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									Government Procurement
Policies and International
    Trade: Economic
     Considerations

     Simon J. Evenett
     www.evenett.com
     Contents and summary of this
             presentation
1.   Motivation and Preliminaries.
2.   Factors influencing national procurement reform.
3.   Size of national procurement markets.
4.   Economic analysis of procurement policy in markets.
5.   Economic analysis of procurement policy in auctions.
6.   Is there a logic for international collective action on public
     procurement policy?
7.   Empirical analysis of the effects of procurement provisions
     in trade agreements.
8.   Summary and implications for policymaking.
     This presentation is accompanied by teaching materials
     circulated earlier.
2
Motivation and
Preliminaries
    Why should trade experts know
     about procurement policy?
• National procurement policies have many objectives and
  some of them result in measures that affect market access.
• Discrimination against foreign firms is thought to be rife in
  many nation‘s procurement policies.
   – Procurement policies are one of few tools left to
     governments to shape national industries.
   – Procurement is sensitive because of links to corruption,
     governance, and the funding of national political parties.
• Some trade agreements include provisions on public
  procurement:
   – The wisdom of doing so is debated.
   – No multilateral agreement as of yet on procurement.
4
    National procurement policies can
    cause controversy in trade circles
                         Countries mentioned in the United States’ Annual Report on Discrimination in Foreign Government
    Date or year                                                   Procurement.
    the report
                     “Identified” cases of discrimination.     “Issues of Particular Concern That Do Not Meet the Criteria for
    was
                                                                                       Identification.”
    published.
        1992.        European Union: government-owned
                     telecommunications in selected
                     member states.
    30 April 1996.   Germany: Heavy electrical               Japan: Public works.
                     equipment.                              Japan: Supercomputers.
                                                             Japan: Computers.
                                                             Australia: Pre-selection criteria for bidders.
                                                             Brazil: Expanded discriminatory procedures in 1994.
                                                             China: Non-transparent, closed, and uncompetitive procedures.
    30 April 1999.   None.                                   Korea: Construction of Inchon International Airport.
                                                             Japan: Computer products and services.
                                                             Japan: Design and consulting and construction services.
    30 April 2000.   None.                                   Japan: Public works.
                                                             Taiwan (China): General procurement procedures.
                                                             Canada: Provincial price preferences.
                                                             Mexico: Implementation of New Procurement Laws and NAFTA-
                                                             related tendering periods.
                                                             Korea: Airport construction.
                                                             Germany: “Sect Filters” (to ensure that the principles of
                                                             Scientology are not used or spread in fulfilment of a contract.)
    30 April 2001.   None.                                   None in addition to prior years.
5
            Analysis of policies:
           Tinbergen’s approach
• Identify the ―targets‖ and ―instruments‖ of a policy.
• General rule: assign a single instrument to each target—the
  instrument that has the least (ideally no) adverse knock-on
  effects for other policy goals.
• Example: government goal is for a given industry to meet a
  certain production target.
   – Why would a per-unit production subsidy be preferable to
     a tariff?
   – What metric can be used to establish a ranking of policy
     measures?
   – Why do rankings matter?
       • Don‘t forget these points as this discussion goes
         forward.
6
      The many targets of national
          procurement policy
• Value for money
   – Minimising procurement costs
   – Is there a tension between efficiency and procurement
     cost?
• Macroeconomic management.
• National security.
• Redistributive goals.
• Industrial and regional development.
• Promote SMEs.
• Support state-owned enterprises.
• Governance-related targets.


7
      The principal instruments of
      national procurement policy
1. Procedures to identify, specify, and announce goods to be
   purchased by the state.
2. Procedures to determine which suppliers are eligible to bid
   for state contracts.
3. Tendering procedures: open, restrictive, and selective.
4. Evaluation and award procedures.
5. Bid-challenge procedures.

•   Can you identify ways in which discrimination against
    classes of bidding firms can enter into these five
    instruments?


8
      Additional considerations on
    procurement policy in developing
               countries
•   Presence of budgetary aid.
•   Tied aid: implications for spending patterns.
•   HIPIC initiative: commitments made by recipient
    governments with respect to expenditure policy.
•   Resource constraints and implications for implementation of
    certain procurement policy measures.
•   Size of national procurement markets (more on this later.)




9
       The forms of discrimination in
        national procurement policy
1. .

2. .

3. .

4. .

5. .



10
  Lack of transparency creeps in
 many ways in procurement policy
     Measure.              Potential sources of non-transparency.
     Announcements.        •No central public journal for
                           announcements.
                           •Imprecise specifications.
                           •No bulk purchases.
     Eligibility to bid.   •Imprecise criteria.
                           •Inability to demonstrate track record.
     Tendering.            •Unpublished or imprecise procedures
                           for each type of tendering and for choice
                           of tendering.
     Evaluation/Award.     •Role of intangible factors.
                           •Variable preferences.
     Bid challenge.        •Time for redress.
11                         •Uncertain legal standards.
 Summary on national procurement
            policies
• There are many many objectives for national procurement
   policy.
    – What questions does this raise?
• Procurement regimes are complex—certainly a lot more
   complex that tariffs and quotas.
    – Opens the possibility for outright discrimination and lack
      of transparency in national procurement policy.
    – What are the immediate implications for procurement
      reform initiatives, including those involving trade
      agreements?
• The answers to these questions give an indication of the
   challenges to come in devising procurement disciplines in
 12trade agreements.
 Factors influencing
national procurement
       reform
    Principles of Good Procurement
                  Policy
•    What?
1.   Efficiency (―value for money‖)
2.   Equality of opportunity to compete for state contracts
     (―non-discrimination‖)
3.   Transparency (―control corruption‖ and ensure
     accountability).
4.   Encouraging investments and partnerships (―public-private
     partnerships, etc).

•    Espoused by whom?
•    Leading development agencies.
•    Embodied in UNCITRAL too.
14
Cost-benefit analysis of improving
          transparency
• Costs: Establishing, operating, and enforcing clear rules
  requires resources.
• Benefit 1: Improving transparency reduces uncertainty for
  potential bidders (both domestic and foreign) that
  encourages them to compete for government contracts and
  lowers prices paid by state.
   – Research shows SMEs are especially responsive to
     reductions in uncertainty.




15
Cost-benefit analysis of improving
          transparency
• Benefit 2: Clearer procedures mean that firms need to
  spend less time and money being sure they have complied
  with specified bidding requirements. So, existing bidders
  have lower costs.
• In sum:
• No one denies improving transparency involves outlays—but
  the benefits include a broader set of suppliers and lower
  prices paid by the state.
• More bidders for state contracts, lower bidding costs, and
  lower prices paid by the state.


16
       Importance of competitive
              tendering
• A strong finding of research on public procurement
  practices is that increasing the number of bidders
  substantially reduces the price paid by the state—
  especially when initially 5 or fewer firms bid.
• If value for money is the objective, then the
  participation of the largest number of qualified
  bidders should be encouraged.
• Open competitive bidding places no a priori
  restrictions on who can bid—unlike other tendering
  processes.
17
          Small improvements in
     procurement policy would have
       large aid-equivalent payoffs
                                            Figure: What percentage of aid received would a 10 percent
                                                     increase in procurement efficiency yield?
                                  100
     Percentage of aid received




                                   75

                                   50

                                   25

                                    0
                                        0      3    6    9    12   15   18    21   24   27   30   33     36   39
                                               Number of developing countries (out of a maximum of 39 in
                                                                       sample)
18
    Different epochs in procurement
        policy and their rationales
•    Immediate post-WWII: closed national procurement
     markets
1.   Keynesian demand management (reduce marginal
     propensity to import).
2.   Activist industrial policies and ISI policies in developing
     countries.
3.   Outright protectionism and nationalism.
•    Later movement towards reform: liberalisation (albeit
     slowly).
1.   Budget squeezes from the 1970s in rich countries.
2.   Widespread privatisation of state-owned enterprises.
3.   ―Export politics‖ and reciprocal trade reform.
19
                      Table: Business people's perceptions of procurement practices in developing countries, 2001

                                                      Government decisions When deciding upon                               How commonly do
                                 The composition of
                                                      on the procurement of policies and contracts,  New governments      firms in your industry
                               government spending
                                                      advanced technology government officials      honor the contractual   give irregular extra
                                in your country (1=is
                                                      products are based on (1=usually favor well-   commitments and       payments or bribes
       Non-OECD economy        wasteful, 7=provides
                                                          (1=price alone,    connected firms and obligations of previous connected with public
                               necessary goods and
                                                        7=technology and      individuals, 7=are    regimes (1=not true,  contracts/investment
                               services not provided
                                                           encouraging       neutral among firms           7=true)        projects (1=common,
                                   by the market)
                                                            innovation)         and individuals)                                 7=never)
Argentina                                2.2                    2.9                   2.7                    5.0                     3.1
Bangladesh                               2.7                    3.0                   2.1                    4.1                     2.1
Bolivia                                  2.5                    2.4                   1.9                    2.9                     2.8
Brazil                                   2.7                    3.9                   3.0                    4.2                     4.0
Bulgaria                                 3.2                    3.5                   2.8                    4.3                     4.4
Chile                                    3.9                    3.8                   4.0                    5.3                     5.3
China                                    3.3                    4.6                   3.4                    5.1                     3.9
Colombia                                 2.3                    3.4                   2.3                    3.9                     3.7
Costa Rica                               2.9                    3.8                   3.3                    4.5                     4.2
Dominican Republic                       2.7                    3.4                   1.9                    3.2                     3.9
Ecuador                                  2.0                    2.6                   1.9                    3.3                     3.2
Egypt                                    3.9                    3.6                   3.8                    4.9                     4.4
El Salvador                              3.5                    3.1                   2.8                    4.0                     3.7
Estonia                                  3.6                    4.5                   3.3                    4.8                     4.4
Guatemala                                2.2                    2.7                   1.7                    2.2                     3.1
Honduras                                 2.2                    2.4                   1.8                    3.6                     3.2
Hong Kong SAR                            5.5                    4.4                   4.5                   6.3                      6.1
India                                    3.2                    3.8                   3.4                    5.1                     3.4
Indonesia                                3.1                    4.0                   2.6                    3.8                     3.0
Israel                                   3.7                    4.5                   4.1                   6.1                      5.9
Jamaica                                  3.2                    3.9                   2.6                    4.6                     4.4
Jordan                                   4.3                    3.9                   3.8                    5.4                     4.8
Latvia                                   3.2                    4.0                   2.9                    3.7                     3.8
Lithuania                                2.6                    3.4                   3.3                    3.5                     5.7
Malaysia                                 4.2                    4.4                   3.0                    4.6                     3.5
Mauritius                                4.1                    3.4                   3.4                    5.4                     3.4
Nicaragua                                2.3                    3.1                   2.2                    3.2                     3.2
Nigeria                                  2.7                    3.7                   2.0                    3.7                     2.3
Panama                                   3.2                    3.3                   2.3                    3.7                     3.4
Paraguay                                 1.7                    2.7                   2.6                    2.9                     2.6

20
                                                                Government decisions When deciding upon                                 How commonly do
                                         The composition of
                                                                on the procurement of policies and contracts,  New governments        firms in your industry
                                       government spending
                                                                advanced technology    government officials   honor the contractual     give irregular extra
                                        in your country (1=is
                                                                products are based on (1=usually favor well-   commitments and         payments or bribes
        Non-OECD economy               wasteful, 7=provides
                                                                    (1=price alone,    connected firms and obligations of previous    connected with public
                                       necessary goods and
                                                                  7=technology and      individuals, 7=are    regimes (1=not true,    contracts/investment
                                       services not provided
                                                                     encouraging       neutral among firms           7=true)          projects (1=common,
                                           by the market)
                                                                      innovation)         and individuals)                                   7=never)
Peru                                            2.8                       2.7                   2.9                    3.9                       4.2
Philippines                                     2.8                       3.4                   2.7                    4.8                       3.0
Romania                                         2.5                       3.3                   3.7                    3.2                       4.1
Russia                                          2.5                       3.6                   3.7                    4.0                       3.8
Singapore                                       5.9                       5.7                   5.1                   6.3                        6.4
Slovenia                                        3.3                       4.2                   3.5                    4.5                       4.1
South Africa                                    3.8                       3.9                   3.1                   5.6                        4.4
Sri Lanka                                       2.6                       3.5                   2.7                    4.1                       4.3
Taiwan                                          4.3                       5.1                   3.9                    3.6                       5.6
Thailand                                        4.3                       4.0                   3.5                    4.9                       3.7
Trinidad and Tobago                             4.1                       4.0                   2.7                    4.8                       4.2
Ukraine                                         2.1                       3.9                   2.1                    2.5                       2.9
Uruguay                                         2.9                       3.8                   3.6                    5.4                       4.4
Venezuela                                       2.2                       3.1                   2.6                    3.9                       3.5
Vietnam                                         3.1                       4.0                   3.0                    3.7                       3.5
Zimbabwe                                        1.4                       3.3                   1.9                    4.1                       2.5
Mean for these developing countries             3.1                       3.6                   3.0                    4.3                       3.9
Mean for the OECD economies                     4.0                       4.4                   4.2                    5.5                       5.3

Source: The Global Competititiveness Report, 2001-2002. Interview responses to questions above by business people familiar with a given economy.
Notes:
                                      signifies the reported value is less than the average for those developing countries reported here
number in italics                     signifies the reported value is more than the average for the OECD countries surveyed




 21
      Factors said to impede
 procurement reform in developing
            countries
•    Source: Hunja (2003).
1.   Deep vested interests and lack of political will to
     overcome them.
2.   Paucity of technical knowledge and capacity.
3.   Complexity of the substantive issues involved.

•    Relationship between procurement reform and across-
     the-board governance reform.
•    Role of IT and computerisation.
•    Necessity of support of highest political leaders.
22
   Size of national
procurement markets
     What goods and services do
            states buy?
• Goods: major item is office machines; telecom equipment;
  transport equipment.

• Services: construction; leasing; maintenance; health;
  education.
   – 70% of GDP, large share of total public demand.
• Distinction becoming blurred—government outsourcing—so
  part of what is wages = potential procurement.
• Share of services imports << goods.
• Technology that makes services tradable: e.g., call centers;
  diagnostics; BPO.


24
     Determinants of size of national
          procurement markets
• Underlying societal preferences that manifest themselves in:

•    Constitutional structure.
•    Role and size of the state.
•    Share of public sector enterprises in GNP.
•    Extent of tied aid.
•    Government propensity to buy:
      – Services.
      – Defence expenditure.


25
            Estimates of total size
• 2004: ‗Contestable market‘ in OECD some US $1.8 trillion
  (Excludes military and wages)
   – EU estimates = 10-15% of GDP or €1 to 1.5 trillion
       • 10% of this sourced from another country, i.e.,
          imported
       • But another 30% involves FDI – ―indirect cross-border
          trade‖
• US: +/- $700 billion.
• 25-35% of spending is by central governments
• Non-OECD: assume +/- 5% GDP = $400+ billion
   – NB: underestimate—often procurement is higher share of
     total expenditure in developing countries (30-40%)
• Is all this ‗available‘ for competition? No.
   – Thresholds, de jure or de facto; Policies; Politics
26
        Gov’t outlays, % of GDP
     (excluding wages and defence)
                 General   Central   Central as
                  Gov‘t     Gov‘t    % General
                 outlays   outlays    outlays
OECD,              7.6       1.8        23
without
intermediates
OECD, with         8.2      2.8         34
intermediates
EU without         8.0      2.5         32
intermediates.
27
                                       The skewed size of procurement markets
                                              in 106 Non-OECD nations
                            1000
Billions of dollars, 1998




                             100

                              10

                               1
                                   0   20          40          60          80        100
                             0.1

                            0.01
                                            Final Consumption Expenditure (FCE)
                                            FCE excluding compensation and defense



28
        Non-OECD procurement
     markets exceeding US$5 billion
                in 1998.
     More than US$5 billion and less than US$10 billion:
     Egypt, Morocco, Chile, Peru, Puerto Rica, Bangladesh,
     India, Israel, Kuwait, Malaysia, Singapore, Syria, United
     Arab Emirates.

     More than US$10 billion:
     South Africa, Brazil, China, Indonesia, Saudi Arabia,
     Russia.

     Source: OECD (2002a).
29
Economic analysis of
procurement policy in
      markets
               Introductory notes
• Analysis of discriminatory procurement policy started by
  Baldwin and Richardson (1972).
• Considered a partial equilibrium perfectly competitive market
  where
   – a government buys a homogenous good that is traded on
      world markets and
   – importantly, consumers can buy the same good as well
   – no tariffs or transportation costs (free trade assumption).
• Baldwin and Richardson showed that used certain
  circumstances there would be no effect of banning foreign
  firms from supplying the government.
• What are the implications for trade policy of this finding?

31
  Procurement ban: government
demand less than domestic supply
                                            INDUSTRY
          FIRM

 Price                          Price                  SH (P)

          MC     ATC


                             PW=PG=PC                            LSH (P)
     C*




                                                                 DT (P)
                                                       DG (P)

     O                                  O                       Quantity
                  Quantity

                             Figure 1


32
  Procurement ban: government
 demand exceeds domestic supply
                                                     INDUSTRY
          FIRM

                                                                 SH (P)
Price            MC                    Price
                                                                          SH2 (P)

                 ATC
                                         PG
                                                             D

     C*                                                                               LSH (P)
                                         PW              A       B        C



                                                                                    DT (P)
                                                                          DG (P)
                                                 G
     O                                       O       F
                       Quantity                                            Quantity

                                  Figure 2
33
 The effect on long-run equilibrium
  outcomes of a procurement ban
                            At initial free trade prices, Pw
                      DG (pw)<              DG (pw)> SH(pw)
   Variable:
                      SH(pw)            No free       Free entry
                                          entry
   Price                   0               +               0
   Domestic                0               +               +
   industry output
   Quantity of             0              -               -
   imports
   Key: 0: no change from initial pre-ban long run equilibrium;
34 — : Decline; + : Increase.
      Price preferences: government
         demand less than supply
          FIRM
                                                INDUSTRY

                 MC
 Price                                  Price
                                                             SH

                 ATC
                                   (1+ P) PW

     C*                              PW = PG


                                                              DT
                                                       DG
     O                                      O
                      Quantity                              Quantity

                                 Figure 3

35
      Price preferences: government
     demand exceeds supply (case 1)
          FIRM                                   INDUSTRY

                 MC                    Price                 SH   SH2
  Price

                      ATC
     PG                             Pw (1+)
                                         PG          D

                                            PW
Pw = C*                                          A       B        C


                                                                          DT
                                                                  DG
                                            O
     O                Quantity                                         Quantity


                                 Figure 4
36
      Price preferences: government
     demand exceeds supply (case 2)
         FIRM                                          INDUSTRY

Price           MC                           Price             SH

                     ATC

                                                 P*
                                            PW (1+)       D   E
 C*                                                                            LSH
                                                 PW    A       B    C


                                                                          DT
                                                                    DG

     O                                           O                  Quantity
                      Quantity

                                 Figure 5

37
       The effect of price preferences on short
       run and long run equilibrium outcomes
                                                   At Initial Free Trade Prices
                                  DG < SH                                            DG >SH
     Variable:                    Short &                  Short Run                  Long Run Impact
                                 Long Run                   Impact                   No entry            Free
                                  Impact
                                                                                                         Entry
     Price                                0                         +                   +                 0
     Domestic
     industry                             0                         +                   +                    +
     output
     Quantity                             0                         -                    -                    -
     imported
Key: 0: no change from the initial long run equilibrium without price preferences;    — : Decline; + : Increase.
38
   Nontradables: a ban on purchases from
  foreign-owned firms when demand is less
            than domestic supply
          FIRM                                    INDUSTRY

 Price
                                       Price   SH (P)
           MC     ATC
                                                        SF (P)


                                         C*                                LSH
     C*

                                                                          DT (P)
                                                                 DH (P)

                                                         DG (P)
     O                                    O
                 Quantity                                            Quantity



                            Figure 6
39
  Nontradables: a ban on purchases from
foreign-owned firms when demand exceeds
            domestic supply
          FIRM                                   INDUSTRY
                                                  SH (P)
                                   Price
 Price                                                      SF (P)
            MC

                 ATC


                                       PI

     C*                                C*    D    C                        LSH
                                                                       DT (P)
                                                              DG (P)
                                       PII            B
                                                           DH (P)
     O           Quantity               O                            Quantity


                            Figure 7
40
     The effect on long-run equilibrium
 outcomes of a procurement ban on foreign-
          supplied non-tradeables
                                                           At Initial Free Trade Prices, C*

                                                                                 DG (C*) > SH (C*)

Variable:                                                      Short Run and            Long Run
                                   DG (C*) < SH (C*)                                                  Long Run with
                                                                  Long Run                  with
                                                                                                          entry and
                                                                 without entry              exit
                                                                                                             exit
                                                                     or exit                only

Price paid by home                                                                                         0
    consumer                                  0                         -                    0

Price paid by                                                                                              0
    government                                0                         +                    +

Home Firm‘s output                            0                         +                    +             +

Foreign Subsidiaries‘                         0                         -                    -              -
   output

41          Key: 0: no change from initial pre-ban long run equilibrium; — : Decline; + : Increase.
     Impact of greater transparency:
             demand effects
                                                    S
                          Dg
               Dg1




          P2

          PW




                     Q1        Q3   Q2         QF



42                                  Figure 8
     Impact of greater transparency:
             supply effects
                     Dg                       S
                                                  S1




         P2

         PW




                Q1               Q2 Q4   QF


                      Figure 9
43
     Summary of main findings (1)
• Impact of procurement discrimination (and reform) depend
  on:
   – relative size of demand.
   – barriers to entry and exit (including policies towards
     foreign investment).
• Distinction between short and long run effects.
• Conditional nature of effects complicates policy
  recommendations.
• Unlike tariff cutting there is no reason to expect that it will
  lead to simultaneous improvements in market access and
  national welfare.

44
     Summary of main findings (2)
• Improving transparency in procurement policies can have an
  ambiguous effect on market access.
   – Export interests may be less interested in supporting this
     reform.
   – Implications for propensity to bring dispute settlement
     cases on transparency matters.
• Relationship of findings to the debate in the WTO between
  1996 and 2004 on the merits of multilateral rules on the
  transparency of government procurement.
• Caveats to this analysis.


45
Economic analysis of
procurement policy in
      auctions
 Theoretical analyses and simulations
   of price preferences in auctions
• There are few analyses of these matters.
• Recall auctions are analysed using game theory tools that
  take into account the strategic interaction between bidders.
• Each bidder‘s bid depends in principle on others‘ choices.
• Models are complicated and are normally simulated to
  establish findings for given parameters.
• In what follows we will discuss:
   – McAfee and McMillan (1989).
   – Deltas and Evenett (1997).
• As will become clear there is an analogy to the literature on
  strategic trade policy and the ―monopoly tariff‖ finding.

47
      McAfee and McMillan (1989)
• Consider an optimal auction where there a finite number of
  bidders.
• Each bidder knows their own marginal cost of supply, but not
  that of any other bidder.
• Each bidder knows the distribution from which it can assume
  the other bidders‘ costs are independently drawn.
• There are two types of firm: home and foreign. Each type
  has its own different cost distribution.
   – Generates an asymmetric auction.
• The government purchasing the good knows about the
  asymmetry too.

48
          McAfee and McMillan (2)
• The government decides to buy one (or more) unit of the
  good. Sets up an auction.
• Consider the case where the home firm and foreign firm‘s
  cost distributions are the same except that the mean of the
  latter is lower than for the former.
• They show that if the government wants to minimise the
  expected cost it will pay then it will discriminate against the
  foreign firms using a price preference policy.
• What logic underlies this finding?
• Why is it similar to what you have learned about the
  ―monopoly power‖ and the ―strategic trade policy‖ case for
  protectionism?

49
          McAfee and McMillan (3)
• The authors caution the reader: ―It should be stressed that
  our argument is purely normative. It does not explain the
  existence of price preference policies; their existence is more
  likely to be due to the political power of certain interest
  groups…procurement preferences have unexpected, and
  sometimes beneficial, side effects.‖
• ―Discriminatory preferences are not as costly as they
  appear…the zero preference is not the appropriate
  benchmark for evaluating the effects of these preferences.‖
• What is meant by this last remark?



50
          McAfee and McMillan (4)
• Second finding: Irrespective of any international differences
  in the bidder‘s cost distributions, if the government values
  domestic firms‘ expected profits as well as expected
  procurement costs, then the government will discriminate
  against the foreign bidders using price preferences.

• This is the classic profit shifting argument found in many
  models with imperfect competition between firms.
• How would you interpret this finding?




51
         Simulating the effects of
        discrimination in auctions
• McAfee and McMillan conduct a large number of simulations
  of the effects of discrimination in their optimal auction. Their
  simulations demonstrate that:
   – The maximum reduction in expected cost that
      discrimination can bring about is 2.5%.
   – Very small errors in the computation of price preferences
      can eliminate all of the benefits of this form of
      discrimination—and errors can readily raise expected
      procurement costs.
• Evenett and Deltas (1997) simulate the effects of raising
  price preferences in first price sealed bid auctions with only
  one domestic bidder and one foreign bidder—a setting
  where the profit-shifting motive should be strongest.
52
       Simulating the effects of
     discrimination in auctions (2)
• Evenett and Deltas (1997) found that increasing price
  preferences:
   – yielded at most a 2.5% reduction in expected profits.
   – resulted in substantial effects on the bids submitted by
     both firms
   – raised the expected profits of domestic bidders a lot—but
     not the expected probability of the domestic bidder
     winning.
   – errors in choosing the optimal price preferences very soon
     generate increases in expected procurement costs.
• Interpretation: Price preference policies generate the same
  political economy dilemmas that confront tariffs:
  concentrated benefits and diffuse costs.
53
 Comparing price preferences to other
  forms of discriminatory measures
• Governments use measures other than price preferences to
  discriminate against foreign firms in auctions including:
   – import content restrictions/domestic content requirements.
   – stronger de facto regulation of national regulations for
     foreign firms.
   – restrictions on ability to bid through a variety of selective
     or limited tendering procedures.
• First two of the above measures raises the costs of the
  foreign firm or bidder; last measure affects their ability to
  contest the auction in the first place.
• Can a ranking of the impact of these policies on expected
  procurement costs be established?

54
 Comparing price preferences to other
 forms of discriminatory measures (2)
• Deltas and Evenett (1997) show in their simulations that
  measures to raise the costs of foreign bidders cause the
  latter to raise their bids, in so doing raising both expected
  procurement costs (somewhat) and the expected profits of
  the domestic bidder (a lot).
• McAfee and McMillan (1989) show that increasing the
  number of foreign (or domestic for that matter) bidders from
  two to four reduce expected procurement costs by a lot.
   – Contestability of procurement matters.
• Simulations suggest the following ranking of policy measures
  in terms of increasing effects on expected costs: price
  preferences, cost increasing measures/discrimination, and
  selected or limited tendering.
55
                   Cost over-runs
• Occur when the actual cost of a project‘s implementation
  exceed its contracted or planned cost.
   – Much energy is spent by procurement officials to avoid
      this outcome, still…
• If cost over-runs by domestic firms are more likely to be
  bailed out by the domestic government, then domestic firms
  are provided with an incentive to lower their bids when
  seeking the state contract.
• Problem arises because a government may not be able to
  commit to a symmetric policy towards bail-outs, including
  potentially a policy of no bail-outs.
• See Mattoo (1997) for further discussion.

56
      Summary of policy implications
• Although departures from free trade can be theoretically
   justified, the use of price preferences does not seem to
   deliver much in terms of expected cost reductions.
• Worse, no government will have the information to choose
   price preferences optimally and there are big costs to making
   mistakes.
• Free trade (zero price preferences) then may still be a useful
   rule of thumb.
• The impact of price preferences on domestic bidder
   expected profitability strongly suggests that interest group
   considerations are likely to be very important in determining
   procurement policy.
• A clear ranking of the harm done by different procurement
57
   policies can be established; could guide trade negotiators.
   Is there a logic for
international collective
action on procurement
         policy?
 Rationales for international collective
                 action
• Market access based arguments: traditional reciprocity.
• How does the political economy of reciprocal procurement
  reform differ from that of tariffs?
   – Unilateral reform in both will probably garner less support
     than reciprocal reform.
   – Different conditioning variables (demand side, barriers to
     entry and exit, FDI policy).
   – Same potential for substitutability between discriminatory
     instruments.
   – Need to combine transparency reform with market access
     measures: to preserve the ―original bargain‖.


59
 Rationales for international collective
               action (2)
• What is the political economy of international collective
  action on transparency in procurement practices?
   – Recall such reform may cause more of domestic and
     foreign firms to bid.
   – Domestic exporters may support these measures if other
     barriers do not entirely block their access to foreign
     markets.
   – Points to the value of combining transparency and market
     access provisions in a multilateral initiative.
   – Casts the Doha Ministerial mandate on government
     procurement in a poor light: could be valuable (is half a
     loaf better than no loaf?) but more expansive mandates
     are better.
60
Empirical analysis of the
 effects of procurement
   provisions in trade
       agreements
      Evenett/Shingal analysis of
     Japan’s UR GPA membership
• Japan‘s economy stagnated throughout the 1990s.
• How effective has the UR‘s Agreement of Government
  Procurement been?
• Metrics:
   – Improved resource allocation/welfare.
   – Improved market access.
   – Preserved market access under pressure.
• Using Japanese submissions to the WTO procurement
  patterns in late 1980s were compared with those in late
  1990s.


62
     Finding 1: Snap shot of 1998-9
• Annual reported procurement: 36 bn SDRs
• 65.9% below GPA-specified thresholds.
• 25.0% above thresholds and not subject to limited
  tendering—measure of market size available to foreign
  competition.
• Contracts awarded to foreigners:
   – 1.39% services.
   – 13.41% goods.




63
     Finding 2: More below threshold
          contracts 1997 to 1999
• Percentage of contracts above threshold and not using
  limited tendering:
    – 1997: 26.6%.
    – 1999: 24.4%.
• Is this peanuts? Not in dollar terms.
• Amounts to 0.8bn SDRs—or over a billion US dollars.




64
     Finding 3: Fewer contracts are
         awarded to foreigners
• Proportion of contracts awarded to foreigners (by number):
   – 1990-1 26%.
   – 1998-9 24%.
• Proportion of contracts that are available for international
  competition:
   – 1990-1 91%.
   – 1998-9 86%.




65
     Finding 4: Market access would
          have been 25% larger
• Reported foreign contracts 1998-9: 769m.
• Additional contracts in absence of:
   – Falling share of above threshold contracts: 131.6m
   – Falling probability of foreigners winning a contract: 61.1m
• Total reduction: 192.7m.
• 25% of reported foreign contracts.




66
             Econometric analysis
• Observe the following two dependent variables in 19 sectors
  for 7 years:
   – Proportion sourced from abroad.
   – Proportion of contracts not using limited tendering.
• Years: 1990-3; 1997-2000.
• What factors determine these dependent variables and is
  there a break post UR?

• Answer: having controlled for other determinants, there is a
   statistically significant reduction in the share of procurement
   sourced abroad.
• Possible explanations for this finding.
67
    Evenett (1998) study of eliminating
      procurement biases in APEC
•     Studied likely impact on bilateral trade volumes of
      eliminating the following two distortions created by
      discriminatory procurement policy:
1.    Reduced demand for foreign produced goods.
2.    Increases demand for domestic goods and so reduces
      goods available to export.
•     Results:
1.    Only first channel is statistically significant.
2.    The expansion in trade volumes from eliminating
      discrimination is higher in the nations where the ratio of
      state demand to private sector demand for tradeables is
      higher.

68
 Summary and
implications for
 policymaking
                   Main findings
•    The very fact that there are many types of procurement
     policy objectives and instruments complicates matters.
•    Effects of procurement reform are contingent on other
     policies and state actions.
•    Effects of a single procurement reform are typically
     contingent on the other procurement policies a government
     employs.
•    Both of these points imply that:
1.   The political economy of procurement reform may differ
     from that of tariffs.
2.   There is a stronger case for trade initiatives that include
     more disciplines on procurement policies rather than less.
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