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Trust and Trustworthiness in Procurement Contracts with Retainage

Walker, Matthew J.; Katok, Elena; Shachat, Jason

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Matthew J. Walker

Elena Katok


In complex procurement projects, it is difficult to write enforceable contracts that condition price upon quality. Supplier non-performance becomes an acute risk, particularly when there is intense competition for the contract. An established incentive mechanism used to mitigate the problem of supplier non-performance is retainage, in which the buyer sets aside a portion of the purchase price. After project completion, the buyer determines the amount of retainage that is released to the seller, considering any defects that arise. While generally a feasible contract form to implement, the practical difficulties in assessing completion introduce a moral hazard for the buyer. We develop a structurally new game and experimental design to offer managerial insights on how retainage principles mediate trust and trustworthiness in competitive procurement settings with moral hazard. The experimental results suggest that if trust in the procurement relationship is strong enough, then retainage can mitigate the seller-side moral hazard problem and substitute for reputation in a fragmented supply chain, at the cost of inflated tender prices. In high retainage structures, there is a trade-off between trade efficiency and supplier participation in request for bids. We further develop a model of fair payment norms and offer managerial insights on how to design the retainage mechanism, conditional on prevailing levels of trust and beliefs about fairness.


Walker, M. J., Katok, E., & Shachat, J. (in press). Trust and Trustworthiness in Procurement Contracts with Retainage. Management Science,

Journal Article Type Article
Acceptance Date Feb 14, 2022
Online Publication Date Aug 18, 2022
Deposit Date Mar 15, 2022
Publicly Available Date Mar 15, 2022
Journal Management Science
Print ISSN 0025-1909
Electronic ISSN 1526-5501
Publisher Institute for Operations Research and Management Sciences
Peer Reviewed Peer Reviewed
Public URL


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