Bid Rigging for Municipal Asset Management

Rolling Stone Magazine has an good story on the conviction of a number of banks and brokers on charges of bid-rigging, specifically on contracts for short-to-medium term management of municipal bond cash accounts.  Apparently brokers were paid by certain banks to be given a look at all the other bids before they made their final bid.  The article focuses mainly on the ability of winning bidders not to bid any higher than necessary, though I would suppose there were also times when, given this peek, the winning bidder actually raised its bid higher than it might have to ace out other bidders.

This is classic government contracting fraud and it's great to see this being rooted out.  I am not wildly confident it is going to go away, but any prosecutorial attention is welcome.

But I am left with a few questions:

  • It seems that government contracting is more susceptible to this kind of manipulation.  Similar stories have existed for years in state highway contracting, and the municipal bond world has had accusations of kick-backs for years.  Is this a correct perception, or is the rate of fraud between public and private contracting the same but we just notice more with the government because the numbers are larger, the press coverage is greater, and the prosecutorial resources are more robust?
  • If government contracting of this sort is more susceptible to fraud, why, and how do we fix it?

The latter is not an academic question for me.  I run a company that privately operates public recreation areas.  I bid on and manage government contracts.  Frequently, a major argument used against the expansion of such privatization initiatives is that past government outsourcing and contracting efforts have been characterized by fraud and mismanagement.  The argument boils down to "the government has so many management problems that it can't be trusted with contracting for certain services so it needs to operate those services itself."

The only way to reconcile this view is to assume that private actors are more likely to act fraudulently and be dishonest than public employees.  If this were true, then the public would be safer if a public management process of questionable ability were applied towards public employees rather than outside private contractors, because those who were being managed would be less likely to take advantage.  And certainly there are plenty of folks with deep skepticism of private enterprise that believe this.

However, I would offer that only by adopting an asymmetric view of what constitutes fraud would we get to this conclusion.  Clearly, banks colluding to shave a few basis points off municipal asset returns is fraud.     As the author of the Rolling Stone piece puts it several times, the crime here is that the public did not get the best market rate.  So why is, say, elected officials colluding with public employees unions to artificially raise wages, benefits, and staffing levels above market rates not fraud as well?  In both cases insiders are manipulating the government's procurement and political processes to pay more than the market rates for certain services.

This is Bastiat's "seen and unseen" of the privatization debate.   Yes, the world is unfortunately littered with examples of government procurement fraud.  This is often cited as a reason for maintaining the status quo of continued government management of a diverse range of services.  But what we miss, what is unseen, is that these government services are often run with staffing levels, work rules, productivity expectations, and pay rates that would constitute a scandal if uncovered in a division of a corporation, particularly if the workers were spending a lot of money to make sure the manager handing them this largess was able to keep his job.

Yes, the public lost several basis points on its investments when it did not get the market rate of return from cheating bankers.  But it loses as much as 50% of every tax dollar sent to many state agencies because it does not get market rates (and practices) for state labor.


  1. L Nettles:

    Are those bid riggers the cause of Stockton's bankruptcy?

  2. SB7:

    Maybe I'm not understanding the scam right. If this:

    How did they rig the auctions? Simple: By bribing the auctioneers, those middlemen brokers hired to ensure the town got the best possible interest rate the market could offer. Instead of holding honest auctions in which none of the parties knew the size of one another's bids, the broker would tell the pre­arranged "winner" what the other two bids were, allowing the bank to lower its offer and come in with an interest rate just high enough to "beat" its supposed competitors. This simple but effective cheat – telling the winner what its rivals had bid – was called giving them a "last look." correct, then wouldn't a Vickrey auction solve this problem? By having the highest bidder pay the second highest price there's no advantage to knowing the previous bids, right?

    If the problem is just collusion, with the bidders all determining in advance who will win, that's another matter. But if the problem is indeed these "last looks," why wouldn't cities just demand second-price auctions?

  3. NL_:

    Seems like open bidding would eliminate the possibility of backroom dealing. If every bank makes a visible offer, there's no advantage to seeing behind the curtain.

    The propensity of government officials to be corrupted is not really going to be routed around by having them provide more services. If we agree that certain agencies (or agents) are either too incompetent or too venal (or labor under too-ridiculous work rules and incentive structures) to honestly select an appropriate service vendor, why do we think they'd be so great at actually performing the service directly? And it doesn't really end the problem, since the agency will still need lots of supply contracts. The government cannot practicably produce everything it needs without vendors, so there will still be contracts to mess up.

    It seems like the best solution is to reduce the number of things the government agents are doing aside from establishing contracts and monitoring performance. That means fewer contracts with larger vendors, then letting those vendors enter into sub-contracts. As long as they establish appropriate metrics and benchmarks, it should be easier to hold the vendors responsible. Of course, this requires a culture of accountability all around (no more "cost-plus"). It also means good vendors need to profit and bad vendors need to be culled.

    Personally, of course, I'd prefer simply spinning off most government agencies into nonprofits. So for parks, we could leave the title to parks in public hands but spin off most of the parks staff into a few nonprofits. If necessary to gain political control, maybe the relevant government stakeholders could hold certain control rights in the nonprofits (e.g. board seats, right to dismiss officers, etc.). But ideally the government would not be directly involved, except as titleholder.

    The nonprofits could be divided among important goals - research, recreation, conservation - and most importantly be replaceable and malleable if they are failing to live up to a few specific goals. This also means you could get more buy-in from the public, with various local movers and shakers able to get involved in some of these efforts. The government's role would be to supervise the nonprofits, but not to perform those duties. That would separate the role of supervisor and administrator, hopefully letting the government be more aggressive about possible mismanagement.

    The nonprofits would be largely loosed from restrictive government work rules, ridiculous union promotion policies, and the conservative culture that punishes risk but not stagnation. With the right context, they might even be able to raise some independent funding and (at least partially) separate themselves from stupid state budgeting woes. If done right, then they'd be able to focus more on improving parks and less on government procedure.

    There's really no way to eliminate bureaucracy, politics, apathy, incompetence or agency problems from any group of humans working together for any extended period of time. But we can try to keep people in separate roles, keep everybody focused on a few key goals, and give everybody the flexibility to do their jobs (and the knowledge that they can be replaced for non-performance).

    Police and fire might also be good candidates for a nonprofit model. Those things require a complicated balancing of various goals, the same as parks. A nonprofit Board of Directors would need to have ongoing supervision over the services, occasionally realigning to make sure the various goals are being met. Both police and fire were originally performed by volunteers (granted, with less professionalism than today). But something like the DMV could be spun off to a for-profit service provider, whose main goal will be good service. The process is more direct, so you can have simple goals like short waiting times, limited number of complaints, and no corruption (e.g. no selling IDs to underage kids).

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  5. James:

    Reminds me of this:

    Seen it yet? It's an article about how an Atlanta suburb incorporated and outsourced most services.

    Money quote: Mr. McDonough, the Sandy Springs city manager, says the town has sidestepped [issues with cost overruns or contractors not meeting expectations]. The key, he explains, lay in the fine art of drafting contracts.