Understanding and Operationalizing Financial Accountability in Government Contracting Systems

  • Soojin KimEmail author
Living reference work entry
DOI: https://doi.org/10.1007/978-3-319-31816-5_3795-1

Synonyms

Definition

Financial accountability in government contracts refers to the cost control in the proper use of financial resources, protection of assets against financial corruption, and transparent financial reporting and billing.

Introduction

Over the past few decades, there has been a spike in research activity regarding government contracts (also known as public procurement) in the area of public administration and policy. Notably, despite such progress in research, what is commonly acknowledged in past and recent scholarship is that, as governments have increasingly relied on goods and services provided by private contractors over time, government contracts have been more associated with fraud, abuse of taxpayers’ funds, conflicts of interest, and general waste (Kim 2017; Prager 1994; Savas 2000; Van Slyke 2009). From a conventional (normative) standpoint, research dealing with transaction-cost theory and principal-agent theory has argued that the problem is due to information asymmetry between government and the self-interested contractors (subcontractors). Given that government contracts are easily vulnerable to financial corruption and ethical mismanagement issues based on contractor’s opportunistic behavior, there is no doubt that the production of public goods and the delivery of public services are barely handled in an effective and accountable manner. In the end, it is more likely that many government agencies will struggle with incomplete contracts or contract failure (Prager 1994; Savas 2000).

To limit the contractors’ ability to behave opportunistically, many researchers have attempted to identify and examine a variety of different organizational, managerial, and contextual factors affecting contracting performance (e.g., see Amirkhanyan et al. 2007; Brown and Potoski 2003a; Fernandez 2007, 2009). However, they failed to provide a deeper discussion of the financial aspects of contracting performance in general. Particularly, they tend to be devoid of analysis around the contracting financial performance beyond generally accepted cost-saving rationales (Kim 2017), acknowledging that more research is needed. In other words, there has been little research, to our knowledge, of which factors (conditions) matter for spending and managing public funds in an accountable and transparent manner throughout the entire contracting process. In this sense, there is a need to widen and deepen our understanding of the rationale of financial accountability as a proxy for contracting financial performance, including factors that help minimize unexpected opportunism and financial corruption by contractors and instead produce certain financial benefits and related performance gains.

Operationalizing Financial Accountability as Contracting Financial Performance

Unlike cost-effectiveness (total cost savings), as noted above, research on contracting out seems to have overlooked a potentially important dimension of contracting financial performance – financial accountability – in the accompanying analyses. This requires us to broaden and sharpen our focus of inquiry by espousing several sources of accountability mentioned in the public administration literature.

In the public sector, accountability has long been regarded as answerability for one’s actions or behavior, often to a higher legal or organizational authority in a formal, bureaucratic, or inter-organizational chain of command (Dicke 2002; Kearns 1995). Importantly, such a definition raises the question of exactly who is answerable, to whom, and for what. Applying the definition to the contracting schemes, Dicke (2002, 456) suggested that “[t]he ‘who’ [that is] usually identified as answerable is an agent (a contracted provider) to a principle (a government agency) and the ‘for what’ responsibilities are identified in the provisions of the contract.”

Accountability ranges from “an obligation for keeping accurate records of property, documents, or funds” to “a wide spectrum of public expectations and performance standards that are used to judge the performance, responsiveness, and even morality of government organizations” in a broad manner (Kearns 1995, 7). If this is true, one can argue that the basic rationale of accountability should also apply to financial accountability. As stated by Dicke (2002, 456), “when accountability methods fail, public funds may be used inappropriately and service clients can be placed at risk for harm, neglect, or exploitation – especially when they are ill, frail, or vulnerable.” In the specific context of government contracts, scholars also have responded to the issue, arguing that without proper safeguards, contracting governments could face difficulties in managing public funds and overseeing contractor performance (Kim 2017). In short, it is likely that contracting financial performance declines as time goes by because public funds are not properly used according to the contract. In the literature, the improper use of public funds, for example, tends to be described as the risk of fraudulent or criminal use of funds by contractors, including abuse (mismanagement), conflicts of interest, and waste of taxpayers’ funds (cost overruns) (Prager 1994; Savas 2000; Van Slyke 2009). To tackle these problems, contracting governments must thus ensure that assets are adequately protected against fraud, waste, and abuse by contractors, because they are responsible for protecting public interests.

On the whole, it is reasonable to assume that financial accountability reflects the managing of public resources against financial corruption (e.g., fraud, waste, and abuse) in general and thus encompasses transparency, integrity, honesty, and legal compliance along with ethical managerial mandates. Financial accountability also seems to embed relatively less straightforward and more complex aspects of contracting management and performance. No single dimension could describe and define the central underlying logic of financial accountability. Accordingly, ensuring financial accountability in the context of government contracting can be viewed in one of the following ways:
  1. 1.

    Cost control in the proper use of financial resources

     
  2. 2.

    Protection of assets against financial corruption (fraudulent or criminal risks)

     
  3. 3.

    Transparent financial reporting/billing for delivery of goods and services

     

More importantly, two different aspects of contracting financial performance – cost-effectiveness and financial accountability – do not necessarily reflect certain managerial trade-offs since they both present concrete and specifiable organizational financial outcomes. They can thus complement each other both theoretically and empirically. While cost-effectiveness focuses on the outcomes of financial resources measured by perceived total cost savings, financial accountability places greater value on procedural aspects of good management based on compliance with contract requirements and standards, integrity, and transparent use of public funds. In short, cost-effectiveness and financial accountability implicitly deal with “how much public money is spent” and “how public money is spent” throughout the entire contracting out process, respectively.

Factors Ensuring Financial Accountability in Government Contracts

It is also important to note a set of organizational, managerial, and even relational factors embedded in the government contracting process, believed to increase the likelihood of achieving financial accountability.

Contract Specificity

Ensuring that contractors will produce what they are being paid for is not easy to predict due to asymmetric information. Thus, there is a need to design a clear and specific Request for Proposal (RFP) in the contracting out process. Scholars have argued that tight contract specifications (clarity) will be helpful not only to protect risk-averse principals (here, the government) from untrustworthy agents (here, contractors) during the period of negotiation prior to the awarding of the contract (Amirkhanyan et al. 2007; Savas 2000), but also to hold the contractors accountable for their performance (Fernandez 2009; Kim 2017). Thus, when the government prepares to advertise contract bids, the solicitation package representing the contract’s anticipated tasks, scope of work, and evaluation steps/tools should be specified and, if possible, should include procedures (e.g., payment and evaluation), rules, penalties, and incentives in clear language (Kim 2017; Fernandez 2009).

Competition in the Bidding Process

The extensive literature on government contracting has highlighted that injecting competition into the bidding stage can reduce the risk of bureaucratic monopoly and the threat of corruption. Each private vendor might have an incentive to offer its services at the lowest possible price and, in addition, be required to reveal honest information about its experience, expertise, or performance capabilities to win the contract (Fernandez 2007). Thus, whether the bidding process is fairly opened and frequently available for potential contractors seems to matter (Brown and Potoski 2003b). In practice, government agencies have used a wide range of solicitation channels to release information, for example, advertising in media (i.e., major newspapers, relevant trade journals, and agency websites), public hearings, electronic bid databases (e-commerce), etc.

Monitoring

In the contracting out literature, monitoring is well known as a critical managerial tool to ensure contract success. By increasing the chance that contractors’ behaviors will be detected, monitoring helps replace their utility-maximizing, opportunistic behaviors with goal-sharing with governments (Fernandez 2007, 2009; Savas 2000; Witesman and Fernandez 2013). In practice, however, direct site visits by government representatives or separate auditing work by agencies seldom take place and instead, contracting governments tend to rely heavily on contractors’ self-reporting (e.g., monthly or quarterly financial reports) (Kim 2017, 761). In this situation, a contracting government could be more vulnerable to contractors’ opportunistic behaviors (e.g., fraud, waste, and abuse of public money), which in turn lead to lower levels of contracting performance at the end. Given such challenges, governments thus need to conduct their monitoring efforts more frequently and regularly (and, sometimes, unexpectedly) and further employ more rigorous methods based on the viewpoints of diverse stakeholders, such as citizen or client feedback (satisfaction or complaints), the media, an Ombudsman policy, and additional independent audits (Kim 2017).

In addition to the intensive and frequent use of performance-monitoring methods to gather adequate contract information, the extent to which governments fairly and appropriately monitor and evaluate the performance of contractors matters for overall contracting performance. It has been mentioned in the literature that although a nonprofit contractor’s performance is not easily observed and measured compared with that of its for-profit counterparts, nonprofit contractors are likely to be monitored less than for-profit ones (see Brown and Potoski 2003b; Fernandez 2009; Witesman and Fernandez 2013). If these arguments are valid and the phenomena described common in the contracting out process, contracting governments could find it harder to ensure financial accountability over time. To overcome this challenge, as Amirkhanyan et al. (2007, 709) argued, well-designed monitoring tools are necessary to meet the requisites for validity and reliability and be free from bias. Indeed, procedural fairness (appropriateness of measurement) that shapes the monitoring efforts employed by governments seems to be a critical part of effective contract management and further performance.

Use of Rewards and Sanctions

Scholars have drawn on principal–agent theory, stewardship theory, and incentive theory to explain that appropriately designed sets of monitoring-based incentives and penalties, the so-called “carrot and stick” approaches are useful in curbing contractors’ opportunistic behaviors (Girth 2012). Such monitoring-based incentive provisions may work as contractors are frequently confronted with different levels of risk in the ex post monitoring process. The literature indicates that extrinsic rewards for satisfactory performance typically include contract renewal (extension), gain sharing, and financial rewards (e.g., fees and bonus payments), whereas intrinsic rewards include trust, enhanced reputation and involvement in goal setting and program evaluation, discretion, stability, tenure, and mission alignment (e.g., Fernandez 2007; Girth 2012). The sanctions for inadequate performance seem to range from less severe sanctions, including written document and monetary penalties, temporary suspension, threat of contract termination, and being prohibited from future bidding, to more severe sanctions like legal litigation (Brown and Potoski 2003b; Girth 2012). Based on these distinctions, it is reasonable to expect that rewarding satisfactory, strong performance, and sanctioning poorly performing contractors (e.g., via the threat of financial sanctions or loss of the contract/termination) will be feasible strategies, since such incentives help motivate contractors to avert risks and maximize contract performance.

Government Capacity

The importance of a government’s in-house capacity in effectively managing the entire contacting-out process – beyond simply monitoring contractor performance – has elicited a significant amount of discussion in the literature (Brown and Potoski 2003a, b). From make-or-buy decisions and the designing and implementing of contracts to the monitoring and evaluating of contracting performance in order to bestow rewards or impose sanctions (penalties), such capacities are broad and critical to contract success.

Interestingly, scholars have constructed several different measures of government capacity through a variety of criteria in their empirical research. For example, Brown and Potoski (2003b) classified government capacity into three phases, the first being feasibility assessment capacity, which refers to the capacity to determine whether a particular good or service is appropriate for contracting and has sufficient market competition. It may include hiring trained staff and forming legislative study groups (Brown and Potoski 2003b, 138). The second phase is implementation capacity, which involves the issues of contract bidding, vendor selection, contract negotiation, and contract writing. The third phase is evaluation capacity, which concerns monitoring and evaluating the contractor’s performance to determine whether the contractor has fulfilled its responsibility.

Liu et al. (2007) framed the topic more simply by stating that, to a large extent, government purchasers need two basic capacities – financial capacity and managerial capacity. Financial capacity includes sufficiency and sustainability of financing, financial-management capacity, and timely payment to providers. On the other hand, managerial capacity includes procurement, oversight, performance assessment, and problem-solving capacity. Such differentiation seems to be in line with the arguments by Amirkhanyan et al. (2007), who noted that the contracting government agency needs to have enough financial resources to be able to hire staff qualified to perform the required monitoring tasks and to ensure that staffing levels are adequate (709). Adequate administrative capacity is also required to ensure that resources are efficiently distributed (716).

Contractor Capacity

As one of the main parties in government contracts, contractors, regardless of their sector status (nonprofit or for-profit), are expected to meet or exceed performance expectations both before and after the awarding of the contract (Witesman and Fernandez 2013). Although the issue of contractor capacity has not received as much attention in the literature as government in-house capacity, with regard to the aspects and dimensions of contractor capacity, a variety of criteria have been suggested in the literature. For instance, drawing upon a conceptual framework of contracting out at the health-system level, Liu et al. (2007, 203) argued that the capacity of contracted service providers could contain the capacity to deliver specified services, the level of autonomy of individual providers (particularly financial autonomy), contract-management capacity, motivation, and the capacity of the providers to implement performance self-monitoring. Likewise, in more recent studies (Amirkhanyan et al. 2012; Fernandez 2009; Witesman and Fernandez 2013), it has been argued that contractor capacity may include the staffing capacity and financial capacity (financial health or dependency on government funding) needed to complete government contracts effectively. Analyzing over one hundred childcare centers and Head Start agencies in Ohio, Amirkhanyan et al. (2012) divided contractor capacity into two categories – internal management capacity and environmental conditions (financial autonomy from the contracting public agency) – and found that although a contractor’s financial autonomy was somewhat negatively associated with a collaborative contracting relationship between the government and the contractor, its internal management capacity was positively associated with that relationship. In other words, effective contracting out may depend on how many skilled managers contractors have or how much time and energy they invest in improving the process (Amirkhanyan et al. 2012, 345). Interestingly, Fernandez (2009) and Witesman and Fernandez (2013) extended this perspective to the contractor’s financial viability, technical capacity, cost of service delivery, reputation, and total previous experience performing the work, as well as the previous performance of other contractors with governments.

Contract Length

Government contracting is based on the contractual relationship between governments and contractors over a certain period of time. Interestingly, empirical evidence of the relationship between contracts of longer duration and contracting performance has been unclear in past and recent literature. For example, in Fernandez’s two empirical studies (2007, 2009), it was found that duration of the contract appeared to have no effect on overall contracting performance. On the other hand, more recently conducted research by Amirkhanyan et al. (2012) found a positive relationship, albeit somewhat limited, between the length of the contracting relationship and accountability effectiveness of government contractors. The findings may suggest that contractors are more likely to cooperate in the implementation of long-term contracts, thereby, at least, keeping contractor performance constant during this period (Amirkhanyan et al. 2012).

Despite such inconsistent findings, the existing literature mostly tends to argue that long-term contracting relations help contracting governments to overcome opportunistic behavior by contractors and provide greater opportunities for the parties to develop mutual understanding and trust by facilitating learning with each other (Fernandez 2007, 2009; Witesman and Fernandez 2013).

Extensive Two-Way Communication

The communication gap (poor communication) between government and contractors can be a huge barrier to effective contract management and satisfactory performance. For instance, based on interviews with public and private managers engaging in local government contracts in New Jersey, Kim (2017) found that government employees seemed to be less familiar with the tasks of contractors and even the demands of the community. When facing complex issues or problems, the so-called purchasing hierarchy (contracting government) is likely to rely on third parties such as judges, mediators, attorneys, and arbiters rather than confront the issues by communicating with their counterparts (contractors) (Kim 2017, 763–764). In addition, after monitoring contract performance and tracking wrongdoing, government agencies tend to bestow rewards or impose sanctions on contractors in top-down fashion, which tends to create a somewhat unpredictable atmosphere where sharing interests and feedback is concerned.

However, for successful government contracts, extensive and open communication can help reduce information asymmetry by offering more opportunities for parties to familiarize themselves with each other and predict each other’s behavior in the future (Fernandez 2009, 75). In this vein, Amirkhanyan et al. (2007, 710–711) stated that in situations where there are cooperative norms or shared beliefs that two parties have to work together for contract success, miscommunication problems between the two are more likely to be reduced. In turn, the contracting governments are more likely to reduce transaction costs because of the reduced need for rigorous screening or monitoring work (Witesman and Fernandez 2013, 690). Ultimately, the move toward “collaborative contracting” and “relational contracting” will be helpful not only to hold stakeholders accountable for their decisions and subsequent outcomes, but also to yield better performance results (Amirkhanyan et al. 2007; Van Slyke 2009; Witesman and Fernandez 2013).

Conclusion

In today’s uncertain and complex environment, ensuring financial accountability in government contracts appears to be one of the key issues in the field of public administration and policy. To advance the study and practice of successful government contracting, much has to be learned about the financial accountability. In order to better understand how government can exercise financially accountable contract management, accompanied with satisfactory performance, scholars and practitioners should continue to discover the conditions (strategies) and factors that lead to improved financial outcome of contracts and decreased corruption.

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Copyright information

© Springer Nature Switzerland AG 2019

Authors and Affiliations

  1. 1.Public Policy and Global Affairs Programme, School of Social SciencesNanyang Technological UniversitySingaporeSingapore