Leadership Turnover, Transaction Costs, and External City Service Delivery

One of the more controversial and contentious issues regarding municipal service delivery in recent years is the decision to contract out, "privatize," or employ some other form of external delivery of particular services. This mode of service delivery has been promoted as a means of providing services more efficiently and effectively (see, e.g., Hanke, 1987) and sometimes as a way of providing services that otherwise could not be provided at all (DeHoog, 1984). On the other hand, contracting out has been accused of providing services of lower quality, of exploiting government employees, and of denying constitutional protections both to those who should receive government services and to those who deliver them (Goodsell, 1986; AFSCME, 1977; Sullivan, 1987; Moe, 1987). With such strong and different positions about both the empirical and normative implications of external service delivery, it is no wonder that the topic has stirred up quite a political controversy. This article does not directly address this controversy, but instead examines how political and administrative instability within cities affects the decision to deliver services indirectly. In doing so we make the case that political turmoil, represented by leadership turnover, affects the costs of negotiating, enacting, and enforcing the provisions of a contract or informal agreement between government and an external supplier of a service (Prager, 1994). When such transaction costs rise too high, we expect either that governments will not seek to contract out a service or that it will be unable to find an external supplier that will accept responsibility for a government service without demanding an unacceptably high risk premium. In the first section of this article we briefly survey prior research on the decision to deliver services through an external provider. The second section discusses how political conflict can cause "privatization failure" (Sappington and Stiglitz, 1987) because of the uncertainty and opportunities for reneging on agreements that are afforded by rapid turnover in office. In short, we argue that political conditions may cause external delivery to become an inefficient and unpopular means of providing services. This argument lies squarely in the tradition of transaction cost explanations of vertical integration and contractual choices in private firms. We next discuss a quite different argument about the implications of political conflict derived from the research on legislative delegation of policy-making authority to bureaucratic agencies. The third section describes a test of a model of municipal service decisions using data derived primarily from the International City Management Association's 1988 survey of government service delivery patterns. We conclude by discussing the implications of that analysis. Factors Affecting Delivery Decisions Advocates of privatization have long argued that governments can provide services more cheaply through private providers than through direct in-house delivery. This advantage is said to derive from the motivation induced by a competitive market, profit motives, the less restrictive managerial and personnel practices in the private sector, and the lower labor costs generally found for unskilled and semiskilled labor outside of government. Critics of privatization have questioned this general argument, but some studies have found that for several local government services, contracting out is less costly than direct government delivery. [1] In light of this, it is not surprising that fiscal considerations seem to be among the most important factors in determining whether local governments contract out services. Research by Ferris and Graddy (1986) and Morgan and Hirlinger (1988), for example, indicates that wage differences between the public sector and private service workers within a local labor market are strong predictors of contracting decisions. …