_Bidding for Concessions_ _Page 14_ However, it might be possible to reduce the risk premium for regulatory discretion by a formal system of re-bidding. To achieve this, one might organize the following re-bidding scheme. To ensure that creditor and investor interests are taken into account adequately, one could value the company on the basis of its debt and stock market capitalisation. Bidding would first be on the net worth for the firm. If more than one bid is higher than some pre-determined **12** price the bidding would switch to the lowest price to consumers . A bias would be provided in favor of the incumbent, but not an infinite or discretionary one. Instead one could give, for example, a 10 per cent preference such that the new bidder only wins if she can underbid the incumbent by more than 10 per cent. Such systems are used in bidding for more traditional contracts for equipment and civil works and have also been used in radio-spectrum auctions in the United States. This scheme would thus eliminate a fair degree of discretion on the part of regulators. A scheme of this type has been discussed as an option in reform debates for the Chilean water system.

# _Re-bidding to strengthen reputational mechanisms and to limit government discretion._

If one believes that concessions should be awarded competitively, then one should also reaward them competitively for the same reason, in particular, to limit discretion on the part of governments. The real issue is whether there should be a re-awarded in the first place. That, of course, is the very essence of concessions as property rights with special termination options for government.13 Termination is a threat to the concessionaire and should ideally be used to strengthen her incentives to behave well so that the threat may never be exercised. In this sense the design of termination and re-bidding options should be aimed at creating the strongest possible incentives for firms to develop and maintain reputation.

To achieve this, governments or regulators should allow bids only from reputable companies. Some form of pre-qualification is thus likely to be required.14 Companies that are interested in bidding for concessions in the future thus have an interest in maintaining a good reputation. Such interest in reputation appears to be quite effective in reducing companies' incentives to re-negotiate concessions capriciously. Zupan (1989) finds in a study of 3000 cable TV franchises in the US that opportunistic re-negotiation appears to have taken place in only 60 cases.

Assessing a company's reputation is often a subjective judgment. When tasks are contracted out by firms operating in competitive markets, the firm choosing the "concessionaire" has a fairly strong interest to judge reputation efficiently. However, where governments or regulated industries issue concessions such discipline may be absent. The issue is then first whether to allow government agencies to assess reputations. At one extreme procurement rules

**12** Such a bidding scheme has been proposed by Eduardo Bitran for water concessions in Chile inspired by a similar scheme for tollroad bidding.

**13** Note that governments tend to have emergency rights to confiscate all sorts of property e.g. houses, cars or food in times of war. One may again interpret this as a way of dealing with hold-up problems.

**14** De facto this is also the case in other markets. Over a decade ago a large construction and housing company, Neue Heimat, went bankrupt. It was purchased by a private individual with neither relevant business experience nor any noteworthy wealth for I German mark. Creditors of Neue Heimat saw to it that this transaction was undone.