Free Riding in Procurement Design
AbstractLow-powered contracts do not provide proper incentives to reduce cost; still empirical studies show that they are quite pervasive in public and private procurement. This paper argues that low-powered contracts arise due to a free-riding problem when the contractor enjoys economies of scale/scope working for different buyers. A buyer, offering a procurement contract to the contractor, does not fully internalize that higher-powered incentives provide cost reduction in the contractor's activities, benefiting other buyers. As a result, buyers offer lower-powered contracts than what would be designed by cooperative buyers. Strikingly, the higher the contractor's benefits from economies of scope/scale are, the lower the power of the procurement contracts will be. In addition, laws which force buyers to award fixed-price contracts can be welfare-enhancing.
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Bibliographic InfoPaper provided by Toulouse School of Economics (TSE) in its series TSE Working Papers with number 09-128.
Date of creation: Dec 2009
Date of revision:
free-riding; procurement; multibuyers;
Other versions of this item:
- H57 - Public Economics - - National Government Expenditures and Related Policies - - - Procurement
- L24 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Contracting Out; Joint Ventures
This paper has been announced in the following NEP Reports:
- NEP-ALL-2010-05-22 (All new papers)
- NEP-MIC-2010-05-22 (Microeconomics)
- NEP-PUB-2010-05-22 (Public Finance)
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