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Public-Private Partnerships and Prices: Evidence from Water

Distribution in France

Stéphane SaussierADIS GRJM– University of Paris XI Sceaux &

ATOM – University of Paris I Sorbonne

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Introduction A precise question: Should the State (or

local public authorities) contract with a private operator in order to provide a public service?

A large range of transactions can possibly be organized through PPP. Possible advantages:

1/lower capital constraints; 2/incentive-based contracts; 3/encouragement of innovation; 4/lower production costs (scale and scope

economies).

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Introduction The efficiency of PPP: remains an

unresolved question At the theoretical level:

TCT: Williamson 1976, Williamson 1999 ICT: Hart-Shleifer-Vishny 1997 ; Hart 2003 ; Bennett &

Iossa 2002. AT: Bentz & Grout 2002.

At the empirical level: Guash & al 2002, Estache 2003, Littlechild 2002,

Zupan 1989, …

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Introduction

The case of water supply in France Interest

Local public authorities - plenty of data One institutional framework Empirical studies not conclusive : DGS 1995,

DGCCRF 1997, IFEN 2000, Cour des comptes 1997, 2004.

An empirical paper A transaction cost economics approach

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I. A TCE approach

A TCE approach would stress a simple idea: « The common error to be avoided is to pronounce that governance structures are efficient or inefficient without reference to the transaction… there are transactions for which the firm is superior to the market, its bureaucratic disabilities notwithstanding » O.E. Williamson 2002, page 20.

Possible drawbacks of PPP : contractual costs

Transaction costs may, in certain situations, overcome advantages in terms of production costs

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What are the potential transaction costs?

Choice of the Private Operator

Competition for the field

Contract renewal

Competition for the field

Service specification Contract execution

t

I. A TCE APPROACH

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Franchising: problems to overcome ex ante

Specification of the franchised service and effective competitive bidding Imprecise specification• adverse selection problem (the winner’s

curse) • Small number of bidders Price and quality do matter Artificial or

obscure award criterion.

I. A TCE APPROACH

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Franchising: problems to overcome ex post

Risks of opportunism Delays in construction and provision Efforts to renegotiate the contract Lower level of quality than promised Absence of responsiveness to consumers’ needs Price increase

Risks of maladaptation Price-cost divergences Indeterminacies

Those problems are particularly important when the transaction is uncertain and needs high level of asset specificity

I. A TCE APPROACH

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Potential transaction costs: solutions exist!

Contractual solutions: Choice of the operator

Menu auctions Pre-qualification criteria Bids formulated in terms of a constant revenue stream

(E-F-G 02) Allocation of risk Minimum level of quality required

Execution stage Dissuasive but realistic penalty clauses Enforceable sanctions; Monitoring and accounting

procedures; Capacity of expertise ‘Open Book’ Policy – Yardstick competition ;

Information transparency

I. A TCE APPROACH

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Potential transaction costs: solutions exist!

Institutional solutions:

Credibility of the contracting partiesReputationInstitutional dotations (corruption, property

rights …)

Laws that constrain contractual choices and potential opportunistic behavior

I. A TCE APPROACH

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General conclusions from a TCE perspective

No institutional choice is better than another a priori.

The choice between PPP and direct public management depends on the characteristics of the transactions (asset specificity / uncertainty / complexity)

Recent developments show that solutions may exist that qualify PPP in many situations (Littlechild 2002; Engel, Fisher, Galetovic 02, …)

I. A TCE APPROACH

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II. Putting TCE to work:Data

Data sets coming from the French Environment Institute and the French Ministry of Agriculture

A representative sample of all the French local authorities

5,000 local authorities in 1998 Restricted to 4,443 observations in our statistics Restricted to 3,613 observations in our

econometric tests Account for more than 50% of the consumers The question: Price, cost and organizational

choices

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The case of water supply in France

French local authorities decide / not the State

A great variety of organizational choices

39%

3%

4%

51%

3%

Direct Management

IntermediaryManagement

Gérance

Lease contract

Concession contracts

TCE TO WORK

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Putting TCE to work:The case of water supply in France

Characteristics of transactions and potential transaction costs

Asset specificity Physical investments are specific (site specificity)

Complexity Mainly due to the difficulty of the treatments for producing

drinkable water (e.g. the quality of the water before treatment)

The difficulty of transporting water to the consumer (the density of population)

TCE TO WORK

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Institutional environment and potential transaction costs

Drawbacks of PPP resulting from contract incompleteness can be reduced by the institutional framework

The intuitu personae principle May avoid problems linked to the choice of the

operator (Bajari-McMillan-Tadelis 2003) Risk of corruption/collusion

PPP are « administrative » contracts An asymmetric position between contracting

parties Ex post renegotiations take place within a rigid

framework

TCE TO WORK

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In what situations could drawbacks overcome advantages of a PPP?

TCE TO WORK

Specific assets and complexity (Capacity to behave opportunistically)

+Complexity of water treatments

density of the network per inhab.

-

- + Attractiveness, reputation, internal capabilities

(Capacity of the local authority to cope with opportunism) Size of local authorities

Direct Management Lease

Lease (if possible) Direct Management

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The case of water supply in France

The use of PPP

TCE TO WORK

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The case of water supply in France

Prices (for one cubic meter in francs) and geographical areas

TCE TO WORK

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Prices and organizational choices: a first look

Organizational choices Mean (PRICE)

DIRECT MANAGEMENT 116,81

LEASE 148,8CONCESSION 141,61

INTERMEDIARY MANAGEMENT

156,12

GERANCE 201,23

In euros for 120 m3, without tax

Two possible interpretations Collusion prices - PPP are inefficient because of ex ante transaction costs PPP are specialized on complex transactions - PPP are efficient

Prices for local authorities that do not contract out the service are lower

The price difference between lease and direct public management is 32 €

TCE TO WORK

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Prices and organizational choices: an econometric test

TCE TO WORK

Other control variables used in the econometric study: the area (France is divided in 100 “departments”); the technology used in measuring and controlling links on the network; the organizational choice made concerning the cleaning of used water

+

VARIABLES DEFINITION MEAN MIN MAX Observations

PRICEPrice in euros, for production and distribution of water, taking

into account fixed fee but not taxes139,67 0,16 391,58 3613

DIRECT MANAGEMENT Takes value 1 if the local authority operates the service itself 0,36 0 1 3613

GERANCE Takes value 1 if the local authority signed a gerance contract 0,044 0 1 3613

INTERMEDIARY MANAGEMENT

Takes value 1 if the local authority chose the intermediary management solution

0,038 0 1 3613

LEASE Takes value 1 if the local authority signed a lease contract 0,53 0 1 3613

CONCESSION Takes value 1 if the local authority signed a concession contract 0,025 0 1 3613

TREATWOTakes value 1 when raw water does not require desinfection

treatment0,017 0 1 3613

TREATA1Takes value 1 when raw water needs a soft desinfection

treatment 0,53 0 1 3613

TREATA2 Takes value 1 when raw water needs a desinfection treatment 0,18 0 1 3613

TREATMIXA3Takes value 1 when raw water needs a heavy desinfection

treatment & other kinds of treatment (A1 or A2 because water comes from different sites)

0,028 0 1 3613

TREATA3Takes value 1 when raw water needs a heavy desinfection

treatment0,14 0 1 3613

UNDERGROUND WATER Takes value 1 when water origin is underground 0 1 3613

TOURISTIC AREATakes value 1 when the area where water is distributed is a

touristic area0,13 0 1 3613

INHABITANTS Number of inhabitants concerned by the contract 7795,75 12 800 550 3613

INVST PROGRAMTakes value 1 when the contract specifies an investment

program0,53 0 1 3613

EXTENSION Number of Km of network developed to extend the network 2,79 0 323 3613

REPLACEMENT Number of Km of network developed to replace the network 4,01 0 516 3613

LEAKRATIO Volume of lost water / size of the network 0,07 0 11,5 3613NUMBER OF STATIONS Number of stations needed to distribute water 0,84 0 112 3613

INTERCONNECTIONTakes value 1 if the local authority is interconnected with

another one0,57 0 1 3613

LIMITATION OF WATER VOLUME

Takes value 1 if consumed volume of water is constrained by reglementation

0,05 0 1 3613

LOG VOLUME PER INHAB. Ln (Volume of water consumed per inhabitant) -0,43 -2,26 2,64 3613LOG LINE-INHAB Ln (Number of Km of network/number of inhabitants) -2,11 -9,42 1,62 3613

INDEPENDENCE RATIOTotal volume distributed / (total volume distributed + imported

volume)0,89 0 1 3613

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Prices and organizational choices: an econometric test

«Naïve» OLS equation, controlling for other parameters than organizational choices that may have an impact on prices:

€

PRICEi =αZi+βORGi+const+εi

TCE TO WORK

R2 = 0,50 Lease contracts account for 27 € in the price (average bill of 140 €)All types of PPP lead to an increase of price paid by the consumer

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Prices and organizational choices: an econometrical test

Cost structure might be different from one organizational choice to another

We estimate 2 equations:

Possible selection bias Organizational choices are not randomly chosen TCE

propositions Heckman Method€

π1i =αZi+ε1i (1)

€

π2i =βZi+ε2i (2)

TCE TO WORK

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In what situations could drawbacks overcome advantages of a PPP?

Robust probit estimate of lease vs. direct public management

Complex transactions (complex treatments, low density of population) are more probably organized through lease contracts

Non-linear effect of the population size More than 75% of observed choices

accurately predicted

TCE TO WORK

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Prices and organizational choices: an econometrical test

Table 8. Estimated average prices for each governance choiceDirect Management

observationsLease Contracts

observationsEstimated prices (n=1099) (n=1865)

Mean price if all services are provided through Direct

Management114,99 136,61

Mean price if all services are provided through Lease

Contracts124,11 148,8

Correcting for selection bias, direct public management is still the most efficient organizational choice

However the price difference between lease and direct public management decreases again (About 10 €)

TCE TO WORK

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The impact of mis-specified modes of organization

Do transaction cost propositions affect performances? Do organizational choices matter? “Theoretical” Misfit variable defined as equal

to 1 as soon as local authorities do not respect TCE propositions (focus on complex transactions).

13% of our observations do not fit TCE propositions

TCE TO WORK

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The impact of mis-specified modes of organization

Local authorities that did not choose modes of organization that correspond to a TCE prescription have higher prices.

This result is true whatever the « direction » of the error.

This result confirms previous recent works that attempted to connect organizational choices and performances through the lens of TCE in Strategic Management fields (Masten et al. 91, Leiblein et al. 02, Mayer et Silverman 02, Sampson 04, Nickerson et al. 97, Mayer 00, Yvrande 04, Bigelow 03, Nickerson et Silverman 04)

TCE TO WORK

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Conclusions and perspectives

Organizational choices matter! Transaction costs matter! More general conclusions concerning the

relative efficiency of public-private partnerships Limits concerning our results to be resolved

What about contractual choices? What about price and efficiency? Price is questionable Other measures of efficiency (quality,…)