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Foundations of public outsourcing
Marcel Boyer
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Foundations of public outsourcing
• Public and private decision makers’ conceptions about public-private partnerships have dramatically changed lately
• New economic theories enable the analysis of organizational or institutional designs in contexts where there exist:– Complex interrelationships between various parties– Incomplete information structures (different parties having
private information)– A willingness to enhance performance through organization
reforms (coordination and incentives)
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The prosperity of a society is based on the quality of its
institutions/organizations• The prosperity of a society, its efficiency and its capacity to adapt to
an ever moving environment is strongly linked:–not only to the quality of human (education) and natural resources–but also to the quality of its institutions.
• The essential role of institutions and organizations is to: –organize cooperation and coordination of decisions made by large
numbers of agents –motivate those economic agents to fully contribute to the mission
(value maximizing, goal attainment) of the organizations/institutions –that is, to use the resources and the information at their disposal in
the most efficient manner.
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Institutional Design
PRINCIPAL
AGENT
Regional Specific Context
Techno-economic Characteristics
Constraints• Information• Transaction• Administrative and political
Performance ofinstitutions
EfficiencyEquityImputabilityEconomic Development(regional)
PublicMonopoly
Public-corporate management
Delegated Mgt. Concession Privatization
Options
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Principal-Agent Model
InformationAsymmetry
Divergent Interests
OPPORTUNISM
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Social Objectives
• A high performance institutional arrangement achieves in a cost efficient manner the core objectives (adapted to the specific task or project considered):
– Efficiency
– Equity
– Imputability
– Regional economic development
given the transactional and informational constraints.
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Objectives: Efficiency
• Static and Dynamic Efficiency– Absence of spoilage, minimization of costs– Maximization of social wealth – Standards must be established, respected and verifiable
• Allocating a resource to its best economic usage.
– Long term Investment in:• Capacity building, innovation, R&D, quality improvement
• Eco-efficiency - Global sustainable development
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Objectives: Equity and Imputability
• Equity - user-payer
- direct redistribution rather than indirect taxation and subsidies: accessibility but no cross-subsidization
- stand alone cost (CORE)
• Imputability - the protection of the public
- open and transparent bidding
- incentives for long term decisions (intergenerational equity)
- level and extent of political delegation of instruments
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Objectives: Economic development
(regional)– Knowledge and capability building
(core competencies)
– Business opportunities and job creation
– Efficient provision of business and social services (infrastructure)
– Network economies, Economies of scale, Economies of scope
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• Productive efficiency requires the minimization of costs and the allocation of resources to their best economic usage.
• Allocative efficiency gains can be made from cost reflective pricing (or tarification).
• Productive efficiency can be separated from the pricing of public goods and services.
• Prices can be regulated by an independent regulator through a wide range of regulatory instruments– Ramsey-Boiteux pricing– Price caps for costs control– Global price caps in Networks– Rate of return regulation– Yardstick competition
Delegated Management and efficient/optimal pricing
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Types of Delegated Management
vs. Characteristics
Public
Service agreements
Lease, affermage
Franchise,Concessions
Privatization
short term perpetualRights
Limited
Extended
limited partial completeextensiveDelegation none
long termperpetual
None
Private sectorcommitment
•Ownership•Financing•Risks•Operation
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Delegated Management and Regulation
- base pricing
•Incentive regulation - cost overruns
- productivity gains
•Cost plus regulation (ROR)
•Price-cap regulation (RPI - X + Y)
•Menu of contracts
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Incentive power of pricing schemes
HIGH POWERED(firms keep all gains from reduction of costs)
• Fixed fee or fixed price cap
• Price cap with revisions every N years on the basis of yardstrick performance
• Price cap with expectation of revisions on the basis of cost
• Expected (ex-ante) cost + rate of return fixed for multiple years
• Expected (ex-ante) cost + rate of return revised every year
• Actual (ex-post) cost + rate of return
LOW POWERED(firms keep none of the gains from reduction of costs)
Source: adapted from Jones (1994).
Examples:
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Designing contracts for public-private partnerships:
Different clauses different compensation
• liability & control sharing
• risk management and sharing
• cost sharing
• conflict resolution
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Designing contracts for public-private partnerships:
Liability and control / Information
strict liability
strict, joint and several liability
extended liability
capital structure
limited liability
incentives for care and diligence
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Designing contracts for public-private partneship:
Risk management (integrated)
* Choosing a risk-return combination
risk management
ressource management
* Sharing risk
- risk aversion / tolerance- risk pricing
risk
return
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Delegated Management and Cost Sharing
Multiple public - one private partnerships•Principles - fairness / equity
- coherence
- efficiency
- cross-subsidies
•The Shapley-Shubik approach
(incremental costs)
•The sequential cost sharing approach
(heterogenous needs and demands)
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Designing contracts for public-private partnership:
Conflict resolution
• Inserting the process in the contract
• Exchanging information / arguments
• Third party arbitrage
• Residual rights owner
- value and pricing
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Choosing partners in public-private partnership:
Competitive tendering (public and private)
• Multiple steps auctions
• Multiple criteria selection
• Open bidding rules
- participation conditions
- open access to information
•Dynamic incentives and opportunism
•Contract renewal procedures
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Delegated Management and Performance Incentives
• Principles - informativeness
- intensity of incentives
- equal compensation
- intensity of monitoring
- ratchet
• Benchmarking / Scorecard
• Auditing process
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Role of the public partner (municipal)
•Core competencies
- identifying public needs
(broker of citizens interests)
- arbitrage between needs
- managing contracts for maximal social value creation
•Time horizon and incentives
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The role of the private partner
• Core competencies
- technology use and development
- economies of scale and scope
- development and export of know-how (human capital)
• Reputation building: Dynamic incentives and opportunism
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Delegated Management of Municipal Services in Canada:
The CIRANO Survey
• # of municipalities surveyed
• # of questionnaires returned (filled by General Manager)
• 71 activities in 10 categories
• For 8 major activities,
-questions on the following characteristics: independence, complexity, standardization, uncertainty specificity
-questions on the importance of core (field, municipal business) competencies
-questions on the definition and verification of performance (cost, quality)
-questions on contract renewal procedures stipulated in contracts
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Delegated Management of Municipal Services in Canada:
The CIRANO Survey
•For 8 major activities (suite)
-questions on contract management procedures and use of municipal assets and employees
-questions on problems encountered during the contract
-questions on investment financing
- questions on flexibility, economies of scale, pricing (tarifs)
•Perceived advantages (suggested list of 13 elements) and disadvantages (suggested list of 13 elements)
•Data on the municipality (size, area, assets, income and expenditures, taxes, debt, percentage of unionized employees, etc.)
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Table 1: The top ten contracted out activities(% performed by outside contractors)
_____________________________________________________________________________________________
Activities Percentage Number of respondents______________________________________________________________________
Construction of buildings 89.0 296Recycling 79.2 269Legal services 77.9 321Refuse collection 70.6 302Engineering and architecture 69.0 290Burial of waste 67.7 266Development of IS applications 65.1 280Street lightning 60.5 307Installation of sewers 59.3 292Caretaking 46.3 325
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Table 2: The bottom 10 activities being contracted out
(% performed by outside contractors)______________________________________________________________________
Activities Percentage Number of respondents
______________________________________________________________________
Secretarial services 3.49 346
Permits and licences 5.92 333
Billing and collection 6.27 347
Accounting 6.51 347
Tax collection 7.55 323
Human resources 1.90 339
Road signs 11.07 330
Suplies 11.30 327
Fire department 13.17 330
Archives 14.28 315
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Table 3: The ten activities for which outsourcing
intentions are the highest (in %)_____________________________________________________________________________
Activities Percentage Number of respondents
_____________________________________________________________________________
Ice rinks 10.4 269
Development of I.S. applications 9.6 281
Snow removal 8.5 331
Caretaking / security 7.6 327
Sewage treatments 7.5 266
Refuse collection 7.3 301
Road maintenance and repairs 7.2 332
Management of SI-related activities 6.5 294
Water supplies 5.9 271
Recycling 5.5 273
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Table 4: The ten activities for which outsourcing
intentions are the weakest (in %)_____________________________________________________________________________
Activities Percentage Number of respondents
_____________________________________________________________________________
Fire department 0.6 330
Supply 0.9 331
Permits and licences 1.5 334
Secretarial services 1.7 346
Accounting 1.7 346
Strategic planning 2.2 323
Legal services 2.2 323
Human resources 2.4 339
Tax collection 2.5 323
Archives 2.5 317
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Table 5: The ten top activities for which outsourcing
would be most profitable (in %)_____________________________________________________________________________
Activities Percentage Number of respondents
_____________________________________________________________________________
Refuse collection 21.3 301
Caretaking 18.0 328
Engineering and Architecture 18.0 295
Development is IS applications 17.2 279
Ice rinks 17.2 268
Building maintenance 17.0 342
Construction of buildings 16.2 297
Installation of sewers 15.8 292
Snow removal 15.4 331
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Table 6 : Five activities for which intentions
are constrained (in %)_________________________________________________________
Activities Percentage
_________________________________________________________
Engineering and architecture 15
Blue box system 15
Refuse collection 14
Construction of buildings 13
Collection of hazardous waste 13
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Table 7 : Profile of outsourcing contracts_______________________________________________________________________________
Probability of renewing Average length of contract
the contract (in years)
_______________________________________________________________________________
Refuse collection 5.5 3.9
Processing of hazardous waste 5.5 2.8
Water supply 5.8 7.8
Sewer maintenance and repairs 5.2 2.2
Snow removal 5.0 3.2
Road maintenance and repairs 4.8 2.7
IS operations 5.5 2.3
Development is IS applications 5.4 2.3
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Table 8 : Management problems with outsourcing contracts
(% of respondents)_________________________________________________________________________________
Reliability Quality of Controversy in Breach of Legal
service interpretation contract settlement
____________________________________________________________________________________________
Refuse collection 15 20 24 5 4
Processing of hazardous waste 1 2 2 1 0
Water supplies 4 5 8 2 5
Sewer maintenance and repairs 3 6 6 0 1
Snow removal 12 21 12 4 2
Road maintenance and repairs 9 10 10 2 3
IS operations 5 7 2 0 0
Development of IS applications 6 9 2 0 0
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Table 9 : Management mechanisms____________________________________________________________________________________Contract Refuse Processing of Water Sewer Snow Highway IS operations Computer
management collection hazardous supplies maint. & clearance maint. & application
measure waste repairs repairs development
____________________________________________________________________________________
Meetings between 49 22 28 12 21 14 29 31
senior management
and outsourcer
Meetings between 41 25 23 24 41 27 29 28
middle management
and outsourcer
Meetings between 18 6 15 9 25 18 18 17
municipal employees
and outsourcer
Regular employee 30 8 10 9 17 9 10 13
exchanges
Use of municipal 3 4 3 3 2 1 6 7
equipment by
contractor
Transfers of employees 1 0 4 2 0 1 1 1
Arbitration mechanisms 27 10 13 7 8 7 3 4
for disagreements
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Table 10 : Main advantages and disadvantages of outsourcing___________________________________________________________________________________
Advantages Disadvantages
___________________________________________________________________________________
1. Savings 1. Difficult to select best supplier
2. Access to specific expertise 2. Loss of control over the activity contracted out
3. Alleviation of constraints arising from 3. Negative impact on labour relations
collective agreements
4. Improved ability to adapt to change 4. Irreversibility of the decision to contract out
5. Reduction of payroll 5. Difficult to monitor the contract