Experimental Economics

, Volume 10, Issue 2, pp 143–167 | Cite as

Contracting inside an organization: An experimental study

  • Paul J. Healy
  • John O. Ledyard
  • Charles Noussair
  • Harley Thronson
  • Peter Ulrich
  • Giulio Varsi
Article

Abstract

In this paper we propose and test a contracting mechanism, Multi-Contract Cost Sharing (MCCS), for use in the management of a sequence of projects. The mechanism is intended for situations where (1) the contractor knows more about the true costs of various projects than does the contracting agency (adverse selection), and (2) unobservable effort on the part of the contractor may lead to cost reductions (moral hazard). The proposed process is evaluated in an experimental environment that includes the essential economic features of the NASA process for the acquisition of Space Science Strategy missions. The environment is complex and the optimal mechanism is unknown. The design of the MCCS mechanism is based on the optimal contract for a simpler related environment. We compare the performance of the proposed process to theoretical benchmarks and to an implementation of the current NASA ‘cost cap’ procurement process. The data indicate that the proposed MCCS process generates significantly higher value per dollar spent than using cost caps, because it allocates resources more efficiently among projects and provides greater incentives to engage in cost-reducing innovations.

Keywords

Mechanism design Cost sharing Moral hazard NASA 

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Supplementary material

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Appendix to accompany: “Contracting inside an organization: an experimental study”

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Copyright information

© Economic Science Association 2006

Authors and Affiliations

  • Paul J. Healy
    • 1
  • John O. Ledyard
    • 2
  • Charles Noussair
    • 3
  • Harley Thronson
    • 4
  • Peter Ulrich
    • 4
  • Giulio Varsi
    • 4
  1. 1.Tepper School of BusinessCarnegie Mellon UniversityPittsburghUSA
  2. 2.Division of the Humanities and Social SciencesCalifornia Institute of TechnologyPasadenaUSA
  3. 3.Department of EconomicsEmory UniversityAtlantaUSA
  4. 4.Office of Space ScienceNASA HeadquartersWashington, DCUSA

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