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

Abstract

Contract theory claims that renegotiation prevents attainment of the efficient solution that could be obtained under full commitment. Assessing the cost of renegotiation remains an open issue from an empirical viewpoint. We fit a structural principal-agent model with renegotiation on a set of contracts for urban transport services. The model captures two important features of the industry as only two types of contracts are used (fixed price and cost-plus) and subsidies are greater following a cost-plus contract than following a fixed price one. We conclude that the welfare gains from improving commitment would be significant but would accrue mostly to operators.

JEL codes

Reference

Philippe Gagnepain, Marc Ivaldi, and David Martimort, “The Cost of Contract Renegotiation: Evidence from the Local Public Sector”, American Economic Review, vol. 103, n. 6, October 2013, pp. 2352–2383.