Contracting out by the public sector: Theory, evidence, prospects

Unlike privatization, contracting out (or simply 'contracting') does not generally involve the sale of publicly owned assets. Yet it has been widely used as a mechanism for reform of public-sector service provision. Contracting introduces ex-ante competition-competition for the market through competitive tendering. This article examines both the theory and evidence of contracting by the public sector. It considers the theoretical conditions, such as contractual incompleteness and the ownership of physical assets, which may impede efficient contracting. It also reviews the international evidence which suggests that savings in the order of 20 per cent are achievable, without sacrificing the quality of service provided In the UK, savings of between pound 240m and pound 280m have been estimated for contracts let at the central government level. Substantial savings have also been generated by contracting at the local government level.