to creation and distribution. Until very recently there has been no real music equivalent to Netflix, for instance. Rhapsody, the largest of the subscription services, claims 750,000 subscribers, but that number is hotly disputed and, even if taken at face value, has been flat for a couple of years. For comparison, Netflix has over 20 million subscribers. Subscription streaming service is transforming the movie business. And yet—until recently—it barely figured in music.

  That may be changing with the US introduction of the Spotify music subscription service. Spotify has been available in some European countries since 2008, but licensing negotiations delayed its US launch until mid 2011. Spotify’s catalog of approximately 15 million songs is now available for streaming. Users have the choice of a “free” service featuring restricted access to the catalog and advertising, or a $5 per month service that removes ads and gives users unlimited access to the full catalog.

  So will Spotify emerge as the music version of Netflix? It’s too early to tell. In mid-October 2011, Billboard magazine reported that Spotify had gained approximately 2 million US users, of whom 250,000 were paid subscribers.12 That’s a promising start, but important questions remain—including whether streaming is as appealing to music consumers as it is to movie fans. Some, including the late Steve Jobs, have suggested that music subscription services are failing because consumers want to own music rather than stream it. That is probably true for many (and Steve Jobs, of course, was not neutral in the matter). But for others, music is fairly disposable—they listen to a song for a few weeks or months, and then move on. For these people, subscription music may be a good fit.

  Much the same can be said for Internet radio. Services like Pandora allow users to discover new music by telling the service a bit about what kind of music they like—if they’re into a folky female singer like Feist, Pandora may expose them to Charlotte Gainsbourg and Cat Power. Unlike services such as Rhapsody, users cannot request specific songs—Internet radio is about exposing listeners to new music, and as such these services should be record label sweethearts. But until recently, subscription radio was struggling. The problem isn’t lack of popularity: Pandora alone has 48 million users even though it has a smallish catalog of only about 700,000 songs. Internet radio has been stifled by very high music licensing fees. These license fees are set by a government-run royalty board, and, prompted perhaps by fierce record company lobbying, the royalty board’s first round of rulings in 2007 set fees much higher than most Internet radio outfits could afford.

  The result might have been the shuttering of services like Pandora. But after a sustained campaign by Pandora’s users, Congress passed legislation that pressured the labels to negotiate a new deal. What followed has been a series of contentious negotiations that have resulted in short-term royalty deals. Whether the record labels ultimately strike a longer-term deal that allows subscription streaming and Internet radio services to thrive is a vital question for the future of the music industry. Stay tuned.

  SUMMING UP

  Today, copying is a fact of life in the music world. Yet music is not dying. Even without any changes, music is vibrantly creative today. From a consumer point of view, life has never been better: more musical choices, more easily obtained, than ever before.

  Still, the music industry can change further to better survive a world of easy copying. Rely more on the live show, an experience that cannot be copied. Attempt to woo customers away from piracy by emphasizing the quality of the legitimate product. Create (or bolster) social norms about copying. And diversify the ways in which consumers can access music. The result will be a very different music industry. But it will be a world with a lot of great music.

  ACKNOWLEDGMENTS

  We could not have written this book without a huge amount of help from a large number of people. First are Lara Stemple and Anne Metz, who heard (without complaint) an awful lot about this book as it was gestating, and who read, commented on, and helped improve many pieces of it. Thanks are due also to our parents, who have supported us in everything we’ve done. And now for some gratitude on a more specific level…

  Thanks to Steven Levitt and Stephen Dubner for taking us onboard as regulars at the Freakonomics blog—we first developed many of the ideas in this book in blog posts we wrote there.

  We thank our colleagues Chris Buccafusco, Michael Heller, and Larry Lessig for their very helpful input on our first draft of the book, and Doug Lichtman and Neil Netanel for great comments on our concluding chapter. We also thank our editor, Dave McBride, for his careful reading and incisive comments.

  For very helpful input on the world of financial innovation we thank George Geis, Paul Mahoney, and Peter Sweeney. We are grateful to Dick Stemple, Josh Swartz, Siva Vaidhyanathan, and Dave McBride for talking to us about football. We thank Dana Foley, Eric Wilson, Cathy Horyn, Ilse Metchek, and the members of the California Fashion Association for sharing their knowledge of the fashion industry. Laurent Torondel, Drew Nieporent, Joachim Splichal, Kerry Heffernan, Ludo Lefebvre, Jonathan Gold, Evan Kleiman, Josiah Citrin, Nancy Silverton, David Chang, Roy Choi, and many other chefs and food writers from Los Angeles to New York did the same for cuisine—and their input was invaluable. Michelle McNamara and the many unnamed comics quoted in the chapter on comedy gave us terrific insight into the tribe of stand-ups.

  A host of others provided comments and conversations that helped us make this book better: we thank Amy Adler, Lu Alvarez, Nathalie Atkinson, Willoughby Anderson, Margo Bagley, Shyam Balganesh, Jonathan Barnett, Jon Baumgarten, Stefan Bechtold, Barton Beebe, Laura Bradford, Michael Carroll, Julie Cohen, Dan Crane, Troy Dow, Rochelle Dreyfuss, John Duffy, Dave Fagundes, Kathleen Fasanella, Terry Fisher, Brian Fitzgerald, Brett Frischmann, Jeanne Fromer, Blake Fry, Lolly Gasaway, Lauren Gelman, Daniel Gervais, Jennifer Granick, Joe Gratz, Adam Gutterman, Ned Gulley, Kathryn Hashimoto, Scott Hemphill, Terry Ilardi, David Jacoby, Mark Lemley, Jessica Litman, Lydia Loren, Glynn Lunney, Michael Madison, Peter Menell, Robert Merges, Joseph Scott Miller, Tom Nachbar, David Nimmer, Tyler Ochoa, Dotan Oliar, Dan Ortiz, Frank Pasquale, Mitch Polinsky, Elizabeth Rader, Tony Reese, Blake Ellis Reid, Glen Robinson, Judith Roth, Zahr Said, Mark Schultz, Jule Sigall, Kate Spelman, Lior Strahilevitz, Katherine Strandburg, Jeannie Suk, Michael Traynor, Rebecca Tushnet, Siva Vaidhyanathan, Charles Valauskas, Molly Shaffer Van Houweling, Polk Wagner, Tara Wheatland, Jeremy Williams, Adam Winkler, Del Wood, and Tim Wu. Special thanks are due to Pam Samuelson for learning she’s provided over the years that undergirds a lot of this book.

  We also thank a wonderful group of librarians who were invaluable to this project, including Kristin Glover, Kent Olson, Jon Ashley, Leslie Ashbrook, Michelle Morris Beecy, John Wilson, Amy Atchison, June Kim, and Ben Doherty, and a great group of student research assistants, including Shaun Bockert, Louis Shernisky, Isaac Wood, Jack Wickham, Lucas Beirne, Nell Moley, April Reeves, Phil Rucker, Lillian Park, Robert Wu, Marie Lamothe, Sonya Paskil, China Irwin, Tim Cook, Sean FitzGerald, and Demetra Karamanos.

  We also thank colleagues at USC Law School, the University of Michigan School of Law, Washington University Law School, Stanford Law School, Berkeley Law School, UCLA Law School, the University of Chica
go School of Law, George Washington University School of Law, ETH-Zurich, the University of Pennsylvania School of Law, the University of Virginia School of Law, the Copyright Society of the USA, the Corcoran Gallery, and the Los Angeles Copyright Society for hosting workshops and talks at which we presented work that ended up in this book.

  NOTES

  INTRODUCTION

  1. Faviana, www.faviana.com/catalog/category-celebrity-dresses (accessed January 5, 2012).

  2. There have been many attempts to change this, however, most recently the Innovative Design Protection and Piracy Prevention Act, S. 3728, 111th Cong. (as reported by Senate Committee on the Judiciary, December 6, 2010). Fabric prints are copyrightable, on the theory that they are akin to two-dimensional drawings (which are copyrightable). But the main aspect of a garment—its overall design—has never been legally protected in the United States. Some other nations do protect fashion designs, and this contrast has for nearly a century been invoked (thus far unsuccessfully) as a reason to change American law.

  3. The relationship between competition and IP is complex and has been developed in different areas of American law, including antitrust law and unfair competition law. The basic structure of our legal system is of course pro-competitive. IP rights represent a deliberate and temporary deviation from that pro-competitive stance. This deviation is required, it is thought, by the need to protect and thus spur innovation. As one court aptly put it, “there exists a fundamental right to compete through imitation of a competitor’s product, which right can only be temporarily denied by the patent or copyright laws.” In re Morton-Norwich Products, Inc., 671 F.2d 1332 (C.C.P.A. 1982). The line between acceptable competition and IP violation is not written in stone; American law has shifted over time to prohibit some kinds of copying that formerly had been permitted. See, e.g., the Architectural Works Copyright Protection Act of 1990, codified at 17 United States Code, sections 101, 102, 120 (1990).

  4. Though moral claims crop up occasionally in debate over IP law and policy, they play a minor part in the American legal framework. As the Supreme Court explained in Sony Corp. v. Universal City Studios, IP rights “are neither unlimited nor primarily designed to provide a special private benefit. Rather, the limited grant is a means by which an important public purpose may be achieved. It is intended to motivate the creative activity of authors and inventors by the provision of a special reward,” 464 US 417 (1984) at 429. Moral justifications for IP protection have somewhat greater purchase in Europe. Since our topic is American law, in this book we focus on the primary American rationale for rules against copying, which is economic and instrumental in nature.

  5. Thomas Jefferson, Letter to Isaac McPherson, August 13, 1813. On the historical understanding of the balance between protection and competition, and an excellent close reading of Jefferson’s letter, see James Boyle, The Public Domain: Enclosing the Commons of the Mind (Yale, 2008).

  6. A word about the words “monopoly” and “innovation.” We use “monopoly” deliberately, though we recognize that there is controversy over the degree to which IP technically rests on monopoly power. Most patents and virtually all copyrights don’t grant the sort of power that an economist would recognize as a textbook monopoly—i.e., a position as the only provider of a product or service for which there are no ready substitutes. Yet, quite a few patents and copyrights provide their owners with very substantial market power, including the ability to charge prices substantially above what a competitive market would otherwise allow. Indeed, this is precisely the reason the American legal system contains patents and copyrights—they are intended to give creators the ability to charge a price higher than would be possible in a market with free copying. A firm that owns a patent on a useful drug will be able to charge a higher price, and to sell more of its drug at that high price, than if it faced competition from generic versions (i.e., copies) of the drug. The same is true of copyright. The copyright on this book will allow us (really, our publisher) to charge a higher price for this book than we would be able to charge in a market where everyone was free to copy the book and sell a competing version.

  We use “innovation” broadly, to refer not just to new patentable inventions, such as machines, drugs, and the like, but also to new literary and artistic works, which are covered not by patent but by copyright. We recognize that copyright rests on a relatively lax originality requirement, whereas patent has a much stricter “novelty” standard. Yet both copyright and patent are mechanisms for encouraging creative effort, with the goal of producing new knowledge and culture. In this broader sense, patent and copyright both produce innovation, albeit of different types.

  7. The political economy of IP tends to be dominated by the interests of those who possess IP, since the “other side”—that is, the public interest—is diffuse and usually disorganized. The result is a tendency toward the expansion of these rights. In the patent context that tendency is less strong, since there are many powerful economic actors who have an interest in restraining patents so they can use the inventions they describe. But in copyright the large corporate owners of IP have a powerful organizational advantage, and as a result the scope of copyright has expanded markedly.

  8. Robert Levine, Free Ride: How Digital Parasites Are Destroying the Culture Business, and How the Culture Business Can Fight Back (Doubleday, 2010).

  9. We favor having an IP system, unlike some prominent critics who counsel abolition. See, e.g., Michele Boldrin and David K. Levine, Against Intellectual Monopoly (Cambridge, 2008). We certainly agree with Boldrin and Levine that IP law is a monopoly, government-issued at that, and that it inhibits competition. Where we part ways with Boldrin and Levine, whose arguments we respect, is in their call for dismantling the system. We take a more measured and we think more prudent tack, favoring reform over revolution.

  10. As we discuss further in the conclusion, one of the key differences is the cost of creation. Higher cost industries are more vulnerable to copying’s harms. At the same time, however, many technological changes are transforming the costs of creation and of distribution in ways that upend traditional assumptions about cost.

  11. “New Football a Chaos, the Experts Declare: Ground Gaining by Carrying the Ball Made Impossible; Onside Kick Is Only Hope,” New York Times, September 30, 1906.

  12. A common argument, with which we generally agree, is that without confidence that copyists will not undercut the market for innovative works, distributors (publishing companies, film studios, etc.) will not invest in bringing creative works to market. As we will describe, this is sometimes true but not always. In some cases intermediaries play a small role. And even when intermediaries are important, changes in technology can create new modes of distribution that can be very significant and much less sensitive to the effects of copying. And finally, there are important markets in which intermediaries do their job of marketing and distributing creative works without the motivations of IP. We’ll look at all of these instances in this book.

  13. Edward J. Epstein, Hollywood Demystified, The Reel Show, Winter 2005, www.scribd.com/doc/5885934/How-film-studios-make-money (accessed May 24, 2011). The case was Sony Corp. of Am. v. Universal City Studios, Inc., 464 U.S. 417 (1984).

  CHAPTER 1

  1. Eric Wilson, “Simply Irresistible,” New York Times, May 21 2008.

  2. Serena French, “Knock It Off!! Fashion Fights Back at Year of the Copycat,” New York Post, May 1, 2007.

  3. Marie Claire: Splurge vs. Steal, www.marieclaire.com/fashion/tips/splurge-vs-steal/ (accessed May 31, 2011).

  4. See, e.g., Dana Thomas, Deluxe: How Luxury Lost Its Luster (Penguin, 2007).

  5. Pankaj Ghemawat and Jose Luis Nueno, “Zara: Fast Fashion,” Harvard Business School Case #9-703-497 (2003).

  6. See, e.g., Francois Baudot, Fashion: The Twentieth Century (Universe, 1999) and Teri Agins, The End of Fashion: How Marketing Changed the Clothing Business Forever (Harper, 2000). Of course, apparel dates back millennia, but scholars gener
ally view the Renaissance as the birth of fashion, by which they mean clothing used to distinguish individuals from one another in terms of status. See, e.g., Jean Baudrillard, who wrote that fashion is “born with the Renaissance, with the destruction of the feudal order by the bourgeois order and the emergence of overt competition at the level of signs of distinction.” Quoted in Veronica Manlow, Designing Clothes: Culture and Organization in the Fashion Industry (Transaction, 2007), 9.

  7. Manlow, Designing Clothes, 35. See also Nancy Green, Ready to Wear and Ready to Work (Duke University Press, 1997), 45, and Paul Nystrom, Economics of Fashion (Ronald Press Company, 1928), chapter 16.

  8. Eric Musgrave, Sharp Suits (Pavilion, 2009), 97.

  9. Manlow, Designing Clothes, 47,

  10. Baudot, Fashion, 123.

  11. Agins, The End of Fashion, 34.

  12. Thomas, Deluxe, 4.

  13. Thomas, Deluxe, 316. Zara changes three-fourths of its merchandise every month, or less. Ghemawat and Nueno, “Zara,” 13.

  14. See “Fashion Scoops: Vigilante Justice,” Women’s Wear Daily, September 11, 2007, 13.

  15. Nystrom, Economics of Fashion, 190. Nystrom’s book is a treasure trove of information about early 20th-century fashion, both in Europe and the United States, and Nystrom thought systematically about several of the issues we discuss here.

  16. Copyright is not entirely consistent in this regard. Despite being highly functional, maps and charts have been copyrightable since the first US copyright statute in 1790.