Bargaining and the distribution of returns in the purchase of technology by developing countries

BJ'RGJ~D'ING AND TI-L.:; DISTRIBUTION OF RErrururs IN THE PURCH/SE Qli' T::::CHNOLOGY BY. DEVELOPING COUN'I'EIJI;S

IDEP/REPRODUCTION/283 Page 1.

The intellectual tr~dition of most modern econondsts (et le= st in the "vJestern" >vorld)- is such' that they explici tly or iii!plici t ly associate the allocation of resources and (J_istribution of returns 1r~ith

the merket mechtnism and a. priee system. Aside of issues thet erise 1-1i th respect to the ùegree of "puri ty" and "perfection" of the :r.arkot- price syst em (a su"bject that has long been discm;sed) ecc:conjsts who e.ccept i t iu1plici tly assume ₇ emong other thines thc:t (a) goods, services and factors of production ere "individüally owned'.' (by p.;rsons or firtnc) and (b) the parties prrticip<-tinG in an exchenge are able to esscss the

va lues of the economie uni ts tra.ns.s.cted. The marke-t 1o1i thin which tech- nology is being commercialized violates bath assumption rc:::la:ted to the priee system, 2s it is tr2.ditionall;y defined. Consequently, toch- nology cornnJercialization can best be ù.escribed through ether mecha- nism:;;, and one that a::Jpee,rs most appropria te is thE t of b rt;oining. Po licy mE:kers, therefore, 1-rho concentrate on the "priee mech2nism"

(fis teught to us iJy trr·ditionel economie theory) in arder t o meximize tbeir country's interests ~rhen teclmology is being purchaoed ëre mis-

orienting themselves con~)letely.

The reasons arc th.e following. 'rechnology, be in,:; " fo:'l.', or infor- mation, is "non-exhamtible". Its use contrasts Hith t1_e u::>')·.,,~ fo, consum:ption) of an item which is "incU vülually 01rmedil ₁ in Fhi·vh cL ;.;;v

the ov<ülabili ty to ethers (or to the sA me persan in the future) is a.t le;:·st partially reduceù. through 'liorear and tear. 'rechnology, the 1,

is by nature "jointly" and hot "indivicluelly" 01•med. The usé ,~·c of information by a persan or firm does not in itself reduce its present or future availability. Inforr,1etion is "non-exhaustit h;¹¹i the priee

rncchanis~;1 thé•t could satisfy 'the efficient transfer to "inJ_ivi<ll.'.ally"

owned goods is inappropriat u in this case.

3E C.V. Vaitsos works in Lima, on t echnical essistance contrc:ct to the ftndePn Pact Group.

IDEP/REPRODUCTION/283 Page 2.

The marginal cost of using or selling e.n already developod t och- nology is zero for tho owner of that t echnology. Tr,fhero ca'3es of adap- tation er ise the Ol•rner incurs ccrtein co:::::ts which can be est ill;a:ted ~:nd.

usually do not exceed a figure in the t ons of thousends of dollrrs. 1 In scverel industries the sellers of t echnology to developing countrios have thcmsclves copied such technology from the ori0inators VJho in- currod tho R. & .J. expanses. (A syst emc:tic study undsrtalœn in tho pc:trochomicals industry indicated that during the period é'fter original devclopment whcn technology sc:~les to dcveloping countries Nere r.1ost likely to occur th;:; ori,;inal proùucors of a product or proconc é'ccountod only for

1%

of the t otal liconsing. The rem~üüne 99f~ was divided

betv.rccn ¹¹folloJ;,rers¹¹ of commcrci.? l producers (

52;6)

and engineering firms

( 4 77b)).

² On the other he nd, from the point of vicw of tho purchcsor the marginal cost ol dcveloping en alternat ive technology Nith his ov.m te chnical capaci ty ui.::;-ht éJn1ount to millions of dollars. Or lle rnight be

unable to develop i t ₇ or at least think so 7 in which CE· SC his rel;:;t ivo marginal cost is infinite. Given market availabil it ios ₇ tho priee botwecn zoro or t ans of thousrnds of dollErs , ~nd ~dllions of dollErs or infi- nite is ^Y in turn ₇ detcrmuwù sol cly on tho i-Jasis a crude rclr>,t iv8 tar-

gaining pov.ror. There is no priee which a priori c2n be cl2-irnod t o be moro or loss appropriate within the two limits specified.

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For en ^an:: lysis of illé"rgim 1 ve:rsus full cost consi:.._;:;r,c tions L1 the devclopment of nGliJ ns vJoll e.s the sc:lc of ç·lrc::r·dy dovolopcd tcchno-- logy th8t is purchesed by tho ¹¹non-industri2l ü.cd." TrJorld soe C.V. V ai tsos: "Tre.nsfer of Resources .-:nd Preservat ion of l.ionopoly Ront s", pa,per proscntod e_t the Th:bronik Conference of the Development tdvi- sory Service of Ec::rw·rd University, June 20-26₇ 1970₇ pp. 18- 21.

2 R. St obeugh "Ut ilizing ·rcchnicêl tno1.v-hoH in a .:.:'orei:::,·n Invust mcnt and Liconsing Progrm:1¹¹ 7 pé·por clolivorod to t ho Né!.t ional I.ïoet inc , Chomicé'l r.ï:-rketing Hcsoé:rch !S80Ciat ion,

19707 P· 5·

IDEP/REPRODUCTION/283 Page 3.-

A furthor considere: tion erises ns to whGther inforntE·tion, technology or id8as aro ¹¹oHncd", to str:·rt with, in accord2nce with the traditional definit ion of property. ·Ide as CE:n ccrte.inly be captive ci ther lc,~ally

(i~o. pdent privilegGs) or tcchnically (i.e. in case they arc kept secret, or when e. potentiel user docs not have the knouledge to 2.bsorb

· snd. u::;e certE.in iriformetion). But oan they be "owned"? It haa baan argued that " •• ^{0 0} property in idee.s once published is_ an inso.luble con- tra.dictiono... (He tvho ergues that his idcë,s hEwe been stolon) •• o o corn- plains that something h2s beon stolen which he still possesses, end he N<nts back something which ₁ if ,si ven to hiw a thousend times, 1vould add nothing to his possession". 1

Furthormor0₁ how can "ownership" be claimed in inventions or idcas v;hen eny adv<'ncement in thought is e result of depehdence on end further elaborations of previous inventions or ideas?2 The distinction botwcen "o~ornership" ~nd "ceptivity" leads us to the follovJing consideration. In part of the market of technology commercia- lization an external mcche.nism is intcrposed so [lS to cr<.::ete, artifi- cially,

a

scarcity Nhich in turn rcsults in a priee system. Such inter- position is acl-iieved through patents. "Clearly the pa,tent system is our attempt to include th-3 production of inventions in the same framework of pricing <::s the prodUction G.f other things, r·nd to do this by creeting scerci ty - by linti ting the use of the invention. • • • So far as invcnt ions are concerned ² priee i:::; put on them not boceuse they aro scarcc but in arder to ITk..,kc thom sc.: rcc to those who want · to use them". 3

1 Eormann Rent zsch, "Gcist i.;os Bigonthur.1" H.::,.ndlvortorbuch der Voll~swirts

chc:ft, Loip~ig 1866, p. 333.

2· "It is little short of <:bsurd.it;y to crll emy one of the inturreleted uni ts the invention ₁ 2nd i ts 'creator' tho invcntor. The ma.n tvho brought to <' cort<:ün str-·gu of fruition the efforts of myriad sucees- sors, c·nd whom thcreforc r.re cr 11 tho invontor, may have made a great contr ïbl:-Cion. But .se:on in i ts propcr sctting & perspoctivo, the con- t ribution is sor.icthi:.'l,;' lese; thr·n cataclysmic" Jl.lfrcd E. K&hn "l''unda-

!llc.ntal Dcf'icicncios of the: Amcricrn Pal;ont Lm·.r". Americ.:n Economie

Rcvie>-J, v. 30 (1940) p.

418. ' ·

3 :Cdi th

' r.

Ponrosc The Bconomics of th..; Intorné'.tional Patent System, The John Hopkins Press , 1951₁ p. 29.

' t

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1

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ID:CP/REPRODUCTION/283 Page 4•

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l'he second assumption mé',do <:~bout the priee system e.s en efficient mo2ns of < llocE·ting rcsourcos irnplics thct "tho parties pcrticipe.ting in Pn oxchrmge éTC nblo to 2:3soss tho vcüuos of t.he economie units tre.n- so.ctod". llero <'oiSE~ in ths oxisting market of tochnology commorcialization not only differs from th2t of the priee system, but e.lso pleccs the pur- chaser in ^.c- structural position of br sic woalmoss. In thé form1:lé.1tion

o~ ';tc c:cE;·nd for tochnolo-;y, or for inform<tion in general, the pros- pective buycr neods information nbout tho propertios₁ potontial r0sults,

!:lt~rnativc offcrs₁ etc. of tho item ho intonds to purchaso. In this l'8Spcct tb3 t ;;chnology n:nrlœt ÜJ no different from <'11 othcr markets.

Y0t quito afton, the i tom i tsolf that one nocds to purchase (i.e. tcch-

no:og,y) in at tho snmo timo the inlormation thn.t is needed in order to make a ratiorc::-1 decision to buy i to ''Jhat is neoded is know1edgc ab?ut lmo\v- lcdgc, \·Jhich could 0ffcctivcly be ono and tho samo thing. As a result the <:>ssumocl rolcs of c:n offici::mt market mochanisr.1 bren.k down, at 1or>.st on tho p2,rt of tho buycr. In cvaluatiJ;lg contracts of technology purchase by dovcloping countrics one is imncdi~tely struck by the; total vo.gueness by which technical assistance is being acquirod contractunlly. The licen- sor is quito gcnorally loft with complete frcodom to transfor whatover he decides whilc the purch sor h2.s cxplici t c:nd fixcd conditions wi th respect l,o pc:ymcnts, terms of oblig:"'tions, etc. The buyer, quito often, does not know what to ask.

The proportios of the m<~rket of technology trr>nsfer are thercfore, such that the mochcnism th2.t bost describes its functioning is the pro- cess of b< rgaining (<md not the tradi t ional1y defined market-priee sys- t em). Tho buycr is, moroov:.,r, plc cod in a position of structurr>l wePk- ncss in tho formulPtion of his domr.-nd for inform::::.tion. lc!e now h2vo to considor why dov-.:1oping countries confront, in <·ddition, othor problems which furthor diminish the ir rolc·tivo berg::· ining power :-nd honcc in- crorse tho cost of tcchnology nc4uisition. I shall be briofly trcating three general aspects.

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Pr>go 5·

I. The proce:Js of industrialization through fin<'l product import substitution of the "late-late corners" has boen such th<t dev~loping

countries basic<:.lly confine themselvos to tho transformation (2nd not properly the production) of products that have beon imported from cbroad. ¹h thin this context technology purch:·so involvcs ₁ to ~ grr·2t extent, know~how embodiod in intormediato products <nd crpitr>l goods. As a rosult purchases of tho latter arc tiod-in with tho purch~so of technology. A study undertc·ken in Colombin sho1rJOd the. t all the contracts of technology commorcialization that providod inform2.tion on :intor-

mediate product purchases, oxplicitly requirod tho purchaso of ouch products from tho seller of tcchnology. In nddi tion, ovcn if contré'.c- tual terms do not so spocify, tho know-how purchaso oftcn definus ·~ ^{30: ... -..}

times qui te uniquely) tho origin of intormodirt o proclucts. .!s ,.., 2 ^·L J·:;

tho mErkvt of such produc-l;s becomcs monopolistic (i.e. the licew=et- of Pfiz-.:;r, Co. has to buy tetracycline from Pfizor sinco th<.; lr~tt·~r

is tho only one that can export tho product to n country if it owns thG pntont that covors tho product. P_ lic"'nseo of Toyotn h2s to im- port compononts from the licensor since tho tochnology cmbodicd in the ch2sis .~nd é'.SsCinblying of Toyota cars requiros specifie Toyota compo- nonts). From rosor:.rch in Colombin ê-nd extr<'pol;··ting from 2. ;_;r·mplo thr t includod 25% of th- imports of 40Îo-50% of tho pharmacoutic:--1 indus- try, it ,.r;:s ostimrtod th~t tho country pc:..id for intormodü-·t c products in 1968 close toUS$ •••• 20,000,000 solcly duo to ,E!'ico diff'-'ronti~ls

above thosc avoilrblo in the "intornation2l" mark'-'t for the Sé'rnc pro- ducts. Priee different ir ls è·r---rc obscrved in ooch one of th~ f:kctors studiod which includod chcmicals, electronico and rubb\.)r products.

1 The following discussion is bascd on C.V. Vo.itsos, OE· cit.

pp. 10ff. The quotation is from p. 11.

IDEP/REPROJUCTION/283 P2.ge

6.

"Dofining é'S effective roturns to tho parant corporation tho sum of rc- portod profits of ho subsidiary ₁ royalty payments :_,nd int.:rmcdi;:oto pro- duct ovorpricing, tho folloNing dat2. con be inforrod from our samplo of tho Colombinn phr-rmc.ceutical industryc Reportod J?!'O~constituted

3c4%· of effective rcturn_~_ .. E~?

. ...

:Z:"l~s 1~QÎ <~.nd •overpricin~' ~?.:61~"0 In viow of such ovorpricing tho b2.sis for casting tochnology é'.nd/or cr:.pi- tal (in Cé!.se of foreign direct invostmcnt) c<::nnot bo found in royalty pé!.ymcnts or in doclé:,rcd profit ropctriation, but h2s ta rcut on tho priees paid for intermediate products 2nd c:-·pi té!.l goodsc Tic-in .:--.rr:-·nge- monts rcsulting from contractual torms é'nd/or techniccl roquin::ments and/or ovmership tics 1 h~·vo propertios which make the market priee system a poor mcchanism to distributo benofits whilo protecting the interosts of doveloping countriosc

Ile ~~rkots whoro priees are sottlod through barg2ining₁ likc tho lr·bor m<'rkot ₁ have gener<'.lly devolopcd Gxplici t insti tutional mGtlwc1f:

t'nd rulos which nGgotiations arc settlodc Such mothods. onablc the. ).-~.r­

ticipating parties to protect thcir intorosts by tho propcr dGfinitiJn of the nogotiable elements ₁ maximum positions of barg<.ining ₁ idontifi- cation of areas whore the othor p2rty is most or lo2st likoly to "give- in" etc. Industrializocl countrios ₁ both boc.:mso of tho sophisticc.tion and sizo of thoir c-Jmpé'nios ₁ <::.nd bocauso of tho existence of specialized govornment cgc.ncies (cf c LITI 2.nd JETRO in Jc..pc.n) h."vo cmablod tho ir tochnolJgy buyors to nogotiato with considorablo knowl~dge 2.nd intelli- gence c Doveloping countries, hoT,>rovcr, in spi tc of boing highly depen- dent upon foreign tochnology, have not yot shown an a1f,raronoss of the cri ticr.l probloms involvodc

IDEP/REPRODUCTION/283 Page

7•

To start with a lnrge pert of foreign know-how is introduced

through the establishment of foreign ownod companics. Such subsidiariea lc..ck ovon a minimum nogotiating position since thoir interests are, presume bly, id.ont ified \vi th thoso of the ir parent corporatio:n and not 1.vi th thG host country. (For cxample, i t is not uncommon to cmcounter c.:-;sos v-rher0 P foreign wholly-owned subsidiary has ce>.pi talized in i ts books t echnol.:;gy th.::.t originded from tho pc•r ont corporation. As a result it could be

( <:. )

paying roy~Ùios, (b) roducing its té'x payments tbrough depreciation "chc.rgos" of intangible <'ssots, ( c) h<-'ving lov-rer

tax coefficients in countrics Nhcro tcxnblo profits aro r eb.tod to

"invcstod" co.pi tal r!nd ( d) clé'irning highcr cr:pi tDl repntriations in countrios vri th oxchrngo controls, c.ll for tho s2.mo know-hoN·· Clenrly a foreign ownod subsidiary docs not nood to capitalizc technology sincc 100f:O of its c2pit2l is r'lrcndy owncd by its pe.ront).

Institution[·l mochanisms nnd procedures to h2ndlc êdoquate brr- gaining of foreign tcchnology purchr~ses are lncking not only in cases of pr:rcnt-subsidi2ry situati~ns, or with respect to the propcr difini- t ion of implicit costs that rosult from intcrmc;diato product ovcrpricing (c..n item which is usurlly loft out of the negotiatine procoss). Proce- dures are also inadequat e for tho cvrluction of even tho cxplicit , ncgot iable c;lcmonts in tcchnology purchasc such as royalty payments.

They arc usually nogoti['tod on the b.~sis of sales, rnd not with respect t o the ir.:.como genera ting affects of tcclmology, such as profits for firms and domostic vo.luo-c..ddcd for countrios. Js r rosult of this mis-sp,;cificction of the; "ocon,::mic affects"

o f

^{n particulr}r know-how purchaso one oncounters cases wlwrc r:;ynl ty pr.ymcnts, which cppe,:-r quito "rc;é'sonc:.blo" wi th respect to snlos, amount to "· mul ti plo of pro- fits or vc..luo nddod. (One rosult of th;; present system is thnt a country's payments on tochn8lJgy thnt originatcd from n.bro::-..d risc proportionatcly with its :t'ind product tnriffs).

IDEP/REPRODUCT'ION/283

Pc~gc 8o

'rho j_nacl-clqunoy of the present b.:.rgr:ining sYstem stems pnrtly from -:;_.,_c 1:-ck of any àdüquato spocii'icat ions of whct is rncnnt by technology j_rrqort:·ti:m. \rJhon ovnluating contracts in dovclopi!lg countrics one genorally oncountcrs tho tautological definition that tochnological purchasco :i mplics tho import['.,tion of know-hot,r. Tho issue arises cs to Khat, r·t lGm~t opor.ationally, is tho t ochnol'ogy t,hr,t a cm;mtry is importing for r~ givcn industry, or procoss or product. It is tcchnical c::.ssistanco 1-;hich is transmi tt cd through personnel, or a rr.anuc_l wi th production spccific2.tions, or a liconso of a pdent (which clcrriy is not t ochnology but tho legal permission to_ use t ochnology), or know- h0\'1' 2lroacly ombodied in intcrmedLate products cnd machincry, or fnctory Lyouts₁ or what? Each of thosc diffuront typos of t echnology impor- t2..tirm. hcs different potontir·l cltornctive sources of supply nnd hence different :•ltornr.tivc priccsj expresses different types nnd degrees of depcndonco bctwoon toclmology supplier and rccoivor; has attachod to it different typos of obligations 2nd rights for tho contracting po.rties, otco Tho typo of t ochnology nooded by dovcloping countrics in their present industrial stage is amply cvr.ilc..blc c-round the 1-1orld. Thercfo:re, tho brec•.kclov-m of whr·t is collcctivcly rofcrrcd to as tochnology impor- t,,.,tion e>..nd the exa::t spocificntion of cacH of its ports TrJOUld m<>ke it possible to transform Cè mcrkot t-rhich is ë.t present almost totally mono- polistic, into r. competitive one. Tho dogroo of this compotitivoness

l

will dopond on the o.mount of information n potentia 1 buyor h~ in tho pursuit of information purchasCJo

III. It is not surprising th:· t a ITiLl.rket t,r~1oso basic propcrtios hr:v'-' bccn loft so inc~doquntcly dcfincd is also chnractorizod by a tot" lly incppropriatc l ege 1 fr ;imcwork at loast as far as doveloping countril:1s c-ore concernedo Tho c·::mtractual torms by which t ochnology is boing sold to dovolopint?; coun-trios viola~o tho b.:::.sic principlos of é:.nti-monopoly or anti-~rust legislations through vrhich clovolopod conn- trios r:ttompt to protoct the intorcsts of their national economies.

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IDEP/REPRODUC'riOH/283 P<-go

9·

For ex.-mple, n. clnuse which is most common in t()chnology s.~ los is thr•t of export prohibi tian. In the o.lready roferrod to scimple of natio:1<:.lly owncd firms c-.nd joint vent};l.J:'eS in tho Colombien chomical, toxtilo r.md.

ph..1.rmucouticol soctors, 85j~ of tho contra.cts studicd expli.ci tly prohi- bi tod cxports of products manufé'ctur--:d 1<Ji th the uso of ifl,portod t<:;c.;h~.1·J·-

logy. Plso 33 out of 35 contracts thn.t wcre c:mccrn(jd Hitl1 m2king i:r:.f.Jr- mdïon available, oxplicitly requirod tho purcho.se of intermodittc pro- ducts from tho techpology supplier. Similar cln.uscs oxist for tho pur-

. l '

chase of capital goods, hiring of k~y personnel, lovcl ond structure of production, priee fixing for so..lo or rcselo of goods etc. Log;:.l nnd administrativol pro.ceduros have beon set up in dovoloped countrL)s t o rogulnto such pr~ticcs. Tho baJic legislation that cxists in dcvcloping countries t-~i th respect to tho impo..ct 2-nd ramificr~tions of tochnology importo..tion is mostly. related to the limits imposod on the business prr:.c- ticcs of thoir own nc-.tioné"'.ls r~nd not thoso of tho sollers of t ochnology.

For ox2mple, logis ln. tion on teclmology imjJOrtat ion in dcvel )ping c1untricc is mostly idontifiod with industrid proporty lccisldion such r s p.-tcnt laws. No rolovo..nt economie <ma.lysis is boing :pu;reuGd as to whether

pntcnts really proto ct tho intorcsts of tho "non-industrializcd" countries, while logrl systems arc transplnntod from dcwulopcd nations (,>Jhoso nocds r-nd intcrosts arc totrlly different.2

1 Exnmplcs of lege l procedures arc Soct ion 1 of tho She;rncn !:ct , Section 3 of the Clr'yton Act, crticlo 85 (1) of the Romo 'I'rcr:ty, rrticlo 37 of tho Priee Ord:::nanco of J?rn.nce, the Economie Competition Act of

J958,

Nothorlrnds, etc.; of adr:~inistmtive procedures: US Inter- nal Revenue Service, Code 492.

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2 " ••• Provisions (of the:: modern intorndioné'l patent system), it is ovidont, have al t crod the c~)tnploxion of tho pr-t ont grént from one dcsignGd primn.rily to stimula. to domostic industry to one in v-rhich the foreign p.<'t ontoo hr·s ['n incror:scd chenee cf producing whcrc ho chooses r•nd rotaining his pnt;:mt monopoly" United States Govornment, Committoo of the; Judiciary,

u. s.

Scnntc, 85th Congross, 1st Session, study on "Tho Intornc:,tiom l Patont System ;:::.nd Foreign Policy", i,Jcshin- ton,

1957,

^P• 3.

IDEP/REPRODUCTION/283 ' Page 10.

Concluding Countries

..

ros ource nlloca. t ion on cduœ,t ion, defense, spacc pro&'rt·ms, pu'01ic hoal th, ote·. ·~n the basis of the m2tkct-pricc system. The particulnr chFrEctcristics of t'ho ¹¹1Ilérkcts" .in thuse a,r . .,;e.s

1

ar'ë 'quito distinc·t .. · om the propcrtios and ;ilïJego \-tc _i'nheritod

".çconomic itborialis.fit"

a.ttcmptad' to introdÙcc

.of tho prcvious ocntury.· Nnti,)ns hêV'~

.

. . ... . .,.·. ord.er to a.lloc<:•tc rcso

d,.:ï.r::tributc bonofit.s •

. ""' .

pric.e mech<:mism tot'ally in['

. '·interosts of

the

roce1v~ng ^{.nn ....} n.-r. .... •c.

countries to t a ke

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