Under/Over-Investment and Early Renegotiation in Public-Private Partnerships

A public-private partnership requires specialized expertise during construction of an infrastructure. Construction completion is costlier if the firm invests more upfront and if the government replaces the firm beforehand; more investment makes the operating cost more likely to be low. With a renegotiation-proof contract, the government lessens moral hazard, unless this is severe or the incentives to renege in mid-construction are strong. In these cases, it is less costly to motivate the parties to execute, in operation, a contract that was renegotiated in mid-construction. Thus, the government offers a contract which leads to renegotiation in mid-construction to secure more investment.