Working Paper: CEPR ID: DP8704
Authors: Jan Boone; Christoph Schottmüller
Abstract: This paper analyzes optimal procurement mechanisms in a setting where the procurement agency has incomplete information concerning the firms' cost functions and cares about quality as well as price. Low type firms are cheaper than high type firms in providing low quality but more expensive when providing high quality. Hence, each type is specialized in a certain quality level. We show that this specialization leads to a bunching of types on profits, i.e. a range of firms with different cost functions receives zero profits and therefore no informational rents. If first best welfare is monotone in the efficiency parameter, the optimal mechanism can be implemented by a simple auction. If first best welfare is U-shaped in type, the optimal mechanism is not efficient in the sense that types providing a lower second best welfare win against types providing a higher second best welfare.
Keywords: deregulation; procurement; specialization
JEL Codes: H75; L51
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| specialization of firms (D21) | profit outcomes (L21) |
| low-type firms are cheaper than high-type firms when providing low quality (L15) | low-type firms can win contracts (L29) |
| low-type firms can win contracts (L29) | distortion in quality (L15) |
| first-best welfare is U-shaped in type (D69) | optimal mechanism is inefficient (D61) |
| optimal procurement mechanism can lead to types producing quality levels above their first-best levels (L15) | complex interaction between quality and profitability (L15) |