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Optimal Procurement Contract with Cost Overruns

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  • Lionel Thomas

Abstract

This paper studies the optimal procurement contract in the presence of potential cost overruns. The firm s delivery cost depends on its efficiency-type, which is private information. The delivery cost can take two values: planned or overrun. The lack of cost overruns is considered to be a noisy signal of the firm s effort to properly manage the project. The firm is protected by limited liability. Faced with adverse selection, then moral hazard, we show that the buyer offers a fully pooling incentive scheme to the firm. Moreover, the incentive compensation scheme can be implemented by a pair of fixed-price contracts..

Suggested Citation

  • Lionel Thomas, 2019. "Optimal Procurement Contract with Cost Overruns," Annals of Economics and Statistics, GENES, issue 133, pages 109-126.
    • Handle: RePEc:adr:anecst:y:2019:i:133:p:109-126
    DOI: 10.15609/annaeconstat2009.133.0109
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    Cited by:

    1. Gurara, Daniel & Kpodar, Kangni & Presbitero, Andrea F. & Tessema, Dawit, 2021. "On the capacity to absorb public investment: How much is too much?☆," World Development, Elsevier, vol. 145(C).
    2. Bartlomiej Rokicki, 2022. "Cost Underruns in Major Road Transport Infrastructure Projects—The Surprising Experience of Poland," Sustainability, MDPI, vol. 14(21), pages 1-18, November.

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