Monday, January 23, 2012

CHICK Stephen E., HASIJA Sameer, NASIRY Javad
Incentive Alignment and Information Elicitation from Manufacturers for Public Goods Procurement
INSEAD Working Paper 2012/09/TOM/ISIC

We explore the acquisition of a public good (such as influenza vaccines) by a government whose objective is to minimize the expected value of a social cost (such as total health expenditure for vaccine program costs plus the cost of treating those that are ultimately infected), when the for-profit supplier of that good has both production yield uncertainty and private information about its productivity. Costs for both the supplier and the government procurer may increase if part of the project is delivered after a scheduled delivery date. Unsurprisingly, contracting on the output to an initial delivery date provides a mechanism to achieve first-best outcomes when the supplier’s effort is not verifiable (moral hazard). A new result shows that asymmetric information about manufacturer productivity (adverse selection) can still result in firstbest outcomes if the supplier’s effort and output are both verifiable. We also construct an optimal menu of contracts that handles the case of both unverifiable effort and information asymmetry. The information rent from such a menu can be used to assess how much a government should be willing to invest in activities to assess supplier effort in order to reduce any such information rent.