The Cost of Contract Renegotiation: Evidence from the Local Public Sector

Abstract

The renegotiation of regulatory contracts is known to prevent regulators from achieving the full commitment efficient outcome in dynamic contexts. However, assessing the cost of such renegotiation remains an open issue from an empirical viewpoint. To address this question, we fit a structural principal-agent model with renegotiation on a set of urban transport service contracts. The model captures two important features of the industry. First, only two types of contracts are used in practice (fixed-price and cost-plus). Second, subsidies increase over time. We compare a scenario with renegotiation and a hypothetical situation with full commitment. We conclude that the welfare gains from improving commitment would be significant but would accrue mostly to operators.

Public and Private Production in a Mixed Delivery System: Regulation, Competition and Costs

“…Local governments tend to place greater trust in the faithfulness and honesty of their vendors when the latter party has a known reputation from prior to the relationship, strong community ties, and performs its tasks well (Lamothe & Lamothe, ). Thus, welfare gains from extending contract length can be relevant, but accrue mostly to operators (Gagnepain, Ivaldi, & Martimort, ).…”

“…Local governments tend to place greater trust in the faithfulness and honesty of their vendors when the latter party has a known reputation from prior to the relationship, strong community ties, and performs its tasks well(Lamothe & Lamothe, 2012). Thus, welfare gains from extending contract length can be relevant, but accrue mostly to operators(Gagnepain, Ivaldi, & Martimort, 2013). 4 Note, however, potential unintended effects of high-powered, performance-based contracts have been found in some services(Koning & Heinrich, 2013), where these contracts can mean not providing a service to the hard-to-serve clients.…”

Skilled Cities and Efficient Urban Transport

“…The end result was lower costs, higher prices, higher frequencies, and less competition (Gwilliam et al, 1985). Contracting out the operation is more common for buses than for rail and has led to important efficiency gains when the contracts are well designed (Gagnepain et al, 2013).…”

Subsidizing and pricing private toll roads with noncontractible service quality: A relational contract approach

“…In the following, we use ( η, b ) to denote this subsidy plan. As the standard assumption in public procurement, we assume that government subsidy is from public funds ( Baron and Myerson, 1982;Gagnepain et al, 2013 ) with a marginal cost, denoted by λ, which measures the cost of the government's economic intervention ( Auriol and Picard, 2013 ). As a result, the additional social cost incurred due to subsidy payment can be written as λ(η + bq (e ) min (d(p) , v )) .…”