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Figure 1. The "Optimal" Level of Copyright Enforcement

If a society is unhappy with this level of infringement, it can raise the resources allocated to enforcement. However, it might take unrealistically large resources to guarantee conviction of all infringers. On the other hand, abolishment of enforcement on the grounds of its ineffectiveness and the consequent large increase in what was formerly called crime might create new, unanticipated kinds of dissatisfactions which society is unprepared to accept.

4.3 THE DESIGN OF ROYALTY COLLECTION SYSTEMS

Under the assumption that the benefits to a society of providing copyright protection and enforcement outweigh the costs, a question that arises' is how the market for intellectual property should be structured to minimize transaction costs and to promote efficient pricing. The transaction costs considered here are Arrow's "costs of communication and information." A situation requiring special consideration for reduction of transaction costs is that which exists when there are a large number of users and a large number of producers. In this case, one of a number of different licensing schemes may be most effective.

4.3.1 A Comparison of Types of Licenses

Clearinghouse licensing and direct licensing are examples of licensing types that may be employed. With either of these situations, there is the possibility of a blanket license or a per-use license.

A clearinghouse is simply a multi-producer organization established for royalty collection. The advantage of a clearinghouse over direct licensing is that the user has a single point of negotiation, a single place to send royalty payments; and there is likely to be a reduction in the number of payments having to be made. The producer similarly has a reduction in transaction costs because he obtains his royalties from one place and with one payment. On the other hand, with a clearinghouse, there may be a blurring of individual producer considerations. The necessity of simple, all-encompassing contractual provisions may cause some producers with special situations to obtain less (or more) royalties than they would have if they negotiated individually. For each producer, the gain from the economy of scale of the clearinghouse would need to be traded-off against this loss of individuality.

Similar problems must be considered in the selection of the per-use or blanket license. With a per-use license, the major cost is collecting the information. This may be technologically dependent. For example, with uses that are associated with a computer, the capability of collecting use-related data may be high, particularly if it is the producer's computer that is being used and if "use," as opposed to memoryresidence, is easily defined. On the other hand, for mechanical photocopying, the collection of use-related data may be difficult, particularly data which might distinguish the various works being copied.

With blanket licensing (a single yearly fee for all use), the amount

of data needed to be collected is reduced. If the blanket license is in reality a substitute for a per-use license, simply because the cost of collecting per-use data is too high, then the reduction in data collection costs must be traded-off against the increase in inaccuracy and inequity in royalty collections and royalty distributions. Some reduction in inaccuracy may result from dividing users into classes dependent on expected use; and by sampling uses.

Appendix B presents some data from the British Lending Library (simply as an illustrative example) demonstrating that photocopying there is heavily skewed in terms of the frequency of photocopying from various journal titles. A survey indicates that of approximately 15,000 serial titles held by the British Lending Library, the top 200 titles accounted for 20% of the photocopying demand and the 6000 least-requested titles accounted for the last 10% of the demand. U.S. data will likely show a similar skewness.

As noted in Appendix B, this skewness can lead either to lower or higher payments to individual copyright proprietors, depending on the payment algorithm employed. In addition, for those journal titles little used, a larger amount of sampling conceivably coupled with more sophisticated sampling methods might be needed to accurately determine the true extent of photocopying.

At a time a new licensing scheme is to be established, producers may find it important to consider these various trade-offs so that the mechanism with the lowest transaction costs can be adopted. From the user's viewpoint, transaction costs include the value of time and effort as well as the dollar amount of royalties. That mechanism that is easiest to use, i.e. least costly in time and effort, all other things being equal, will probably generate the least amount of deliberate evasions and therefore the lowest enforcement costs as well.

4.3.2 Examples of Existing Clearinghouses

The Harry Fox Office is the mechanism through which many of the music publishers have issued licenses for the recording of individual compositions on phonorecords. (See Appendix A, Section A.4.6.3). Despite the availability, since the passage of the 1909 Act, of a compulsory license with the Copyright Office serving as a repository of ownership information30, licensees may find that better terms are available from the Harry Fox Office in return for greater assurance of precise information about numbers of records manufactured and delivered. Royalties owed are computed from this information.

Three clearinghouses now exist for the collecting royalty payments for public performances of musical works. These are the American Society of Composers, Authors and Publishers, Inc. (ASCAP), Broadcast Music, Inc. (BMI) and SESAC, Inc. The combined membership of ASCAP, BMI and SESAC comprise the copyright owners of virtually all music copyrighted in the United States. Licensees are required to pay only a lump-sum royalty

annually in a predetermined amount (a blanket license). However, many broadcasters maintain logs as a matter of standard practice, and these are made available to the clearinghouses if required. These logs, plus a limited amount of sampling of performances, provide sufficient information for proportioned distribution among the individual copyright owners of the fees collected. The distribution is made approximately according to the estimated number of performances of each work. The cost of operating ASCAP is said to run about 19% to 20% of its gross revenues.

4.4 ROYALTY PRICING SCHEMES

This section considers pricing rules that can be employed to differentiate different classes of users and to cover different types of costs. It is assumed that all users in a particular class are treated identically, and that the purpose of the pricing rules is not for anticompetitive reasons, but to efficiently maximize income.

4.4.1 Individual and Institutional Users A theory which justifies price differentials between individual and institutional users is described in Appendices C1 and C2 of this report. Here, an institutional user is one that serves to further distribute the work among individuals served by the institution. It is noted in Appendix cl that, for a product distributed to classified users who do not move from class to class, an existing theory states that the prices among the classes should be inversely proportional to those classes' respective price elasticities, provided that marginal costs are the same for each class. However, in the provision of certain copyrightable works, e.g. scientific journals, users may obtain their copies either as the result of individual subscription or through use of an institutional copy. Thus, there are "cross-market" effects as users move between the classes. In this case, the work of Appendix C2 employs a variable called "the average number of potential subscribers" which measures the number of additional individual uses that would result from discontinued institutional use due to increased prices to the latter class. The value of this variable determines the price differential that should be offered. Tests that producers can make about the potential market can determine the value of this variable.

A second issue raised in these Appendices is whether the users of the institutionally-obtained work should pay per-use fees to the institution to defray the cost of the institutional subscription. In general, to the extent that the individual uses via the institutional subscription are private appropriations, these uses should be paid for by the users unless there are valid countermanding reasons. One such reason might be that it is in the public interest (or in the interest of the institution's owner) to encourage such individual use; and a second reason might be that the costs of collection are high relative to the revenue gained.

4.4.2 Services With High Fixed Costs

A pricing system often used for the provision of services that have a high fixed-cost element is the combination entry fee and per-use charge. Utilities often have connection charges as well as per-use charges. Some computerized, on-line, bibliographic or full-text search services are now using this type of pricing. Typically, there is a monthly or yearly use fee or entry charge, a time-on-line charge, and a "hit" charge for retrieval.

It is possible, also, to offer a user a choice between two charge plans. For example, a user might be offered either (a) a higher connect (entry) charge and a very low per-use charge or (b) a very low entry charge and a higher per-use charge. Depending on the break point, the high volume

will probably select (a), the plan with the low per-use charge, whereas the casual user probably will select (b), the plan with the low entry charge. The offering of two such plans may prevent either type of user, casual or high volume, from subsidizing the other type.

4.5 FAIR USE AS AN ECONOMIC CONCEPT

"Fair use" was originally a judicially-developed concept that can be conceived as a method of reducing certain kinds of transaction costs. It is now embodied in Section 107 of the 1976 General Revision of Copyright law, as described in Section 3.6 above. The "fair use" concept historically recognized and attempted to allow for two basic principles that can be counterposed to the principle of copyright in a potential infringement situation. A third principle of "fair use" was added in the 1976 General Revision.

The first principle is that of the freedom of communication of ideas, derived from First Amendment considerations. (Professor Melville Nimmer has delineated the balance point in this potential conflict. 31) Where First Amendment principles have dominance, there can be no exclusion. Thus, under "fair use", purposes of use such as "criticism, comment, news reporting, teaching.. scholarship or research" are permitted, subject to limiting factors such as the amount of the work used. "Fair use" may be viewed as a method of reducing the cost inherent in a conflict between Article 1, Section 8 of the Constitution and the First Amendment.

The second principle allowed for under "fair use" is lack of marketplace impact. In the consideration of whether a particular use is a "fair use," a factor to be taken into account is "the effect of the use upon the potential market or value of the copyrighted work." Thus, it is recognized to be uneconomical and therefore inappropriate for resources to be expended in contractual efforts to obtain permission for usage of little or no market impact.

The third principle now added to "fair use" is indicated by the phrases in Section 107 of the 1976 General Revision relating to education.

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