The Draft IPR Enforcement Directive — A Threat to Competition and to Liberty

Ross Anderson

Political Summary

The EU's draft Directive on the enforcement of intellectual property rights sets out to make it dramatically easier to enforce copyrights, patents, and trademarks in Europe, and to punish people who tamper with technical mechanisms designed to prevent copying or counterfeiting. The directive has been welcomed by the music and film industries. But it divides the computer industry - Microsoft is for, while Sun is against - and the telecomms industry is strongly opposed. Supermarkets also stand to lose. Resistance is building, for example in the European press. Online liberties are also at risk, as well as commercial interests.

The law on `intellectual property' - copyrights, patents and trademarks - has always been a difficult balance between protecting incumbent companies and fostering competition. The Directive seeks to shift the balance strongly in favour of the incumbents and against competitors. This will create winners and losers. The winners will mostly be large companies, such as Microsoft and Disney; the losers will include some large companies (such as phone companies) but also a lot of small firms and civil society interests.

The main problem areas, as we now understand them, are as follows.

• The Internet, and communications firms generally: Phone companies and ISPs are starting to get a lot of court orders, especially in America, ordering them to disclose customer names, block content or do surveillance. The orders now mostly come from the music industry trying to intimidate people who swap songs online, though the pornographers are also getting into the act. This makes life very hard for phone companies. The Directive will make the business environment in Europe very hostile to phone companies and ISPs; they will be liable to all sorts of legal harassment, including equipment seizures, limitless injunctions and damages calculated on a different standard from today. It will undermine the deal done in the E-commerce directive which limited the liability of common carriers. It will thus undermine the adoption of information society services in Europe.
• The Single Market: the European Union was set up to create a free-trade area, yet its draft Directive will undermine that. Within a few years, products such as clothes will all contain radio-frequency identification (RFID) tags, which will be used as market control devices. Think of them as like DVD region coding, only for blue jeans. Unfortunately the Directive will give them special legal status: any grey importer who tampers with RFID devices will be committing a criminal offence. At present, market control centers on trade-mark law and distribution contracts; the EU has largely managed to hammer down the trade barriers (but not entirely). RFID plus the draft Enforcement Directive will set back the cause of free trade by twenty years. It will enable brand owners to undermine the Single Market and challenge the principal economic benefit of the European Union.
• Software competition: at present, the EU Software Directive permits EU companies to reverse engineer their competitors' products in order to produce compatible, competing products. This is a historic compromise, worked out 17 years ago to promote enterprise and competition while still respecting the rights of incumbents. The Enforcement Directive will fatally undermine it. This will make it much harder for new, innovative companies to challenge existing software companies (such as Microsoft). The draft Directive will be particularly bad news for small to medium sized enterprises. For example, many EU companies in the computer gaming business survive by selling software and accessories independently of the console vendors. The Directive will make it much harder for them to escape paying royalties to Sony. In the motor industry, it will make life harder for traders who move cars and motorbikes to higher-price markets such as the UK, and for third-party manufacturers of spare parts.
• Universities, libraries and the disabled: these groups will be hit by the restriction of `fair use' and `fair dealing' rights under copyright law. In future, publishers of electronic books will be able to use technical mechanisms to suppress the right to make copies for private study, or to use devices such as book readers that render published matter into formats accessible to the blind. Also, European universities will be immediately subject to the intense legal harrassment which the record industry has inflicted on some US universities over students swapping songs. If universities are held liable for the content that passes over their networks, then they will have to start policing this content - which will be profoundly contrary to academic values. Finally, the Directive does not contain any exemption for research; it may become illegal to possess a laser, as a laser can be used to forge a hologram
• Culture: there are many others who will lose out; for example, under the proposed directive, EU Member States will have to criminalise street music - except for musicians who limit themselves to their own compositions, or to the works of composers who have been dead for at least 70 years. This may improve the quality of the music on offer on the London Underground, but is hardly compatible with most people's idea of a free society.
• Privacy: probably the strongest of the factors undermining privacy, both online and offline, is the increasing importance of price discrimination - see the paper on this subject by Andrew Odlyzko. By giving strong legal protection to price discrimination technology, the Directive will increase both the incentives and the opportunities for companies to price discriminate in ways likely to be privacy-invasive.
• Justice: by insisting that Member States make things easier for plaintiffs in copyright and trademark cases, the Directive will distort the system of justice itself. Why should we make it specially easy for McDonalds to sue businessmen in Scotland for being called McDonald or even having the prefix `Mc' in their names, when someone suing McDonalds for compensation after their child dies of food poisoning has to jump traditional hurdles? Introducing special procedural privileges for certain classes of litigant is a drastic step, for which no intellectual justification has been offered.

The draft Directive is a result of pressure brought by Hollywood and the music industry to crack down on music copying, and by luxury brand owners such as Yves Saint Laurent to crack down on counterfeiting. However, it is now apparent that the main result will not be a reduction in music copying, so much as a reduction in competition and in traditional usage rights. There will be significant adverse effects on economic growth and innovation; the European Single Market will be undermined; and liberty will suffer in many ways.

So far, the IP lobby has had things all their own way. There are several reasons for this. First, they have succeeded in portraying the issue as simply one of suppressing `piracy', to which it is hard to object. Second, IP law is complex and abstruse. Third, the winners are a small number of large organisations (AOLTimeWarner, Bertelsmann, Microsoft, Sony, Honda, Yves Saint Laurent...) who have been able to coordinate their activities and lobby internationally, while the losers have been more diverse. As the famous economist Vilfredo Pareto (1848-1923) noted:

"If a certain measure A is the cause of a loss of one franc to each of a thousand persons, and of a thousand franc gain to one individual, the latter will expend a great deal of energy, whereas the former will resist weakly; and it is likely that, in the end, the person who is attempting to secure the thousand francs via A will be successful."

However, the breadth and the depth of the damage threatened by the new directive makes it likely that there will be a strong political backlash against this measure. The people who will be harmed by it are very diverse and are not yet coordinated, but many will suffer appreciable harm and some will be put out of business.

Technical Details

The directive proposes that almost all the enforcement measures available to IP owners in any member state must be available in all of them, and that the application of the criminal law to IP enforcement be made very much broader.

Copyright: At present, copyright infringement is treated by most Member States as a civil matter in general, and as a criminal offence only when practised on a large scale. The Directive would compel every member state to criminalise all violations of intellectual property that are deliberate and conducted in the course of a business. The implications for business are subtle but profoundly worrying. Intellectual property law has come to be used to back up technical mechanisms to tie products, enforce price discrimination, and control aftermarkets. Many of these are intrinsically objectionable on competition or consumer policy grounds, but copyright or trade-mark arguments are used to trump other concerns.

Games console makers such as Sony and Microsoft use technical mechanisms to prevent third parties selling software and accessories unless they pay royalties. The idea is to extend a dominant position from one market to another using technical mechanisms such as authentication chips that recognise a `genuine' part. At present, the law on this is unclear. The EU Software Directive allows reverse engineering for compatibility, while the EU Copyright Directive gives legal protection to any mechanism that protects copyright (even if it was primarily designed for another purpose, such as aftermarket control, and its copyright protection function is there only to avail of the legal protection). Whether the Software Directive will prevail, leading to open markets and free competition, or the Copyright Directive, leading to closed markets and higher prices, appears to be a matter for national implementation of the Copyright Directive.

Printer cartridges provide another example. Many of them now come with chips that authenticate them to the printer, a practice that started in 1996 with the Xerox N24. Printers may refuse to work with third-party or refilled cartridges, or even with genuine cartridges that have passed an expiry date. Cartridge tying is now leading to trade conflict between the USA and Europe. In the USA, a court has granted the printer maker Lexmark an injunction preventing the sale of cartridges with chips that interoperate with Lexmark's printers. Meanwhile, the European Commission has adopted a Directive on waste electrical and electronic equipment which will force Member States to outlaw, by the end of 2007, the circumvention of EU recycling rules by companies who design products with chips to ensure that they cannot be recycled.

Product tying is related to the `trusted computing', of which there is an economic analysis here. There is some complexity here: if the mechanisms for protecting software and non-software are distinct, then the Software Directive should prevail in the first case. Unsurprisingly, both Sony and Microsoft have chosen uniform technical mechanisms to protect both software and non-software, so that these mechanisms can get the protection mandated for non-software and extend it to software too. Vendors of other electronic goods can be expected to follow.

Trademarks provide many further issues. Manufacturers in a number of industries (from motorcycles through clothes and spectacle frames to supermarket goods) have used trade mark law against parallel importers. The law here is complex and unsettled, but contains many precedents and provisions that can be used to defend monopolies and interfere with free trade. Thus parallel importers are often caught up in complex litigation with brand owners who seek to push up prices and control markets.

Even the `normal' trademark disputes that arise in business will now become absolutely explosive. An example is the case between Renault and Audi when Renault introduced the `Quadra' and got sued by Audi on the grounds that this model name was too similar to its `Quattro'. Audi won (1993). If the directive had been in force then, it would not just have involved some damages and a rebranding exercise: Audi could have forced Renault to withdraw all the vehicles sold in the meantime, then disposed of them by passing them to a charitable organisation or scrapping them, got compensation of Renault's profits plus double licence fees, etc. This is surely excessive.

The Communications Industry: There are also nasty implications for phone companies and ISPs. In America, the music industry uses the Digital Millennium Copyright Act to harass individuals who swap music. This involves getting subpoenas against phone companies to identify customers using particular IP addresses. Phone companies and ISPs are having to disclose personal information that identifies children as young as ten, whose parents then get threatened with drastic penalties. Pornographers are also getting in the act, and hounding people who swap dirty pictures. The whole business is getting extremely unpleasant, and forcing up the Internet industry's costs.

A deal on these liability issues was worked out in Europe in 2000 via the E-commerce directive, but the new draft Directive will undermine this. It is likely to operate as a `Euro-DMCA' to strip away the phone companies' and ISPs' common-carrier status. The economic and policy effects could be severe.

RFID (radio-frequency ID) tags are devices smaller than grains of rice that can be fitted on goods such as clothes and which will, when interrogated electronically, return a 128-bit unique number. You can think of them as bar codes that identify individual objects rather than merely product ranges, and that can be read from a foot or two away. Walmart has ordered its suppliers to fit them, so we're going to get them in everything we buy for more than a few pounds, within a couple of years, like it or not.

RFIDs will be useful in detecting and preventing counterfeit goods, so they will be covered by the Directive. Article 21 will compel Member States to make it an offence to make, import, distribute or use equipment that interferes with them.

We expect that RFIDs will be used to create market barriers within the EU. There are many ways of doing this technically. For example, if Bayer wants a non-quota method of stopping pharmacists sending Adalat from Spain to the UK, it simply doesn't respond to Boots the chemist when a `Spanish' carton of the drug passes through the UK supply chain and Boots wants to know what it is. (It's assumed that the high-order bits of RFID will amount to a manufacturer or product code, and the individual item identification will be the low-order bits, and kept on a database under the manufacturer's control.) At best, Boots will get no more functionality out of RFID than out of barcodes in respect of those items on which Bayer refuses to cooperate. At worst, the systems won't work at all. In the middle, Bayer gets masses of intelligence about parallel importing and can target its existing supply-chain control measures more effectively.

Lawyers describe the new virtual IP rights that arise from legal protection of technical mechanisms as paracopyright. It is wide open to abuse, as it's new and the legal system has not had time to digest its consequences. For example, we have an EU doctrine of first sale exhaustion of trade-mark rights; we may well need a similar doctrine of first-sale exhaustion of paracopyright.

Effects of harsher enforcement: In these turbulent waters, the Commission has launched a draft Directive that will criminalise all acts of intellectual property infringement that are carried out deliberately in the course of a business, rather than just serious cases as at present. It will also make generally available some intimidatory techniques that until now have existed only in some jurisdictions - such as the UK's Anton Piller and Mareva orders, which respectively allow searches and the freezing of bank accounts in civil cases, and a Dutch provision that an infringer can be compelled to recall goods from the market at his own expense. In the UK, where they were invented, Anton Piller orders turned out to be dangerous instruments and open to abuse; as a result, many safeguards have been developed in the UK since its introduction in 1976. The Directive does not compel Member States to enact these safeguards and it is predictable that many will not.

The likely outcome is that IP owners will be able to bully their competitors much more effectively than before. For example, even before a substantive hearing takes place, a games accessory maker being pursued by Sony for making compatible memory cartridges could be liable to have their stock seized as evidence (article 8) and be forced to hand over all their correspondence with their suppliers (article 9). Article 10 might override the normal test of balance of convenience in granting injunctions, that restrains the courts somewhat in normal cases. Sony might also be able to freeze the company's bank accounts (article 11) and compel it to recall its goods (article 12). The criminal law might be brought to bear, and the company or its directors face criminal penalties (article 20). Finally, the equipment used to manufacture the cartridges could be banned as an illegal technical device (article 21).

The law will thus empower companies like Sony and Microsoft at the expense of other players in the industry; it will make it much more risky for supermarkets, pharmacies and car dealers to get low-cost supplies through parallel import channels; and where the relevant IP rules turn on national interpretations of the EU Copyright Directive, the effects of enforcement will vary wildly between one jurisdiction and another. Indeed, the Commission's attempts to harmonise intellectual property law and enforcement in order to facilitate the Single Market may well fragment the market - and promote a trade dispute with the USA.

Effects on liberty: The proposed Directive will also undermine basic liberties in ways that will offend many influential groups in society, from academics and librarians through disabled people to musicians. At present, a busker who plays `Mr Tambourine Man' in a subway station should in theory send CBS Records a cheque for a few cents for the performance royalties. At present, CBS sensibly do not bother to pursue buskers for tiny royalties; but in future, this activity must be criminalised. Draconian enforcement will have a chilling effect on large numbers of musicians, ranging from amateur bands who play pubs for small fees through to `appropriation artists' whose art consists of sampling and reworking existing tunes.

At present, Member States have a long list of `fair use' or `fair dealing' exceptions to copyright. For example, it is generally permitted for people to make copies of printed works for private study, and the prices charged to libraries by journal publishers reflect this. (Economic studies have shown that the invention of the photocopier actually helped journal publishers; journal prices to libraries rose significantly, because journals become more useful once articles could be photocopied.) It is also generally permitted to use excepts from copyright works for satire. Most Member States currently allow the disabled to break copy protection mechanisms to get access; thus blind people circumvent copy-protection so that their screen-scrapers can read electronic books out loud to them, even if the designer of the e-book software did not intend this.

Unfortunately, the implementation of the EU Copyright Directive in many countries has diminished fair use rights. In the UK, for example, the proposed EUCD implementation does not allow the blind to break copy-protection mechanisms, and it will therefore become a criminal offence to supply them with effective book readers. The UK government claims that it will support a private member's bill to tackle this particular problem, but we find this quite inadequate. By comparison, the EUCD implementation in Spain proposes fines of Eu 6000 per day for system vendors whose technical protection mechanisms interfere with the exercise of established fair-use rights.

Effects on free software: There are likely victims who cross the boundary between the industrial and the cultural victims. The most obvious of these is the free software community. The main reason that Microsoft is not completely dominant in the operating systems market is the competition from free operating systems such as BSD and GNU/linux that are maintained by armies of volunteers. These groups do not really have the resources to defend against large civil suits; a recent action against Linux by SCO is causing some concern. Until now, Microsoft has forborne to use its own patent portfolio against its free competitors, but this may change. Tilting the playing field by introducing the threat of criminal penalties will make life significantly harder for the free software community in the long term. Many of the developers and maintainers are university graduate students who treat their work as a training exercise; however, universities are more risk-averse than commercial ISPs when faced with the threat of copyright lawsuits (even vexatious threats). The elimination of free software would have serious effects for commercial software based on it (such as Apple's OS/X) and would likely result in significant price rises. It would also threaten large European public investments in software based on free platforms.

Legal issues: The Directive will compel Member States to make it easier to sue for copyright infringement than for breach of contract or for personal injury. This is neither just nor wise. The proponents of the directive tell various horror stories: Microsoft, for example, found a factory near Cambridge in England that was counterfeiting many of the copies of Office that were sold in the German market. They were unable to get the Cambridgeshire constabulary to take any action, and the UK customs were not interested either. It was only when they followed a lorryload of counterfeit software to Germany that they were able to get German customs to impound it. But monkeying around with Member States' legal systems doesn't solve this problem: software counterfeiting on a commercial scale is already a crime in England. If the Chief Constable of Cambridgeshire decides to focus his resources on crimes of violence against the person, that's his right; he is accountable to his local police committee, not to Bill Gates. For the European Parliament to interfere with this is probably unconstitutional: the proposed measures not only fail the test of proportionality, but also the test of subsidiarity. It would create a lot of dislocation without any real prospect of achieving what Microsoft says it wants; and it would interfere in matters that are properly the domain of national or local governments.

What the EU can lawfully do is harmonise patent law, and this is underway. A recent Council agreement provides for the establishment of a Community Patent Judiciary by 2010. This carefully observes the principles of proportionality and subsidiarity, and contains a number of sensible safeguards. For example, proceedings should be heard in the language of the state where the defendant is domiciled; there are fair use exemptions for research and for private, non-commercial use; there is a doctrine of community exhaustion; only the proprietor can bring an action for infringement; the prescribed penalties are limited, and must follow a finding of infringement. The draft Enforcement Directive is wildly inconsistent with this proposal; comparing the two brings out sharply how excessive the Enforcement Directive is by the usual standards of European legislation.

Action: The Commission accepts that the draft is defective in many respects and will need extensive rewriting. The definitions in particular will need much work, as they diverge in the English, French and German versions and are not consistent with the rest of IP law in Europe. But it is unlikely that the Commission will agree to drop the whole thing, at least right now, as they have been working on it for three years since an earlier working document. However, our sources close to the negotiations assure us that there is everything to play for. Many Member States have expressed disquiet about the proposals and many players want to draw their teeth.

The draft Directive will need extensive amendment, or perhaps a complete redrafting.

See also the analysis by Gwen Hinze of the EFF. Ross Anderson's Economics and Security Resource Page gives a lot of background to the issues raised here; he has also written an economic analysis of Trusted Computing.