Nobel economics prize looks at … federal contracts!

Hart's and Holmstrom's work studied tensions between parties and conflicts of interest in contracts, something federal contracting officers deal with every day.

I stopped short in the doorway of the 24-hour McDonald’s, where  I pulled in for coffee on my way to the station this morning. Three men, two behind the counter and one where the customers stand, were shouting at one another at the top of their lungs. Yelling at one another simultaneously. It sounded bitter and angry. I wondered whether to get back in my car lest someone started shooting.

A drug deal going bad right in McDonald’s in tony District 2? Had they been watching last night’s debate between Hillary Clinton and Donald Trump and coming to blows over it?

Then I noticed the manager standing to the side, chuckling. With only one foot in the entrance door, I listened for a moment. The men were arguing about … yesterday’s football games. This was real passion. Tom Brady this, Bill Belichick that, the Ravens, the Redskins, Kirk Cousins. It was impossible to follow. The customer left, but the two men in the kitchen continued the debate at the tops of their lungs while I ordered a medium coffee.

It’s a week of sports passion in D.C. with the Redskins, Nationals, Caps all chalking up wins.

The election, not so much. As far as I can tell, it produces more eye-rolling than real passion for either of them. Last night’s debate may have been some sort of low point in modern politics.

Of more immediate interest in the last 24 hours are two people most of us never heard of. Oliver Hart and Bengt Holmstrom, from Harvard and MIT respectively, received the Nobel Prize in economics. They have done research showing how well-crafted contracts can encourage mutually beneficial behavior. A lot of their work concerns contracts between CEOs and corporate boards. But Hart has studied contracts in the context of whether public schools and prisons “ought to be privately or publicly owned,” according to the Nobel authorities’ press release.

Hart’s and Holmstrom’s work studied tensions between parties and conflicts of interest in contracts, something federal contracting officers deal with every day. Their examination of the incompleteness of contracts shows how it is often impossible to anticipate every detail that may arise. Sound familiar? Applied to privatization contracts, the economists raise the question about investments the private side of the equation will make. Some will cut costs but maybe also quality, such that the incentive to cut costs under a fixed-rate contract may be too strong for the result the government hopes to obtain.

The Nobel people specifically cite the recent Justice Department decision to stop using private prisons. Whether contract construction is at the core of the prison question is debatable, but it certainly counts as a factor. The research could help improve how agencies conduct public-private competitions under Circular A-76. They’re mostly banned now, but that’s a political, not an economic, decision.

Contracts form a cornerstone of good behavior among civilized people. As the Nobel committee puts it, “Contracts help us to be cooperative and trusting when we may otherwise be disobliging and distrusting,” and that contracts “regulate future actions.”

So the prize-winning research might sound arcane and purely academic, it really gets to the heart of human interaction and whether parties — people or businesses — do what they say they will, and to which they sign their names. This is why contract law is such a big field, and why enforcement and interpretation of contract take up so much judicial bandwidth.

If nothing else, this prize underscores the importance of designing contracts. To outsiders, contract writing seems like a purely legal-administrative function. In reality it’s fundamental to how the government ultimately performs.

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