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SECTION 3 Lessons for the design and implementation of specific mechanisms This section summarises some of the main lessons drawn from our review of the theoretical and empirical literature and the three case studies we conducted. We focus on the three mechanisms covered by our case studies. More detail on these, and other mechanisms, can be found in Parts III and IV of our report. Competitive tendering Competitive tendering has been widely used in many countries in different areas of the public sector. The wide-ranging application of this mechanism means there is much experience to draw on in designing a system of competitive tendering. This experience suggests that two main issues are likely to arise: ● market power of suppliers; and ● maintaining the quality of the services provided. Some actions that reduce one of these problems may exacerbate the other. Policy makers may therefore need to take a view on the relative risks of these problems and decide which one takes priority. MARKET POWER Two market power issues can arise. The first market power issue is when an incumbent supplier has a significant advantage over potential competitors for a contract and, as a result, none of these potential competitors are willing to go to the trouble of bidding against it. This situation typically arises when the incumbent possesses information that competitors lack, or owns assets that can be used to fulfil the tender that competitors do not possess. A number of actions can be taken to reduce incumbency advantages, some of which should be taken into account when the contract is initially let in order to avoid creating an incumbency advantage in the first place: 22
Section 3 – Lessons for the design and implementation of specific mechanisms ● ensuring that information held by the incumbent is shared with potential bidders (this has been the case for prisons, where the incumbent has to share information on the costs of running a prison with rival bidders) and maintaining public ownership, or third-party ownership, of specific assets, will help to reduce the advantage possessed by an incumbent; ● breaking up the contract into a series of smaller contracts, which are not all let to the same supplier, will ensure that there are a number of incumbents who will be potential competitors for each other’s existing contracts; ● a longer contract period may encourage more firms to bid, since they are more likely to recover the fixed costs of bidding – although this may have implications for quality of service, as discussed below; and ● it is generally desirable to transfer as much risk as possible to the supplier since this increases the incentive faced by the supplier to operate efficiently. Risk transfer could be achieved through contractual design, for example by ensuring that the supplier rather than the public sector bears the risk of cost overruns. However, where it is clear that the supplier cannot control some risks (where some input costs are beyond its control, for example) it may be beneficial for the public sector to bear, or share some of, these risks in order to encourage more suppliers to compete in the tender. The second market power issue is when there are a number of potential bidders but a high risk of collusion between them. Collusion is most likely to occur when: ● there are a relatively small number of bidders, so that it is easy to organise a cartel, and there are barriers to entry that prevent new suppliers, outside of the cartel, from bidding; ● there are a number of very similar contracts so that potential suppliers can share the contracts between each other in the expectation that each will generate similar profits; and ● there is a transparent tendering process that allows the bidders to monitor each other and ensure that all are complying with the collusive agreement. Given these factors, the following actions might reduce the risk of collusion: ● removing any unnecessary entry barriers, such as excessive or disproportionate pre-qualification criteria; ● avoiding the creation of a series of identical contracts and instead creating contracts that vary in size; and ● avoiding an auction design that is too transparent – a system of sealed-bid auctions may be preferable to an open auction if the risk of collusion is high, although this may also deter potential bidders in some circumstances. In general, auction design is a subject on which expert economic advice should be sought. 23
Page 1 and 2: DTI ECONOMICS PAPER NO.14 Public Po
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Page 5 and 6: Contents Acknowledgements vi Forewo
Page 7 and 8: Contents Section 11 Emissions Tradi
Page 9: Foreword There is increasing intere
Page 12 and 13: SECTION 1 Introduction and summary
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Page 22 and 23: SECTION 2 Using market mechanisms U
Page 40 and 41: SECTION 4 Introduction This part of
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Page 78 and 79: SECTION 8 Framework for assessing m
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Part IV Case Studies 73
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● the Green and White papers behi
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A prison failing to deliver on its
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Table 9.3 Companies providing priso
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Section 9 - Competitive Tendering o
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detect any deviation from a collusi
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at HMPS began as an equal mix of th
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(e.g. lighting). This impact could
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MARKET POWER The full benefits of c
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However, it should be noted that te
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on competition is uncertain. The ab
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Controlling for problems of asymmet
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Procurement process design One way
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however, financial deductions are m
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The Independent Monitoring Board at
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Figure 9.1: Difference between the
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‘While there were staff in the pu
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design the invitation to tender and
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and demand conditions. Second, we d
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DEMAND Anyone can apply to a local
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● Rent deposit guarantee by the l
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The Green Paper stated the Governme
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It was not an objective of ODPM or
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DESCRIPTION OF MARKET MECHANISM The
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Once the outcome is determined, fee
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DEVELOPMENTS OVER TIME The major mo
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Concerns about capacity constraints
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from those already located within t
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In several areas, registrations by
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Controlling for information problem
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extent though, it was competition b
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Section 10 - Choice-Based Letting i
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levels are reducing and new tenants
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desired effect of limiting points-c
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efficiency savings in some areas. T
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SECTION 11 Emissions Trading Introd
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Section 11 - Emissions Trading coex
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Section 11 - Emissions Trading emis
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A more detailed and diagrammatic de
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The costs of monitoring and reporti
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INITIAL ALLOCATION OF PROPERTY RIGH
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only 242 in the second year. The di
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COST-EFFICIENT EMISSIONS REDUCTIONS
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consultants to Defra of £11 per to
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Participation has helped us to rais
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Section 11 - Emissions Trading emis
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SECTION 12 Issues in the implementa
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