A Transactions Cost Economics (TCE) Approach to Optimal Contract Type
Abstract
This study examines defense acquisition through the new lens of Transaction Cost Economics (TCE). TCE is an emergent field in economics that has multiple applications to defense acquisition practices. TCE's original focus was to guide "make-or-buy" decisions that define the boundaries of a firm. The study reviews insights afforded by TCE that impact government outsourcing ("buy" decisions), paying special attention to defense procurement. The study offers a brief synthesis and review of current Defense acquisition practices. The Department of Defense (DoD) is a unique enterprise that relies heavily on outsourcing. Outsourcing transactions are governed using a wide variety of contracts that share risk between the government and the contractor. Cost, schedule, and technical performance are widely accepted as success parameters in public and private transactions. While recently enacted defense acquisition practices address many of the issues raised by TCE, a key concept called "asset specificity" seems to have been overlooked. The "lock-in" effect achieved by contractors that invest in specific assets, while benefiting the government in the short run, can haunt the government in the long run. The risk is that, after winning a bidding competition, a contractor that invests in specific assets might eventually become a sole supplier that "holds up" the government, resulting in higher costs, schedule delays, or disappointing performance. The authors discuss some new and old solutions to the "holdup" problem. They conclude by offering a number of insights for defense acquisition program managers generated by the new perspective of TCE. Whereas there is no universal template for the management and governance of complex and uncertain defense outsourcing relationships, TCE offers a valuable new perspective to improve the design and management of those relationships.
Document Details
- Document Type
- Technical Report
- Publication Date
- Apr 30, 2006
- Accession Number
- ADA498249
Entities
People
- François Melese
- John Dillard
- Raymond E. Franck
Organizations
- Naval Postgraduate School