Extortioners coerce payments by threatening loss or violence. When I was in high-school in Queens, New York, the younger students were shaken down each day by Gino and his two friends. We had to cough up lunch money or be beaten. My friend, Robert, complained to his home-room teacher who confronted the small gang. Gino broke the teacher’s arm. After that, the school administration put a system of hall monitors in place. The hall monitors got to skip a class in return for their work. Gino and his gang were the monitors.
Extortion and protection are always closely related because the physical or political power to protect is, at the same time, the power to coerce, and vice versa. As people have learned over and over again through the millennia, the governments, armies, and police that are created to protect also have the power to extract payments and force behavior.
After the Soviet Union collapsed, organized crime came out of the shadows and took center stage. Old smuggling routes became “supply chains” and vast tracts of previously state-owned oil, gas, and minerals were simply grabbed. At the same time, thousands of men, trained in violence by the KGB and the military, became unemployed. Some of these joined criminal organizations, and some formed the new wave of protection companies receiving fees to hold criminal gangs at bay and physically protect senior executives. As criminal activity skyrocketed in the early 1990s, protection organizations also grew in number. Roughly one-half of the CEOs of private protection firms came from the KGB, the MVD (state police) and the GRU (military intelligence).1
Many private protection companies were also closely connected with criminal groups. Adris, for example provided protection to the Baskin & Robins ice-cream chain while being directed by the malyshevskaya gang. Such groups engaged in an odd form of unplanned mutual support, each using violence to promote the demand for the others’ services.
Vladimir Putin, no novice at the use of force, has made the control of organized crime a key priority of his administration. He has made great strides at breaking the oligarchs’ hold on key industries—oil, gas, telecommunications, and weapons. If Putin is successful, the Russian state will garner some of the profits from these vast enterprises. Still, the roots of organized crime in Russia pre-date the 1917 revolution and Putin will not totally erase them. In fact, having a certain amount of organized crime helps the central government maintain order. Stay in Putin’s favor and the state has the muscle to protect you and your interests. Fall out of Putin’s favor, the state may suddenly be too weak to protect you from the still-active criminal organizations.
In the United States, organized crime is not a major threat outside of the drug trade. On the other hand, like the Russian gangs and protection companies, the legal industry supports a system of mutually supportive extortion and protection operations. As any experienced businessperson knows, most lawsuits are threats, designed to be settled rather than tried. Much legal innovation consists of inventing new ways to threaten organizations with loss. To defend against these threats, expensive attorneys must be retained. And, the more expensive the defense, the more effective the threat of suit.
The area in which this legal ecology of threat, payment, and investment in protection has reached huge proportions is in patenting. The United States Patent Office seems incapable of sorting out what is an obvious idea from one which is innovative. In particular, the fact that all information can be represented as binary data seems to elude the patent office. Thus, there are patents for selling music over the Internet, patents for selling books, patents for selling pictures, and so on. There are patents for turning on your television with an infrared clicker, patents for turning it on and off with a radio remote, patents for turning it on and off with a cell phone, and so on. All of this is quite obvious to anyone with an engineering degree. It is like having a patent on turning on your television with a wooden stick and having another patent for pushing the on button with a plastic stick. But, because it is electronics rather than sticks, this sort of variety gets called “innovation.” But it is not. You can turn on your TV with a garage door opener if you like and it only takes a little bit of engineering to open your garage door with a cell phone. Far from promoting innovation, the current avalanche of patents on variations on known themes dramatically increases the costs of any company operating in this realm.
In 1991, the Square D Company received a patent (No. 5,038,318) to cover the control of machines by a spreadsheet. The so-called “idea” was that one could somehow design a card to go into a computer that would control outside machines and that one could, somehow, create a software add-in to Lotus 1-2-3 that would communicate with this card. The patent shows box-and-arrow diagrams with boxes labeled “machine under control” connected by a black line to a box labeled “controls” which, in turn, is connected by a black line to a box labeled “add-in software.” This general idea covered everything—if you used a spreadsheet and control board to turn a sprinker system on and off or if you used it to control a machine tool. It didn’t say exactly how a spreadsheet could control a machine tool. Schneider Automation acquired the patent when it bought Square D. It never used the technology and sold the patent at auction to Solia Technologies in 2001.
Solaia did not intend to use the technology. Solaia was created to hold the patent and to sue other firms for violating it. Thus, it cannot be sued for misusing the patent because it does not use it. Chicago-based litigator Raymond Niro then sent a flurry of letters to manufacturing companies asking for payments. A few months later, Niro sued fifty companies. Many big firms like Boeing and BMW settled quickly, paying Solaia about $30 million, of which Niro got about $10 million. These companies paid without a fight because legal fights are expensive and the outcomes are uncertain. And, most importantly, because a court could issue an injunction blocking their business operations while the issue of the patent’s validity was litigated.
Rockwell Automating fought back, claiming that the patent was worthless old technology. After three years of suits and counter suits, a Chicago Federal court ruled that “there is no literal infringement” because Rockwell’s system was not the same as that described in the patent. Thus, it let Rockwell off of the hook without ruling on the patent’s lack of content.
Nothing Solaia or Niro did was illegal. They cleverly exploited the willingness of the Patent Office to grant vague patents and the costs the court system imposes on defending yourself.
In 2006, the U.S. Supreme Court ruled that federal courts must be more circumspect in issuing injunctions in these matters. This reduced the asymmetry between the parties, but did not reach to the core of the problem—patents on ideas that are only novel to lawyers. In January 2009, the U.S. Supreme Court went further, asking federal courts to impose a stricter standard on whether or not a patent was “obvious.” Time will only tell what the court system does with this verbal distinction between true “advances” and “ordinary innovation.” I am not optimistic.
The most powerful agents using force to coerce behavior or payments are governments. You may boycott Exxon’s products if you don’t like the company, but you cannot refuse to pay your taxes just because you disagree with the government’s foreign policy. The very purpose of government is coercion.
People like to make the distinction between lawful and unlawful government actions, but this distinction fades when you consider the thousands of laws enacted annually by federal and local governments. For example, in 1982 I spoke with an executive of a large multinational who was the head of their operations in Burma (now Myanmar). He said:
When I first arrived in Rangoon, I was met by security police and escorted to jail. After some time, a high level minister came and released me. He explained the situation. It seems that my company was in violation of several obscure national laws and regulations. I was told that as long as I cooperated with the authorities, no further steps would be taken. But, he reminded me, the government could, at its discretion, choose to enforce these laws and jail me or even shut down the company.
This kind of “legal” extortion, where bureaucrats or political figures decide which of a forest of laws to enforce on political considerations, is common in both the developing and the developed world.
- Vadim Volkov, “Security and Enforcement as Private Business,” in V. Bonnell (Ed.) New Entrepreneurs in Russia and China, Westview Press, 2001. [↩]