Optimal build-operate-transfer road contracts under information asymmetry and uncertainty

Abstract

This study investigates optimal build-operate-transfer (BOT) contracts for toll roads under asymmetric and uncertain information concerning the construction cost of a private firm. In such a contract, the choice of toll, capacity and subsidy is made as a function of the marginal construction cost, reported by the firm, to maximize the expected social welfare, while ensuring that the firm has incentive to participate and no incentive to misreport the cost. By investigating the properties of the optimal contract, we find that enticing the firm to report its information truthfully will increase the optimal volume/capacity ratio of the BOT road. It also causes a loss in social welfare. However, a higher extent of information asymmetry will not necessarily yield greater loss in social welfare, and the effect of the extent of information asymmetry on welfare loss differs when it follows different probability distributions. We also show that the effects of information asymmetry and uncertainty on the BOT contract are amplified by each other. Nevertheless, the welfare loss is not necessarily amplified.