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Information, incentives, and commitment : an empirical analysis of contracts between government and state enterprises


  • Shirley, Mary M.
  • L. Colin Xu


The authors analyze experience with written performance contracts between developing country governments and the managers of their state-owned enterprises. Such contracts have been a vogue since the mid-1980s, and substantial resources have been sunk into their design and enforcement, yet the few assessments to date show mixed results. Using a simple agency model, they identify how problems of weak incentives sthemming from information asymmetry, lack of government commitment, and lack of managerial commitment can lead to shirking. They apply the model to a sample of 12 contracts with monopoly enterprises in six developing countries (Ghana, India, the Republic of Korea, Mexico, the Philippines, and Senegal). All suffer from serious contracting problems. They find no pattern of improved performance that can be attributed to the contracts. Only three of the 12 case-study companies showed a turnaround in total factor productivity after contracts were introduced, six continued past trends, and three performed substantially worse under contracts than they had before. Labor productivity improved at a faster pace in four cases, and deteriorated in none, but the improvement predated the contract. Performance contracting assumes that government's objectives can be maximized, and performance improved, by setting targets that take into account the constraints placed on managers. For this to occur, the principals must be willing to explicitly state their objectives, assign to them priorities and weights, translate them into performance improvement targets, provide incentives to meet those targets (or monitor the agents without incurring significant costs), and credibly signal their commitment to the contract. These conditions failed to materialize. Why would governments adopt contracts to which they were notcommitted or that were politically unrealistic? Sometimes because it enabled themto get foreign assistance. How explain the managers'lack of commitment? Not surprisingly, managers with information advantages and bargaining power, and with no strong incentives or commitment from the government, used their advantages to manipulate the targets so as to ensure that their performance would be judged satisfactory. The authors outline the conditions under which performance contracts might succeed in improving performance.

Suggested Citation

  • Shirley, Mary M. & L. Colin Xu, 1997. "Information, incentives, and commitment : an empirical analysis of contracts between government and state enterprises," Policy Research Working Paper Series 1769, The World Bank.
  • Handle: RePEc:wbk:wbrwps:1769

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    References listed on IDEAS

    1. Nalebuff, Barry J & Stiglitz, Joseph E, 1983. "Information, Competition, and Markets," American Economic Review, American Economic Association, vol. 73(2), pages 278-283, May.
    2. Laffont, Jean-Jacques & Tirole, Jean, 1986. "Using Cost Observation to Regulate Firms," Journal of Political Economy, University of Chicago Press, vol. 94(3), pages 614-641, June.
    3. Xavier Freixas & Roger Guesnerie & Jean Tirole, 1985. "Planning under Incomplete Information and the Ratchet Effect," Review of Economic Studies, Oxford University Press, vol. 52(2), pages 173-191.
    4. Shirley, Mary M., 1989. "Evaluating the performance of public enterprises in Pakistan," Policy Research Working Paper Series 160, The World Bank.
    5. David E. M. Sappington, 1991. "Incentives in Principal-Agent Relationships," Journal of Economic Perspectives, American Economic Association, vol. 5(2), pages 45-66, Spring.
    6. 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.
    7. John Vickers & George Yarrow, 1988. "Privatization: An Economic Analysis," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262720116, January.
    8. Andrei Shleifer & Robert W. Vishny, 1994. "Politicians and Firms," The Quarterly Journal of Economics, Oxford University Press, vol. 109(4), pages 995-1025.
    9. Nellis, J.R., 1989. "Contract Plans And Public Enterprise Performance," World Bank - Discussion Papers 48, World Bank.
    10. Michael Spence, 1973. "Job Market Signaling," The Quarterly Journal of Economics, Oxford University Press, vol. 87(3), pages 355-374.
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