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Signaling and Contract Cost Under Weak Governance : Water Service Privatization in Metro-Manila, Philippines


  • Raul V. Fabella

    (University of the Philippines School of Economics)


Many supply contracts between the state and private agents in a developing country are cost-re-imbursement variety and are rolled out under weak and unreliable governance. The latter has to be provided for through higher supply cost. The state in turn can lower the contract cost by providing verifiable credible commitments of its intentions. We show using a modified the Laffont-Tirole cost-reimbursement contract model that the more reliable is the state in respect to the delivery of its contractual obligations, the lower the cost of contracts to the state and society. We argue that the various actions taken by the Philippine government before the privatization of the water service in Metro Manila in 1997, viz., the substantial increase in the tariff, the reduction in the labor complement by 30% and the outsourcing of the dispute resolution mechanism to an international appeals panel, induced entry and aggressive bidding by the contenders that dramatically reduced the cost to the public of the water services concession contract in Metro Manila, Philippines.

Suggested Citation

  • Raul V. Fabella, 2012. "Signaling and Contract Cost Under Weak Governance : Water Service Privatization in Metro-Manila, Philippines," UP School of Economics Discussion Papers 201213, University of the Philippines School of Economics.
  • Handle: RePEc:phs:dpaper:201213

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    References listed on IDEAS

    1. Jean-Jacques Laffont & Jean Tirole, 1993. "A Theory of Incentives in Procurement and Regulation," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262121743, March.
    2. Williamson, Oliver, 2009. "The Theory of the Firm as Governance Structure: From Choice to Contract," Economic Policy, Russian Presidential Academy of National Economy and Public Administration, vol. 6, pages 111-134, December.
    3. Easterly, William & Levine, Ross, 2003. "Tropics, germs, and crops: how endowments influence economic development," Journal of Monetary Economics, Elsevier, vol. 50(1), pages 3-39, January.
    4. Williamson, Oliver E, 1983. "Credible Commitments: Using Hostages to Support Exchange," American Economic Review, American Economic Association, vol. 73(4), pages 519-540, September.
    5. North, Douglass C. & Weingast, Barry R., 1989. "Constitutions and Commitment: The Evolution of Institutions Governing Public Choice in Seventeenth-Century England," The Journal of Economic History, Cambridge University Press, vol. 49(04), pages 803-832, December.
    6. Michael Spence, 1973. "Job Market Signaling," The Quarterly Journal of Economics, Oxford University Press, vol. 87(3), pages 355-374.
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    More about this item


    signaling; credible commitment; procurement contracts; weak governance;

    JEL classification:

    • L33 - Industrial Organization - - Nonprofit Organizations and Public Enterprise - - - Comparison of Public and Private Enterprise and Nonprofit Institutions; Privatization; Contracting Out
    • I30 - Health, Education, and Welfare - - Welfare, Well-Being, and Poverty - - - General
    • H57 - Public Economics - - National Government Expenditures and Related Policies - - - Procurement

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