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The Hold-Up Problem in Government Contracting

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  • Bos, Dieter
  • Lulfesmann, Christoph

Abstract

A two-period procurement model is considered in an incomplete-contract framework. In contrast to O. Hart and J. Moore (1988), the welfare-maximizing government, as the buyer, is able to accomplish ex-ante optimal contracts which guarantee first-best specific investments of both buyer and seller. These contracts are precisely characterized. Regardless of the underlying supports of cost and benefit distributions, renegotiation inevitably occurs in some states of nature. This renegotiation always increases the ex-ante fixed trade price. Hence, the empirical observation of soft budget constraints in government contracting can be rationalized. Furthermore, in accordance with common beliefs, the seller's rents accrue only at the production stage. Copyright 1996 by The editors of the Scandinavian Journal of Economics.

Suggested Citation

  • Bos, Dieter & Lulfesmann, Christoph, 1996. " The Hold-Up Problem in Government Contracting," Scandinavian Journal of Economics, Wiley Blackwell, vol. 98(1), pages 53-74, March.
  • Handle: RePEc:bla:scandj:v:98:y:1996:i:1:p:53-74
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    Cited by:

    1. Vahabi, Mehrdad, 2003. "La contrainte budgétaire lâche et la théorie économique
      [Soft Budget Constraint and Economic Theory]
      ," MPRA Paper 17651, University Library of Munich, Germany.
    2. Dieter Bös & Martin Kolmar, "undated". "Self-Correcting Mechanisms in Public Procurement: Why Award and Contract Should be Separated," Bonn Econ Discussion Papers bgse5_2000, University of Bonn, Germany.
    3. Dieter Bös, 1996. "Incomplete Contracting and Target-Cost Pricing," Discussion Paper Serie A 524, University of Bonn, Germany.
    4. Dieter Bös, 1995. "Incomplete Contracting and Price--Cap Regulation," Discussion Paper Serie A 534, University of Bonn, Germany.
    5. De Fraja, Gianni, 1999. "After You Sir. Hold-Up, Direct Externalities, and Sequential Investment," Games and Economic Behavior, Elsevier, vol. 26(1), pages 22-39, January.
    6. Dieter B”s, 1996. "Privatization and Restructuring: An Incomplete--Contract Approach," Discussion Paper Serie A 523, University of Bonn, Germany.
    7. Juan J. Ganuza, 1998. "Competition and cost overruns. Optimal misspecification of procurement contracts," Economics Working Papers 471, Department of Economics and Business, Universitat Pompeu Fabra, revised Mar 2002.

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