(1) A concession is an alternative to privatisation as a means of transferring the responsibility for operating state-owned assets to private hands. It is often employed in a natural monopoly where competition is difficult or impossible, so as to provide artificial competition for the market, which provides many of the same benefits for consumers.
eg. A concession could be granted to operate an airport, for example, or to provide water to a municipality. There could be many parameters to the concession, including specification of tariffs, of investment, of levels of service or of fees to be paid to the government. The agreement is of limited duration, typically from 5 to 30 years. Usually, a concessionaire pays a fee to the concession-granting authority and then makes investments and collects payments from users over time.
Governments enter into concession agreements for various reasons, among them to raise revenue and to achieve efficiencies by placing operation of the assets in private hands.
Concessions are not a substitute for regulation, however, and they may be accompanied by the creation of an appropriate regulatory regime.
Finally, in certain situations privatisation or concessioning may not be preferable to continued public provision. eg. where the assets are natural monopolies, when the opportunity for cost reduction stemming from reductions in quality is high and there is no way to reward quality improvements.
(2) The design of a concession is a critical first stage in the process. It should be done in a way that maximises the opportunity for competition.
Designing a concession is a highly complex undertaking, possibly involving many
considerations, the main one, to maximise competition. This may require, for example, a vertical split – separating the operation of any natural monopoly component from other parts of the sector where competition is possible. It may require a horizontal split – creating more than one entity to operate in competitive segments of a market. Here there may exist tension between the goal of providing for competition post-award and the government’s goal of realising maximum revenue from the concession.
Another factor in the design is the length in time of a concession contract. A longer period – say, 30 years – would encourage the concessionaire to make necessary investments in the
infrastructure at the beginning of the period, but that incentive diminishes near the end of the
period. There has been some experimentation with shorter periods, especially where
there is considerable uncertainty about future market developments. A shorter period places the burden of that uncertainty on the government in the short run, but it will increase certainty in the competition for the subsequent concession.
Concessioning may take place to aid the creation of a new sector regulator. It is important that the regulator, if there is to be one, be created before the concession is awarded, again to reduce uncertainty.
(3) The second stage in the process is the award of the concession. Again, it is a highly critical one. It is at this stage that competition for the market occurs.
Economic literature points strongly toward auctions as the most effective means of awarding
concessions. Designing the auction is critical, however. A faulty auction design will negate the
potential benefits of the process. One important factor in this regard, of course, is to minimise
the opportunity for collusion among bidders. Opportunities for signaling among bidders should be reduced.
<> cocoo.uk may research auction houses’ designs to identify anticomps
Measures should also be taken to maximise entry, that is, to encourage the participation of as many bidders as possible.
This can include wider advertisement of the auction, reducing the cost of bid
preparation and reducing informational advantages of incumbents.
Other means of awarding concessions are negotiation, either with more than one applicant
simultaneously or sequentially, and a “beauty contest,” or evaluation of competitors on the basis of pre-defined criteria, such as technical expertise, financial viability and network coverage.
government negotiators are sometimes disadvantaged as against their private sector counterparts, perhaps both because they lack
important industry expertise and because their goals are more diffuse than those of the private sector, which focuses solely on maximising profits. Further, corruption is a distinct possibility in some countries. It should be frustrated as much as possible by, for example, a formal, transparent award process and vigorous enforcement of anti-corruption laws.
<> cocoo.uk may research tender award processes, to identify anticomps
The award should minimise as much as possible the opportunity for renegotiation post-award by the winning bidder. Such renegotiations can negate the benefits of the competition at the award stage. The concessionaire may be in position to “hold up” the government in renegotiation if reopening the award process is not feasible. Of course, since concession contracts are incomplete, that is, not all terms of the arrangement can be known at the time of the award, renegotiation may be inevitable to some extent.
(4) The competition agency should be involved in the concessioning process, preferably as early as possible through competition advocacy in the design and award stages.
The competition agency has important expertise that can be applied early in the concessioning process. It can assist the concessioning agency in designing the structure of the concession to maximise post-award competition. It can advise on the award process, particularly in the selection of the most efficient means of award and on minimising the opportunities for collusion.
If the process includes the creation of a regulatory regime, the agency can provide input there as well, for example on the most efficient type of price regulation. Its cadre of expert micro
economists may be unmatched elsewhere in government. It will not be sufficient for the agency merely to say, “Competition is good,” however. It must strive to acquire some technical
expertise in the sector involved, both to give the agency credibility and to enhance the usefulnessof its advice.
(5) Finally, the competition agency must vigorously enforce the competition law throughout the process. There should be no exemptions or exclusions from the competition law in sectors where there are concessions – the competition law should apply fully to them. The competition agency should of course be alert to the possibility for collusion at the award stage as well as post-award, in those parts of the sector where competition exists. Where the concessionaire is a monopolist the agency may have occasion to apply the abuse of dominance provisions of the competition law to its conduct, particularly where the conduct is exclusionary.
Finally, the merger control law may apply, either to horizontal mergers between competing concessionaires or to vertical acquisitions by monopolist concessionaires that could have harmful effects in competitive markets.
Concessions have been extensively used in both developed and developing
economies for infrastructure to provide socially significant services such as water, transport,
telecommunications and electricity.
Citizen-consumers do not always perceive benefits from concessions. Particularly when the change is accompanied by reduced subsidy or correction of underinvestment, tariffs have sometimes increased after the introduction of a concession. Discontent with such tariff increases has been further fuelled when foreign multinationals are the concessionaire.
While concessions are not always capable of achieving stated government policy goals, increased focus on competitive conditions can improve the performance of the process. The purpose of this note is to discuss the main elements for the design of the concession allocation process and identify the competition problems that may arise during the term of a concession. The design and oversight of concession contracts is particularly complex. Reasons for this complexity include:
• Concession contracts necessarily do not cover all contingencies. They are “incomplete” in
economics terms. Uncertainty about costs and revenues cannot be entirely resolved in advance. The uncertainty opens the contracts for renegotiation with its attendant negative consequences.
• Both concessionaires and governments can find it difficult to respect concession contracts over the term of the contract. Concessions typically involve large sunk investments that must be recovered over long periods, on the one hand, and governments are under pressure to maintain or improve services, on the other hand.
Thus, there is a risk that governments behave opportunistically after concessionaires sink their costs and there is a risk that concessionaires behave opportunistically when governments have no immediate alternatives.
• Concession contracts often involve the creation of a privately operated monopoly which may, in itself, create competition problems. These may be reduced through a change in the structure of the concession or through ongoing price regulation. Introducing a regulatory structure before a concession auction can reduce uncertainty among bidders.
concessions for the exploitation of natural resources are interesting.
• The success or failure of competitive auctions to award a concession to the most efficient
operator can depend on subtle variations in design. Transactions costs—the lemons problem, in which buyers cannot assess the value of the object for sale so the market does not exist—impede selling on a concession to a more efficient operator after a faulty auction awards it to an inefficient operator.
The award of a concession should take place within a broader regulatory reform of a sector. Such a reform should include clarifying the service objectives and revenue sources, thereby uncovering cross subsidies that must be addressed in the concession design. Reform also often should included addressing how the sector will be governed during the long period after the concession has been awarded: where competition would be feasible and desirable, what sector-specific laws and regulatory institutions need to be established, and the application of competition law.
Competition authorities take an interest in concessions because, through advocacy, authorities may promote the use of a more competitive allocation process which in turn may increase economic efficiency, one of the standard objectives of competition authorities. Authorities may also be able to influence auction design in a way that reduces the possibility of collusion. Competition authorities may also promote better concession design which in turn might reduce subsequent harm to the competitive process such as through
denial of access to essential facilities.
<> cocoo.uk v ec.cma, as they failed to promote the use of a more compettive allocation process, thus they failed a duty to increase ew, when it was possible.
key points:
• The design of a concession or concessions is constrained by the regulatory regime that will apply to the concession, the potential for renegotiation of the concession contract, and the feasible way of awarding the concession or concessions.
• The key objectives in auction design are attracting bidders, preventing collusion, and ensuring the integrity of the auction. Auction theory shows that attracting an additional bidder makes the auction more competitive. Theory also shows that an auction with N+1 bidders will always provide a higher price than any negotiation and any feasible auction with N bidders. In other words, if just one more bidder can be attracted to an auction than can be attracted to a negotiation for the same object, then the auction is more competitive. Therefore, auctions are in general preferred over negotiations and beauty contests.
• Designing a successful auction that identifies the most efficient operator is difficult and requires expertise. The examples of successes and failures of auctions can offer some warnings, but are not a substitute for analysis of the actual situation.
• Renegotiation, whether due to contact incompleteness or opportunism, can eliminate the benefits of a competitive allocation mechanism; essentially, the winner of an auction will be the best negotiator not necessarily the best infrastructure operator. In particular, renegotiation means that agreements made by competitive award are superseded by the terms agreed in bilateral, nonpublic negotiations between concessionaire and government. Strenuous efforts should be made to restrict renegotiation to situations where renegotiation is not opportunistic, that is, to situations where unexpected events, outside the control of the parties, have occurred.
Contracts are incomplete when they are complex or do not specify what happens under all contingencies.
Of course, all contracts are to some degree incomplete; cocoo.uk will use the courts and other means of arbitration, to “fill-in the gaps.”= identify incomple concession contracts, and seek damages for consumers, and voidance or rescission.
• In sum, both an efficient allocation mechanism, such as a well-designed auction, and credible commitment to the resulting contract are necessary.
• Concessioning is not a substitute for regulation. Where a concessionaire will have substantial
market power, then a regulatory structure is likely needed. In any case, competition law should apply to concessionaires as well as to any auction to award a concession.
This note begins with a review of the key economics literature and a review of empirical
experience with concessions. The remainder covers the main steps in putting a concession into place:
• Award of the concession–the design of the mechanism by which the concession is awarded,
with an emphasis on competitive award mechanisms.
• Performance of the concession—the problem of renegotiation and an overview of the standard competition issues that might arise in concessioned sectors.
• Design of the concession—the main contract elements that are constrained by the award and performance of the concession.
Concessions: What they are and what is the experience
a. If there is a single product, uniform pricing, all bidders have access to the same technology and can produce efficiently, and the number of bidders is sufficiently high, then the bidders would compete away any excess profits and the winning bid will be the minimum price that allows the firm to break even, i.e., earn normal profits. This is
a good outcome in the sense of choosing an efficient supplier who will supply at average cost. However, there may be substantial welfare losses by not pricing at marginal cost.
b. If there is more than one product then there is no best way to choose the winning bid. And, as will be explored later in this note, the winner of the competition may try to cheat on the quality provided and attempt to renegotiate the contract.
Regarding incomplete long-term contracts (the type of greatest interest for concessions)…
three main points.
First, the initial award criterion is artificial or obscure. Once there is
more than one dimension to a bid, e.g., price and quality, or peak-off-peak prices and quality, the criterion by which a winner is chosen is arbitrary.
Second, the steps needed to overcome contract execution problems—adjusting prices to reflect changing costs, specifying quality of service, stipulating monitoring and accounting procedures—converge franchise bidding toward regulation..
Third, for there to be meaningful competition when the contract is re-bid, the incumbent—the winner the first time—must not gain substantial advantages. But this is unlikely, thus, franchise bidding for incomplete long-term contracts is a very dubious ua
repeated experience has demonstrated—what should have been always apparent—the good citizens ongoing failure to even notice that their duty ends not with the successful enactment of constitutional laws, statutes, charters, concessions, etc.
<> cocoo identifies good citizen’s failures
Governments introduce concessions to increase the efficiency of infrastructure by applying private sector expertise in investment, management and operation, as well as to raise cash. Concessions may change who—government, concessionaire, users—bears risk and uncertainty…..But concessions are incomplete contracts (i.e., not all contingencies are provided for in the contract) and it is difficult for governments and private companies to commit to those contracts (renegotiation is relatively common).
Concessions are a source of popular discontent in developing countries as citizen-consumers have felt abused by foreign multinationals due to “The failure of users to benefit
from a significant share of those efficiency gains [from private as compared with government enterprises]
What is a concession?:
“A concession grants a private firm the right to operate a defined infrastructure service and to receive revenues deriving from it,” in the words of one expert. It might be the right to operate a water system or a cable television system in a municipality, or to use a part of the electromagnetic spectrum.
Usually, a concessionaire pays a fee to the concession-granting authority, and then incurs
investment expenditures and collects payments directly from users over time. At the end of the concession, there could be compensation for investments that have not been fully amortised.
Concessions differ from privatisation in three main respects:
First, the physical assets remain owned by the state, even though the use of the assets and the operation of the enterprise are transferred to the concessionaire.
Second, concession contracts are of limited duration, typically 15-30 years.
Third, the government typically retains closer oversight of concessions.
Types of Concessions
— Lease and-operate (or affermage), “the private contractor is responsible at its own risk for provision of the service, including operating and maintaining the infrastructure, typically against payment of a lease fee.”
— concession stricto sensu, “the private contractor is also responsible for building and financing new investments. At the end of the concession term, the sector assets are returned to the state (or municipality). The term BOT (build-operate-transfer) are greenfield concessions, and ROT are concessions in which investments entail rehabilitation (hence the “R”) rather than construction.BOO (build-own-operate) is a similar scheme, but does not involve transfer of the assets.
— Divestiture, “the transfer to the private sector of the ownership of existing assets and the responsibility for future expansion and upkeep.”
Why use concessions? :
Concessions are an alternative to privatisation when it is not feasible for political or
legal reasons. Concessions are generally followed by regulation but, under certain circumstances, substitute for regulation. There is empirical support for substantial efficiency gains from concessioning, but has been marred by substantial renegotiation which dissipate the gains.
Arguments for concessioning [over state provision] are that
(1) if awarded via a competitive process then the more efficient operator will be chosen
(2) the process facilitates regulatory oversight by revealing some potential providers’ private information
(3) the regulation increase cost efficiency over time. during the designing of the concession, information can be exchanged
Arguments against concessioning:
(1)- is very hard to impose a hard budget and quality constraint on gov or gov-owned companies—thus, efficiency is not promoted.
(2)-concessions require complex design and monitoring systems,
(3) it is difficult to enforce contracts and to limit contract renegotiation—a notion that
includes both lower-than-contracted service quality and higher-than-contracted tariff increases—
(4) there are insufficient incentives to invest or perform maintenance near the end of the contract. where there are significant externalities or universal service
requirements, investment and performance, cannot be effectively monitored by a regulator.
Allocating concessions:
Auctions
The assumption is that the highest bidder will be the person/company who places the highest
value on the concession, and that will, on average, be the person who can operate it most efficiently….But poor auction design can thwart this line of reasoning, and sometimes
the auctioneer does not desire the most efficient operator. Also, where the choice depends among a number of weighting systems e.g., coverage, quality and price—the assumption does not work.
auction theory provides 3 main lessons:
1• The best kind of auction for selling an object or a concession depends on the specific
circumstances. (Examples of circumstances that matter include bidders’ risk aversion and
whether the private information other bidders have about an object is relevant for how much a bidder values it—ie, whether they would all value the object the same if they all had the same information. A key feature of auctions is asymmetric information between bidders
2• Extrapolation from single good auction, to multiple goods auction, is difficult and error-prone. (The 3-G mobile phone licenses in European countries were examples
of multiple good auctions.
3. attracting more independent bidders—is the most important factor when designing auctions
Definitions: The Four Standard Types of Auctions:
1) ascending-bid auction (also called the open, oral or English auction) in which the price is raised until only one bidder is left, and that bidder wins at the final price
2) descending-bid auction in which the auctioneer begins with a very high price which is lowered until a bidder announces that he accepts the price, and that bidder wins at that price.
3) first-price sealed-bid auction in which each bidder submits a single bid, no bidder sees what the others bid, the object is sold to the highest bidder at the price he has bid.
4) second-price sealed bid auction (also called a Vickery auction after its inventor) which works like the first-price sealed bid auction but the winner pays not what he bid but instead the amount of the second highest bid.
The value of winning the contract may depend only on the bidder’s characteristics, like their own costs. This is called a private value auction.
Alternatively, the value of winning the contract may depend on factors affecting all bidders, such as consumers’ willingness to pay and regulators’ future behaviour. This is called a common value auction.
Collusion is easier in an open auction since bidders can immediately detect cheating on a cartel agreement and punish it.
when auctioneers are corrupt and share sealed-bid information with other bidders, transforms the sealed-bid auction into an open auction as bidders can learn about others’ bids and change their own.
Entry by weaker bidders is promoted by sealed-bid auctions as compared with an open auction…the intuition is that weaker bidders will drop out of an open auction,
therefore realise they may as well not enter at all, but that they have a chance of winning a sealed-bid auction.
Second-price sealed bid auctions have the advantage of duplicating the outcome of an ascending bid auction, but without the cost of assembling bidders.
Preventing bidder collusion:
strategies for preventing bidder collusion:
interrupting signalling (to impede bidders reaching an understanding)
helping cheaters on a cartel to avoid detection
helping cheaters to defer the cartel’s punishment.
promoting entry also discourages collusion both by increasing numbers and by obscuring identities—we all know the incumbents, but who might enter?
Finally, collusion can be deterred by the credible threat of significant penalties. Sealed bid auctions are better than ascending bid auctions in this respect, since bidders cannot use their bids for signalling and cartelists cannot immediately detect a cheater and punish him.
The design of the auction affects signalling. Signalling allows bidders to identify what they wish to win, to threaten what they will do if thwarted, and thereby to reach an understanding of who will win what. Signalling can be done in a number of ways.
For example, signalling can take place in the newspapers (“I’ll be satisfied with just two of the 12 blocks of frequency on offer,” “If the [five other bidders] behaved similarly it should be possible to get the frequencies on sensible terms,” but “[I] would bid for a third frequency block if one of [my] rivals did”).
Signals can even be contained in the bids, e.g., using the last digits in a bid amount to identify a lot in which the bidder is interested.This actually occurred in some of the telecommunications license auctions in the United States. This form
of signalling can be prevented by prohibiting bids not in round numbers or by the auctioneer specifying the bid increment. Another form of signalling used in the FCC auctions was withdrawing a bid [ use withdrawals to propose a split]. Rule changes limited
withdrawals to two rounds.
Collusion is reduced if bidders’ identities are not revealed. If bidders know others’
identities, then they can retaliate and cooperate across auctions. Further, bidders can intimidate others. eg small bidders avoided bidding against large bidders, to avoid retaliation. If small bidders avoid large bidders, then it makes any collusion among large bidders easier to reach and more effective.
Joint bidding arranged close to the auction date reduces competition without allowing potential entrants time to respond and compete against the cooperating bidders, thus has an economic effect like open collusion. This problem can be addressed by prohibiting joint bidding arrangements announced close to the auction date.
Reserve prices can affect collusion. A high reserve price changes the calculation of a potential
cartelist: With a low reserve price the choice is between colluding to end the bidding early at a low price and bidding longer and higher. With a high reserve price, the first alternative—collusion—is relatively less attractive because the lowest collusive price—the reserve price—is higher. In the extreme, if there are valid suspicions of collusion or not enough bidders show up, it may be reasonable to cancel an auction. Such a policy would need to be pre-announced to limit strategic conduct.
In addition to the direct methods for making collusion more difficult—interrupting signalling,
prohibiting joint bidding arrangements near the auction date and increasing reserve prices—effective competition law may deter collusion. Indeed, it may be possible that larger penalties can be available in concessioning when there is a requirement that the bidder affirm to the government that he has not participated in any collusion in the bidding process. If the same firms may also bid in future procurement or other concessions tenders, the threat of debarment from future government contracts may be effective deterrence.
concession tender Criteria:
− time constraints for establishing and (or) reconstruction of the object of a concession
agreement;
− period from the day of signing of concession agreement till the day when created and (or)
reconstructed object of concession agreement will conform the stipulated technical-economic
indicators of the concession agreement;
− technical-economic figures of the object of concession agreement;
− volume of manufacturing the goods, doing works, rendering services when performing the
activities, envisaged by a concession agreement;
− period from the day of signing of concession agreement to the day when manufacturing the
goods, doing works, rendering services when performing the activities, envisaged by a
concession agreement will be executed in the scope, stipulated by the concession agreement;
− amount of concession payment;
− marginal prices (tariffs) for manufactured goods, works done, services rendered, additions to
such prices (tariffs) when performing the activities, envisaged by a concession agreement
Concession agreement
− Volume of goods manufacture, doing works, rendering services when performing the
activities, envisaged by a concession agreement;
− Period from the day of signing of concession agreement to the day when manufacturing of
the goods, doing works, rendering services when performing the activities, envisaged by a
concession agreement will be executed in the scope, stipulated by the concession agreement;
− Marginal prices (tariffs) for manufactured goods, works done, services rendered, additions to
such prices (tariffs) when performing the activities, envisaged by a concession agreement;
• Marginal prices (tariffs) for electric and heat energy, gas supplied by the infrastructure, are fixed by authorised state executive power bodies.