Although economists have made great strides in analyzing the nature of the regulatory problem in a variety of industries, comparatively little attention has been devoted to the detailed, all-encompassing and arcane set of regulations that determines the prices that defense contractors will receive for their products. These regulations are often referred to as Department of Defense (DoD) "profit policy." The major goal of this project is to explore what new light can be shed on defense procurement by recent advances in the economic theory of regulation and incentives and by modern financial and accounting theory. A major reason economists have been slow to explore defense procurement procedures is that accurate and detailed information on the procurement procedures that the DoD actually uses is very inaccessible to the economics profession. Thus, a second goal of the project is to produce a complete and detailed description of the institutions in a form which is understandable and accessible to the economics community. Specific topics investigated include the cost allocation process, incentives for cost-minimization, incentives for innovation, and the impact of the budgeting process on the military services' incentives to negotiate prices. The results of this project will provide useful insights into the billion dollar a year defense procurement industry. Many of the issues studied in the context of defense procurement also arise in some form in other regulated sectors. Therefore, the analysis of this project should contribute to the general theory of regulation. Finally, the project will provide an invaluable source of information on the institutional aspects of defense procurement for other economists to use.
