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Mr. RADER. Our next and concluding witness today will be Dr. Marthinsen who is a professor of economics at Babson College in Wellesley, Mass. Dr. Marthinsen received his Ph. D. from the University of Connecticut in 1974 and has since been at Babson College. He has done extensive research on international technology transfer and the effects of the Freedom of Information Act on productivity and research. Along with William Casey and Lawrence Moss, he is presently preparing a book on the economics of protection of propriety information under the Freedom of Information Act.
He is here today to give us a little advance evidence concerning the findings of that research. I believe you have brought Dr. Casey
STATEMENT OF JOHN MARTHINSEN, PROFESSOR OF ECONOM.
ICS, BABSON COLLEGE, WELLESLEY, MASS., ACCOMPANIED BY DR. WILLIAM CASEY, CHAIRMAN, ECONOMICS DIVISION
Dr. MARTHINSEN. I would like to mention before I start that with me is Dr. William Casey, a coresearcher and the chairman of Babson College's Economics Division. Dr. Lawrence Moss, the other member of our research team, extends his regrets to this committee that he could not be here for the presentation of this report.
We appreciate the invitation of this subcommittee to speak with you today regarding our research on the impact the Freedom of Information Act may have had upon research, innovation, and productivity in the United States. To my knowledge, our research is the first significant analysis of FOIA as it relates to U.S. entrepreneurship and innovation. I will refer the subcommittee to my written submission for much of the background information, but I would like to review some of the salient features of our research findings and the direction of our current research.
Our investigation of FOIA follows other studies that we have done in the areas of information flows, technology transfers, and the protection of proprietary information. We began our FOIA study in the spring of 1980 with funding from the Babson College Board of Research and without funding from any outside source. The work culminated in a paper that we presented to the Eastern Economic Association in April 1981.
Our major finding is that FOIA, while contributing to the worthy goal of a more open Government, has unintentionally violated the principle of property rights, one of the cornerstones of our economic system. Both the perceptions of the businesses we interviewed and the volume of FOIA requests to Government agencies by thirdparty intermediaries provide convincing evidence that there is something of value being accessed through Government files.
Congress and the courts have not been blind to these realities. Attempts have been made to identify those types of business information which if released by the Government would produce competitive harm. In effect, attempts have been made to draw a line of demarcation between those types of information which may be disseminated freely without harming the submitter and other types which should be protected.
It is our contention that the line is drawn improperly. Our research has led to the identification of a special body of knowledge that is vital to the exercise of entrepreneurship but which has been generally overlooked by the legal, congressional, and administrative interpretations of exemption B(4). This body of information has consistently been ignored by social scientists, as well. We call this information “circumstantially relevant business information," or CRBI for short.
CRBI is not the sort of information that would appear in an engineering text or constitute a patentable invention. According to current legal terminology, it would come under the heading of “trade secret" or "know-how." Yet in most cases, it is not a technical formula or secret process. It is not the type of information that would be deemed important by a scientist, engineer, or technician, and it would probably go unnoticed by the media and casual observer. Rather, CRBI is knowledge of a particular time and place." The existence of this information is important to the subcommittee because its disclosure tends to erode competitive advantage and therefore to discourage entrepreneurial activity.
CRBI consists of knowledge of where bargains can be found, knowledge of whom to contact in large organizations, knowledge of the cheapest mode of transportation, knowledge of unsatisfied demands and the means of satisfying them, knowledge of the true risks as compared to the perceived risks of an innovation; it is knowledge of how to design a laboratory test on a new class of compounds. It includes knowledge of where resources are believed to be undervalued and where resources are believed to be overvalued. This knowledge, while innocuous and mundane to Federal executives, may be of immense importance to competitors of information submitters. This information may not be “the product of human design," and often people stumble upon it much like scientists stumble upon research results. Frequently, it is fragmented in its economic value and difficult to assess. The loss of any one piece of this information may not cause significant and statistically quantifiable harm to society or perhaps this firm. Yet this information is essential to the impersonal decisionmaking processes of a free society. It is a means by which a nation can continuously and incrementally devote resources to ventures of varying risks and returns without overcommitting resources to any one venture. It is a trial and error process which
gives the direction and broad-based foundation for the application of scientific discoveries.
The dynamics of our economy may be viewed as a multitude of opportunities which are opened and closed with passing events. The key to success is not only the availability of opportunities but in the identification and seizing of these opportunities by entrepreneurs. The largest rewards are sometimes returns to the simplest insights, but insights which are self-evident only in the light of the new perspective created by the innovator. The gains from these opportunities are uncertain at the time the decision to innovate is made, and if they materialize, they will be transitory. Their exploitation requires a lag between commercialization of the invention and imitation by others. This lag offers the innovator a period of time over which to derive a return on his ventures.
FOIA may threaten the discovery and exploitation of this "knowledge of a particular time and place" by reducing the time lag between innovation and imitation. Dramatic proof of competitive harm cannot easily be demonstrated as is now required after the National Parks case, since the loss has to do with an opportunity not taken, and decisions not undertaken cannot easily be documented. Yet ignoring the value of this information is to ignore the very incentives which give rise to new entrepreneurial ventures and the continued growth of productivity in the American economy.
Traditional economics over the last two decades has been concerned with the allocation of fixed resources to their most highly valued uses. Unfortunately, it has paid insufficient attention to the dynamic processes of innovation and entrepreneurship that lead to the discovery and creation of new resources. It is not enough to assume that the economic problem begins with given supplies of resources that have to be distributed. Rather, the problem is how to encourage individuals to develop precisely the information that will prove valuable later on. It is a supply side incentive, the purpose of which is to encourage others to grasp this knowledge of particular situations and utilize it.
We decided to see if we could find evidence of the negative impact of FOIA on the pharmaceutical industry in the United States. It is one of the most heavily regulated industries in the United States, and the FDA is one of the most heavily used agencies for FOIA requests.
Our preliminary findings are as follows. First, there is a wide gap between the perceptions of the pharmaceutical industry in regards to FOIA and the perceptions of Government agency representatives. We found the pharmaceutical industry to be philosophically opposed to the provisions within FOIA that allow for the release of information that would otherwise not be disclosed. The perceptions of our business interviewees were that the FOIA has produced more information leakages than have actually occurred and that agency officials have been less consistent in implementing the legislation than the record seems to indicate. Our view is that these perceptions are important. It is upon these perceptions that decisions to innovate are made. If there is a communication gap between businesses and Government agencies, it ought to be bridged.
An increasing portion of our gross national product is being devoted to the dissemination of information through FOIA and to business efforts to protect such information which has been made more vulnerable by this same statute. In the end, we must question whether these resources could not be better spent elsewhere.
Our second conclusion is that Federal regulations in general and FOIA in particular may be altering the product life cycle of the pharmaceutical industry to the disadvantage of the United States. The product life cycle model explains that comparative cost advantages in high technology areas are transitory. A product developed in the United States will soon find foreign imitators and may eventually lose its foreign and domestic market position as this new technology is disseminated and production shifts to lower cost countries. New innovations depend on an information diffusion lag in order to cover investment costs. Presumably, a reduction in this lag would reduce the level of investment, reduce U.S. exports and thereby reduce the international value of the dollar.
We suggest that the sequence of the product life cycle might be changing in such a way that innovations discovered by U.S. companies are produced and sold abroad before they are produced and sold in the United States. It is our position that the U.S. Freedom of Information Act and the absence of similar legislation overseas explains in part this abnormal product life cycle pattern for the U.S. pharmaceutical industry.
Initially, U.S. drugs are researched, developed, and marketed overseas because of less stringent testing requirements and because of the greater likelihood of maintaining trade secrets in the absence of FOIA type legislation. Early importation into the United States is discouraged because this may require increased FDA dictated testing, which, in turn, would mean additional data submissions to that agency, thereby promoting the possibility of information leakages through FOIÀ. Importation into the United States would be delayed until the product has been fully developed and market tested. Only then would the innovating firm risk potential FOIA disclosures because its significant market lead over potential rivals at this point would guarantee an adequate investment return on R. & D. expenditures.
In summary, the unauthorized disclosure of proprietary information causes a restructuring of business risks and returns. As a result, these new incentives and disincentives are likely to lead to unintended and/or undesirable results. It is our hope that a broader view will be taken by Congress in interpreting the information that should fall under exemption B(4).
That concludes our prepared statement. I offer the written statement for your hearing record. Prof. William Casey and I would be pleased to answer any questions you may have.
Mr. RADER. Thank you very much, Dr. Marthinsen.
Dr. CASEY. At this point, I would be happy to respond to any questions that may be directed my way.
Mr. RADER. Thank you. That was a very thorough and thoughtful statement.
Many of the debates about the B(4) exemption will undoubtedly concern the substantive standard to be used in excluding information. Particularly at this point, the standard used is a substantial competitive harm test for confidential treatment of business information.
You said that the standard used in your study was one of circumstantially relevant business information. In what way would your new standard play a role in an economically sound interpretation of the Freedom of Information Act?
Mr. MARTHINSEN. If I might respond to that, the acknowledg. ment of circumstantially relevant business information would broaden the class of information that is now included under the B(4) exemption.
As it stands, the National Parks test requires what we feel is dramatic proof of competitive harm. To the extent that information might be circumstantially relevant to entrepreneurial activity, it is not information that would lead to this type of dramatic proof. However, we feel it is very important to innovation incentives. In our opinion, documented evidence, that is to say, flashing evidence may not be available. The information we are talking about, as I mentioned in the testimony, is very difficult to put tangible borders around. It is information oftentimes in bits and pieces. Its loss is in terms of foregone opportunities:
We heard today that some commentators are addressing the question of mismanagement by the Government agencies. In our research and in our interviews, we found that Government agency representatives were very concerned about the disclosure of proprietary information. We feel that mismanagement may not be the problem. Rather it may be an information identification problem.
Moreover, attempts to categorically define information that should be withheld and should not be withheld may be beside the point. A piece of information may be more important to one firm in one industry than it is to another firm in another industry. In addition, as was mentioned by Professor Stevenson, a piece of information may lose its relevance over time. I might also add that information might gain importance over time. It depends on where that particular firm is in its own life cycle. As it matures, information could gain or lose relevance.
Mr. RADER. Thank you.
Dr. CASEY. I would like to reinforce one point. In our research, we were convinced that this problem is not a byproduct of Agency mismanagement. We believe that the Agency personnel who staff FOIA offices are relatively conscientious in protecting technical trade secrets, but we also believe this is the tip of the iceberg.
One recommendation is that B(4) be expanded to include other types of information which, if released, will produce competitive harm and discourage innovation.
Mr. RADER. The subcommittee was interested to note that in June of 1981, the Environmental Protection Agency received a request from Suzuki Motors for a disclosure of information filed with the agency by Toyota. In the course of your research, did you study the foreign use of the U.S. law to obtain information which is not available in foreign countries? Here in this situation, we have two foreign companies, evidently competitors, requesting information on each other via a U.S. act. Is it sound for the United States to allow such uses of its statutes?
Mr. MARTHINSEN. Our research has shown that the Freedom of Information Act is being used extensively by foreigners. There are a number of issues that arise when you talk about the use of this information by multinational enterprises. The specific part of this question that we address is the loss of information by U.S. companies to foreigners. In that sense, the loss of information to foreign competitors will reduce the imitation lag period, the period of time over which the United States would recoup its investment. Firms rely on this imitation lag period to recover the immense expenditures in research and development and to earn a return on their investment.
However, there are more issues here than just the loss of U.S. information to foreign competitors. As you mentioned in your question, it is possible, through the Freedom of Information Act, for a foreign company to spy on another foreign company. We have not addressed this issue in our research. I think that there are questions involved here beyond which we care to reserve comment or judgment.