Public Procurement is Too Important to Overlook Economic Tools

Public procurement is not merely a bureaucratic process; it is one of the key economic levers. In developed countries, its share reaches one-third of public expenditure and between 12 and 15 percent of GDP, thus the manner in which the state and public institutions purchase goods and services directly determines the efficiency of the economy, the competitiveness of companies, and the trust of citizens in institutions.

In the European Union, public procurement has an additional dimension: it is an instrument for implementing strategic goals such as green transition, digitalization, innovation, and strengthening the single market. Especially in the context of the EU’s open strategic autonomy, public procurement becomes a crucial tool for enhancing resilience and reducing dependence on third countries. Well-designed procedures and criteria—from green to innovative—channel billions of euros towards strengthening internal capacities and a more resilient economy. Therefore, the economic analysis of public procurement becomes critical for understanding how these processes shape development, not only in Croatia but also at the level of the entire Union.

Our interlocutor is Dr. Stjepan Srhoj, an associate professor at the Faculty of Economics at the University of Split and a senior research associate at the Institute for Development and International Relations (IRMO). With the support of the Croatian Science Foundation, he is currently a visiting researcher at Bocconi University in Milan, where he collaborates with one of the world’s leading experts in public procurement, Professor Francesco Decarolis. Together, they are developing the concept of the economics of public procurement—a research framework that examines the field through all its phases and broader economic effects. In this conversation, he reveals why public procurement largely determines our economy.

Since you are collaborating with colleagues in Italy, where does their approach to public procurement differ most from the Croatian one?

– The differences are significant. In Croatia, public procurement is most often studied by lawyers, while in Italy, economists are strongly involved. My colleague Francesco Decarolis and I wrote an article in which we define the concept of “the economics of public procurement” and set its boundaries. We believe that public procurement is an area that is too important to overlook serious economic tools. Therefore, we have identified five key phases—demand planning, preparation and advertising of tenders, competition, contract execution, and their broader economic effects. Each of these phases has its own economic mechanisms, so it is worth systematically observing and analyzing them.

The OECD often emphasizes that public procurement is as strategic as its planning is good. How do you view this phase, and what are the key economic topics here?

– There are several, but I will highlight three in particular. First, it is necessary to decide what public institutions should procure on the market and what they should create in-house, and in which cases direct negotiations or public-private partnerships are a more sensible option. Second, the process of defining exactly what we are purchasing and to what extent is important. Here we distinguish between instrumental public procurement, which provides the resources necessary for the implementation of public policies, and strategic public procurement, which directs consumption towards broader goals, such as innovation or green transition.

Third, one must always keep in mind the issue of overpricing. Corruption and political favoritism produce active losses, but what may be counterintuitive is that they are a smaller part of the total damage. Empirical data show that about 83 percent of losses arise from passive problems—inefficient rules, poorly set procedures, and insufficient institutional capacities—while active losses account for only about 17 percent. Therefore, a larger part of the damage can be reduced by strengthening the capacities of public administration, professionalization, and better shaping of the public procurement system.

The European Commission emphasizes the importance of the preparation and advertising phase of tenders. Which elements of this phase do you consider the most important for reducing active and passive losses?

– First, the level of discretion we give to contracting authorities. Czech data show a “buildup” of contracts just below the threshold for reduced discretion, in order to avoid competition and oversight, indicating that a larger number of contracts below the threshold go to anonymous companies. The lesson is that greater discretion makes sense only with enhanced parallel measures. Italian insights confirm this: raising the thresholds for negotiated procedures from one hundred thousand to five hundred thousand euros and then to one million euros did not increase the likelihood that a company was under investigation for malpractices in public procurement.

However, the increase in discretion was accompanied by the professionalization of contracting authorities, certification of qualified bidders for different types and sizes of contracts, a minimum number of qualified calls in negotiated procedures, for example, at least five, and for works from five hundred thousand to one million euros: at least ten competitors, necessary rotations of invited contracting authorities, and stronger oversight of the contract award process and contract execution.

The main benefit was a shorter duration of procedures (~–14 percent delays); the initial price was somewhat higher compared to the period of less discretion, but without a systematic increase in ex-post costs (annexes/changes). Thus, in ten years, institutions can realize more projects. The conclusion is that more discretion brings benefits, but only with preserved competition and firm rules.

The second topic is the issue of centralization and decentralization. In Italy, centralized purchases yielded prices up to 27 percent lower. Decentralization, on the other hand, allows for flexibility, the use of local knowledge, and easier entry for small and medium-sized enterprises, but in conditions of weaker capacities, it carries the risk of higher prices. The hybrid model proves to be the best: large and standardized categories should be purchased centrally, while specific and smaller needs should be left to local levels.

The third point relates to advertising. In Italy, stricter requirements for publication above the threshold increased the number of bidders by about 9.3 percent and brought an average saving of 35 thousand euros on a contract of 500 thousand euros. If the goal is to lower prices, broader advertising and the inclusion of bidders from more countries bring additional benefits. However, if we want to strengthen domestic competitors, mere transparency is not enough. Entrepreneurs will only compete if they receive credible signals that the system is impartial along with the information.

In other words, trust in the integrity of public buyers is as important as transparency itself. Rules and procedures alone are not a guarantee for increasing competition—without trust in the system and the professionalization of contracting authorities, tenders are unlikely to attract a larger number of serious bidders.

Competition is certainly the most visible part of public procurement, but the research you cite shows that competition rules can both reduce and create losses. What are the key lessons from past experiences on how to limit active and passive losses in this phase?

– The effectiveness of this phase is determined by several elements. First, the goal is to increase the number of bidders so that the public buyer receives a fair price. The largest price drop occurs when we go from one to two participants, and each additional competitor further reduces the price, albeit with diminishing intensity. Therefore, it is crucial to facilitate the entry of qualified bidders.

Second, the format of the competition is important. Italy has long applied the so-called average bid, where the price closest to the average wins. When the lowest price model was introduced, the market was cleansed: the number of participants decreased, but it turned out that part of the competition was artificially inflated through coordination. The average bid often did not select the lowest cost bidder but raised prices—a typical example of how a poor auction format creates passive losses.

In standardized categories, where quality cannot be easily reduced afterwards, the lowest price model with bidder verification yields stable results. An even better option in such cases is the electronic reverse auction. It is conducted in two rounds: first, initial bids are collected, and then a short period of anonymous price reductions in real-time follows.

Examples from Slovakia and Chile show that such models increase the number of bidders and bring savings. The latest breakthrough is also artificial intelligence: Albania recently introduced a virtual “Minister of Public Procurement” Diellu, aimed at evaluating bids for greater transparency, although it has also opened discussions about the limits of algorithmic responsibility.

Third, for more complex procurements, formats that score multiple attributes are more suitable—for example, quality, delivery time, or performance that can be clearly verified. It is crucial that the instructions and scoring matrices are crystal clear, and the evaluation is repeatable and documented. If this is lacking, contracting authorities avoid such formats due to legal risk. When the rules are precise, multi-criteria scoring better aligns incentives and reduces losses, as a smaller portion of savings is later lost in execution.

Ultimately, it is not only the number of companies competing that matters, but also the way the competition is designed.

The contract has been awarded, but the real question is what happens in execution—the phase that most often falls out of the public focus, even though it is here that we see the real value for money. How well is this dimension monitored, and what does it tell us about the public procurement system?

– The real value for money is only seen in the execution phase. If we do not measure what has been delivered and in what timeframes, we are talking about formal, not real success. Therefore, it is important to publicly disclose data on how the contract has been fulfilled: duration compared to the planned, total paid price versus contracted, and the quality assessment of the completed work. The literature increasingly discusses the introduction of a digital performance evaluation system, where the quality of previous works would also be used as a criterion in future tenders.

Early empirical findings show that such systems lead to fewer delays, fewer contract changes, and better compliance of delivery with specifications. Theoretically, the introduction of “blacklists” for companies that have not fulfilled contractual obligations is also being considered, which would prevent them from participating in future tenders—not only at the national level but also throughout the European Union.