Patent regime and the geography of cumulative innovation

The localization effect of cumulative innovation was strengthening in the past few decades, a puzzling trend given the decreasing cost of knowledge transmission. To unravel this puzzle, we attend to patent regime and propose a legal perspective. We illustrate with a stylized model that a pro-patent regime re-distributes profits from later innovators to initial patent owners, which discourages distant followers with higher learning and licensing costs and therefore leads to stronger localization of cumulative innovation. We test the model predictions by exploiting an unexpected pro-patent regime change—the creation of the Court of Appeals for the Federal Circuit. We find that follow-on innovations became more localized after patents were strengthened in litigation, especially in regions that experienced a greater increase in patent enforceability. A series of robustness tests and cross-sectional analyses strongly support this finding. Interestingly, we find that scientific knowledge diffusion, which was unaffected by patent regime, became less localized during the same period. Our paper shows that patent regime can shape the geography of cumulative innovation, which has profound implications for firm strategies and policymaking.