When (and how) to favor incumbents in optimal dynamic procurement auctions

We consider the problem faced by a benevolent government agency that procures in each of T > 1 periods an indivisible good from one of N > 1 firms. The procurement process is complicated by the superior information possessed by firms about their time-varying production costs and efficiency-enhancing efforts. We fully characterize the optimal dynamic procurement. To reduce firms’ informational rents, the government introduces distortions along two dimensions: when selecting from which firm to procure the good and when providing incentives toward efforts in cost reduction. Both distortions interact in a non-trivial way. Firms that draw lower cost parameters in the first period are favored in the selection process in all later periods, which allows for the provision of more powerful incentives.