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Incentive Procurement Contracts with Costly R&D

Tan, Guofu (1989) Incentive Procurement Contracts with Costly R&D. Social Science Working Paper, 702. California Institute of Technology , Pasadena, CA. (Unpublished)

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This paper provides a model of both R&D and production in procurement processes where firms invest in R&D and compete for a government procurement contract. The optimal incentive procurement contract is characterized to maximize the government's expected welfare. Explicit consideration of the R&D process changes the standard results in several ways. If the traditional Baron-Myerson (1982) type contract is used where there is costly R&D, the government buys too little from the contractor and pays too little. Raising the price paid encourages private R&D and raises the government's welfare. The form of the optimal procurement contract depends on the number of firms. With R&D and optimal procurement the government prefers more than one firm to invest in R&D and to bid for the production contract. But too much competition may discourage private R&D investment and leave the government worse off. Other features of optimal procurement and R&D expenditures are also discussed.

Item Type:Report or Paper (Working Paper)
Alternate Title:Entry and R & D Costs in Competitive Procurements and Contracting
Additional Information:Financial support from the Alfred P. Sloan Foundation, the John R. Haynes and Dora Haynes Foundation, and Li Ming Foundation are gratefully acknowledged. I would like to thank John Ledyard for motivation and very helpful discussions. I would also like to acknowledge comments from Kemal Guler, Preston McAfee, George Mailath, Richard McKelvey, and the participants in the seminars at the Caltech, University of Kentucky, University of Michigan, and University of Pennsylvania. Of course, the responsibility for any errors is entirely mine.
Group:Social Science Working Papers
Funding AgencyGrant Number
Alfred P. Sloan FoundationUNSPECIFIED
John Randolph and Dora Haynes FoundationUNSPECIFIED
Li Ming FoundationUNSPECIFIED
Series Name:Social Science Working Paper
Issue or Number:702
Record Number:CaltechAUTHORS:20170905-130852791
Persistent URL:
Usage Policy:No commercial reproduction, distribution, display or performance rights in this work are provided.
ID Code:81139
Deposited By: Jacquelyn Bussone
Deposited On:05 Sep 2017 22:59
Last Modified:03 Oct 2019 18:39

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