Renegotiation, discrimination and favoritism in symmetric procurement auctions

Abstract

In order to make competition open, fair and transparent, procurement regulations often require equal treatment for all bidders. This paper shows how a favored supplier can be treated preferentially (opening the door to home bias and corruption) even when explicit discrimination is not allowed. We analyze a procurement setting in which the optimal design of the project to be contracted is unknown. The sponsor has to invest in specifying the project. The larger the investment, the higher the probability that the initial design is optimal. When it is not, a bargaining process between the winning firm and the sponsor takes place. Profits from bargaining are larger for the favored supplier than for its rivals. Given this comparative advantage, the favored firm bids more aggressively and wins more often than standard firms. Finally, we show that the sponsor invests less in specifying the initial design, when favoritism is stronger. Underinvestment in design specification is a tool for providing a comparative advantage to the favored firm.