Five things you wish you knew about public procurement (guest blog post)

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Globally, it is estimated that countries spend around 13% of GDP on public procurement (Bosio et al., 2020) suggesting opportunities for creating fiscal space by improving the efficiency, effectiveness, integrity and sustainability of public procurement. But how can these opportunities be achieved in practice? And, is there a trade-off between achieving efficiency (and so creating fiscal space) and pursing the other goals for public procurement? This blog reviews the growing body of economic literature on public procurement.

Inclusiveness in public bidding processes

Public procurement can boost firm growth. Ferraz et al (2015) show that in Brazil winning one government contract increases firm employee growth by 2.2 percentage points over that quarter, and these effects persist in the long term as winning firms participate and win more future auctions and expand their business in new markets.

While national and local governments are increasingly using their public procurement system to target growth of specific segments of the markets, the evidence on these reservation rules is mixed. For example, there is mixed evidence on the impact of preferential treatment programs, and two studies conducted on the same program for small firms in California draw opposite conclusions. While Marion (2007) found that procurement costs are 3.8 percent higher on auctions using preferential treatment, Krasnokutskaya and Seim (2011) found those distortionary effects are not huge in comparison to benefits to firm growth.

Access through e-procurement

Digitization of procurement processes has the potential to induce radical transformations in public procurement. In India and Indonesia, research finds that e-procurement encouraged the entry of higher quality contractors and leads to quality improvements [Lewis-Faupel et al., 2016]. An impact evaluation of e-procurement adoption in Bangladesh demonstrates that e-procurement reduced integrity risks, increases participation of firms and reduces prices offered by firms during the bidding process.

However, e-procurement is not a panacea to solve inefficiencies in spending and reduce integrity risks. Lewis-Faupel et al. (2016) find no evidence that e-procurement lowered final prices paid by the government in India and Indonesia. In Bangladesh, e-procurement did not affect the final cost of capital investment projects, time overruns or quality of contract implementation, indicating that inefficiencies and corruption risks might simply be displaced to other phases of the process.

Corruption and transparency

Corruption, collusion, and other uncompetitive practices cause misallocation of public funds. A growing economic literature studies how procurement decisions are distorted by political connections. In Italy, an extra term in office of the mayor decreases the number of bidders and the winning rebate, while increasing the probability of local winners or multiple contracts awarded to the same firm [Coviello & Gagliarducci, 2010]. Baltrunaite (2020) provides evidence that in Lithuania corporate money buys preferential treatment in procurement auctions and this is reduced by laws that ban corporate donations to political parties and campaigns.

Calls for tenders can inform firms about bidding opportunities, and therefore enlarge the pool of participants and reduce prices, as shown by Coviello & Mariniello (2008) in the context of Italy and by Gonzalez-Lira et al. (2020) in the context of the U.S., Department of Defense. Bauhr et al. (2020) further demonstrate that openness and integrity of competitive markets is improved by ex-ante transparency (i.e., information in call for tenders), but less so by ex-post transparency (i.e. information on the award after it is published).

Discretion and competences

There may be trade-offs between rules and discretion. For instance, stricter regulation can reduce integrity risks while discretion can allow buyers to customize the procurement process. The seminal paper by Bandiera et al. (2009) introduced the concept of passive waste in public procurement, related to constraints such as lack of skills, lack of incentives, or excessive regulatory burden. The authors find that in Italy passive waste accounts for 83% of total estimated waste, motivating a large literature on rules and discretion in public procurement. A recent experiment by Bandiera et al. (2020) shows that in Pakistan, inefficiencies in the procurement process are created by the stringency of the requests from the Accountant General to approve payments, and indeed shifting decision rights from monitors to procurement officers reduces prices by 9% without reducing quality.

Striking the right balance between rules and discretion may depend on the competences of procurement officers. In Russia, preferences for domestic suppliers improve performance, but only when implemented by ineffective bureaucrats (Best et al.,2017). In Italy, less efficient procuring entities experience larger efficiency gains from centralized procurement (Bucciol et al., 2020), and indeed they use this option more extensively, when available (Bandiera et al., 2009). At a global level, Bosio et al. (2020) find that better practices lead to better outcomes, but stricter rules improves outcomes only in countries with low public sector capacity.

Incentives

The legislative framework shapes the decisions of procurement officers and other stakeholders. For example, bunching of contracts right below or above contract thresholds that grant higher procedural flexibility is observed across many public procurement systems, and Palguta & Pertold (2017) illustrate this phenomenon in the context of the Czech Republic.

The incentives of actors involved in public procurement are influenced by several factors. In Chile, by design of the audit protocol, open auctions undergo more than twice as many checks than direct contracting, and therefore procurement officers are more likely to use direct contracting after having experienced audits and learned about this scheme [Gerardino et al., 2017]. Where courts are inefficient, procuring entities might be more likely to shy away from the litigation process of enforcing a penalty on late deliveries, and indeed in Italy inefficient courts cause delays in the delivery of public works and a reduction in the use of advance payments [Coviello et al., 2017]. On the firms' side, reputation mechanisms might help aligning buyers and suppliers' incentives, as demonstrated by the introduction of a vendor rating system by a large utility company in Italy, which improved audited parameters and quality of services without significantly increasing prices [Decarolis et al., 2016].

Areas for future research

The design of public procurement policies could benefit from more evidence on the impact of inclusive policies on SMEs and other under-represented firms, the impact of reputation mechanisms, and on how to increase the capacity of procuring entities. Linking existing public procurement data, firm data, complaints and contract implementation data can foster new research opportunities by exploring the full procurement cycle and improving existing measures of efficiency, impact and sustainability of public procurement, especially for Green Public Procurement.