Third-Party Opportunism and the Theory of Public Contracts: Operationalization and Applications

Abstract

Public contracts seem to be “expensive” and “inefficient” compared to pure private contracts. Higher prices and inefficiencies in the implementation of public contracts result from their specificity and rigidity, which is how public agents limit hazards from third-party opportunism. We present a comprehensible and testable theory of third-party opportunism and its effects on public contracts. We show that, in the presence of third-party opportunism, there exists an equilibrium in which public contracts are specific and rigid, and thus more expensive in their design, implementation, and control than the theoretical first-best in a non-opportunistic world. We use case examples to extend the theory into practical settings and derive empirical implications.

Keywords: Transaction Costs, Procurement, Public Sector Accounting and Audits, Political Processes, Bureaucracy, Policy Making, Political Economy, Opportunism

JEL Classification: D23, D72, D73, D78, H57, H83, P48