Corruption in PPPs, Incentives and Contract Incompleteness
42 Pages Posted: 6 May 2014
Date Written: April 7, 2014
In a public procurement setting, we discuss the desirability of completing contracts with state-contingent clauses providing for monetary compensations to the contractor when revenue shocks occur. Realized shocks are private information of the contractor and this creates agency costs of delegated service provision. Verifying the contractor’s messages on the shocks entails contracting costs that make incomplete contracts attractive, despite their higher agency costs. A public official (supervisor) has private information on contracting costs and chooses the degree of contractual incompleteness on behalf of an upper-tier public authority. As the public official may be biased towards the contractor, delegating the contractual choice to that lower-tier may result in incomplete contracts being chosen too often. Empirical predictions on the use of incomplete contracts and policy implications on the benefits of standardized contract terms are discussed.
Keywords: Corruption, Incomplete Contracts, Moral Hazard, Principal-Agent-Supervisor Model, Public-Private Partnerships, Risk Allocation
JEL Classification: D23, D82, K42, L33
Suggested Citation: Suggested Citation