Public Policy: Using Market-Based Approaches - Department for ...

Public Policy: Using Market-Based Approaches
● It may be possible to specify aspects of service quality in a contract using
measurable and enforceable performance criteria. Combined with an
adequate monitoring system, contract design may therefore be used to limit
quality shading in competitively tendered services. This runs counter to the
predictions of economic theory, which assumes that quality is difficult to
measure and therefore concludes that private sector involvement in public
services may lead to cost cutting at the expense of quality. Conducting the
competitive tender process through a beauty contest mechanism may also be
useful where quality is an important aspect of the service because this
prevents an excessive focus on cost.
● Targets and performance measures should be well defined and based on
clear objectives. Most aspects of service quality involve trade-offs.
Contractors are therefore likely to focus on delivering the outcomes that are
most easily measurable. When designing targets it is important to bear in
mind that measurable performance indicators will be preferred over those
that are less easy to measure. The potential for a target to have an unintended
consequence should be taken into account when setting the target. As no
system is perfect, targets should also be regularly reviewed over time to take
their actual performance into account.
● The benefits of contract aggregation can be realised without creating
problems for long-term competition from incumbency advantages. Requiring
disclosure of information by incumbents to bidders and encouraging entry by
suitable firms operating in relevant fields can help to maintain a competitive
market.
● When a market is relatively new, it may be necessary to select bidders not
offering the lowest price for a contract to ensure competition for future
contracts. Awarding early contracts to one provider only may realise shortterm
cost savings, but it can prevent the entry of competitors who can help
to keep costs down in the future.
● The appropriate use of self-supply can be an effective constraint against
collusion, but must be managed carefully to avoid creating an impression of
discrimination in favour of in-house bids. Excessive self-supply may also limit
the number of private sector firms the market can support, preventing the
development of competition.
● The risk of a winner’s curse can be reduced by increasing the information
available to bidders, restricting the number of bidders through pre-selection
criteria and allocating tenders through a beauty-contest mechanism.
● Pre-committing to an appropriate transfer rate for specific assets at the end
of the contract life can help to ensure an efficient amount of investment is
undertaken. One means of pre-committing to this transfer payment is
through the contract price.
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