March 2006

Government procurement of software

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The largest single investor in software assets is often the Governments. To provide a much-needed boost in the IT industry it must be kept in mind that the governments worldwide should appropriately focus on the selection and purchase of software assets so as to get the maximum value for the taxpayer’s money.

Competition and innovation drive increases in productivity as witnessed in the software-rich information and communication technology (ICT) industry. The ICT industries have made larger contributions to economies worldwide with the increase in productivity. For example, in Finland and Ireland, ICT industries account for over 13% of total value-added of the business sector.

The innovation in the ICT industry led to precipitous declines in the real price of ICT equipment and software, which accelerated ICT investment rates. From the 1980s to 2000, the percentage share of ICT investment in total non-residential investment tripled in France and the United Kingdom. In Germany and Italy, ICT investment rose from about 10% to just over 15% of total non-residential investment. In Finland, ICT investment accounts for more than 25% of total non-residential investment.

As investment rates rose, ICT capital accumulated and began to contribute significantly to total growth in economic output around the world. From 1995 to 2000, ICT capital accounted for 20% of total output growth in the US economy, 18.7% in Italy, 18.4% in western Germany, 13.5% in the United Kingdom, 12.5% in France, and 11% in Finland.

Faster falling real prices of IT equipment and software have resulted in even higher IT and software investment rates. During the last half of the 1990s, IT and software investment increased at annual rates exceeding 20% in all countries for which data are available.

As IT capital (hardware and software) accumulated, it began to drive real growth in the gross domestic product (GDP) of economies. Between 1990 and 1998, 27.8% of real growth in GDP in Denmark can be attributed to IT; in France, 38.5% of real GDP growth can be attributed to IT; and in Germany 45.5% of real GDP growth can be attributed to IT.  More important, the contribution of IT using industries to real GDP growth was greater than the contribution of IT producing industries.

These contributions to our economic well-being are the result of IT innovations driven by a competitive marketplace unimpeded by unnecessary government intervention. Existing government interventions in IT and software markets effectively promote competition, diffusion of information and knowledge, investment in research and development (R&D), and innovation.

Governments often represent the largest single investor in software assets. Unfortunately, a number of governments, at different levels, have adopted measures affecting software procurement that depart from the very environment they have successfully permitted in the private sector. Those measures adopted to date encourage the acquisition of one form of software over the other thus effectively limiting their choice in acquiring an asset that is otherwise fully available in the marketplace. 

Governments often represent the largest single investor in software assets. Unfortunately, a number of governments, at different levels, have adopted measures affecting software procurement that depart from the very environment they have successfully permitted in the private sector.

Protocols for Government software procurement
There are 5 principles or protocols, which focus on technical neutrality to assist governments gets the maximum value for the taxpayer’s money in the selection and purchase of software assets.

Protocol 1 outlines that choice is paramount for sound software investment decisions. As such, sound software investment decisions cannot be made on the basis of a priori exclusions of available technologies that can meet government needs. As stated in the Danish Government’s software strategy, “The individual institution must be ensured that it can procure the software solution that has the maximum value for money measured on the basis of merit and local business need irrespective of whether this implies using proprietary software solutions or open source.”

Proponents of open source software preferences have failed to provide evidence that such intervention is necessary. Despite forces driving concentration in technology and software markets, the software industry is not concentrated. Despite barriers to entry in technology and software markets, the software industry has a high rate of turnover even among industry leaders. Despite large sums necessary for, the uncertainty of, and the difficulty of financing R&D spending, the software industry has increased R&D spending dramatically and produced results. Simultaneously, the Proponents have also failed to consider the high costs and harsh consequences of such preferences. A government policy of open source software preferences that excludes commercial software assets from consideration will, in effect, exclude 85% of IT channel business activity. In the European software market alone, the initial annual lost business opportunity would be US$49bn. Any decline in government spending would have ripple effects on the economy that might be two to three times greater than the initial direct effect.

Protocol 2 states that choice among competing software assets should be based on firm economic considerations. Governments should invest in software assets that offer highest value irrespective of technology. A well-designed cost-benefit analysis (CBA) that includes a total cost of ownership (TCO) model for assessing the costs of the asset over its life cycle is necessary for an informed investment decision.

The economic basis of systematic and rational investment decisions is CBA. CBA is endorsed and used by international economic development agencies, including the Organization for Economic Co-operation and Development (OECD), the Asian Development Bank, and the World Bank. Moreover, CBA is equally relevant to private sector investment decisions. CBA consists of a value or benefit component and a cost component. Benefits are the positive changes or resources produced or freed up as a result of the investment. Costs are the negative changes or resources used up and not available for other uses as a result of the investment. The investment alternative of higher value is the asset with a larger benefit-cost ratio.

Protocol 3 mandates the Governments to ensure full transparency in the procurement of their software assets. The third protocol enhances choice in government software procurement by requiring full transparency in the tendering process. Accordingly, Governments must make their requirements very clear and bidders must be fully apprised of the functionality and cost benchmarks that the government will use in deciding on a software asset. This means that bidders must be required to provide detailed data on performance characteristics and cost elements that go well beyond purchase price. Solicitations must relate detailed performance expectations to long-term cost considerations so that bidders can assess these requirements and respond accordingly.

International transparency rules reflect increasing convergence among governments in requiring predictability and accountability in procurement. While international transparency regimes alone cannot ensure that Governments will refrain from restricting software choice, they discourage ex ante restrictions of any kind, as Governments inevitably must consider every possible software technology when they weigh cost and technical capabilities among competing software proposals.
Protocol 4 necessitates that government procurement of software must be consistent with international trade norms. Software procurement must be seen from the perspective of the rules and norms that have evolved since World War II in the area of international trade. Trade agreements are an outgrowth of an increasing desire for predictability and transparency by traders and investors, and as an integral part of the development of all economies. International trade norms address government procurement, through, inter alia, the WTO Agreement on Government Procurement (GPA) that affects 38 members of the WTO; several bilateral free trade agreements; as well as best practices provisions of the APEC. These countries account for 77% of world trade.

Governments should view the WTO and other trade norms for procurement as a workable tool toward reaching a uniform and transparent system of issuing tenders, and selecting vendors, regardless of nationality, that offer the very best value-for-money product. In procuring software, they should avoid the use of offsets, which include the requirement to require the transfer of technology as a condition for procuring software. They should refrain from imposing technical standards except those that relate to performance rather than design.  The provisions relating to offsets and technical standards have implications for any government requirement that source code must be disclosed as a condition for considering software tenders.

Protocol 5 stipulates that government procurement of software must respect international norms governing intellectual property. Most countries, especially developing and least developed countries are keenly interested in attracting foreign direct investment and promoting technological development through both innovation and technology transfer. Intellectual property regimes exist to promote innovation and creativity, and are recognized as an important, if not essential, factor in investment and technology transfer decisions.

Strong intellectual property protection is as critical to the growth of a local software industry as it is to a foreign competitor. In addition, intellectual property rights are extremely important to the software development industry regardless of the business model an individual company has chosen to pursue. Both proprietary and open source business models are dependant on the effectiveness of intellectual property systems in enforcing their rights. Therefore, any governmental policy that establishes a precedent for undermining intellectual property rights for one business model or industry risks undermining all intellectual property rights, both domestic and international. Such a governmental policy that restricts software choice may also prevent or deter the procurement of critical technology, or inhibit its competitive development.

Undermining internationally agreed minimum standards for the acquisition and enforcement of intellectual property rights not only places innovation and investment at risk, it risks economic uncertainty stemming from possible violations of intellectual property obligations. The implementation of TRIPS-consistent IPR regimes is expanding IPR protection, and the resulting benefits, at a remarkable pace.

Undermining internationally agreed minimum standards for the acquisition and enforcement of intellectual property rights not only places innovation and investment at risk, it risks economic uncertainty stemming from possible violations of intellectual property obligations. The implementation of TRIPS-consistent IPR regimes is expanding IPR protection, and the resulting benefits, at a remarkable pace. This is taking governments in the direction of more sophisticated and predictable IPR protection, all of which difficult to reconcile with measures that limit software choice by requiring the disclosure of source code, a policy which is opposite to the direction taken by international IPR norms.

The cornerstone of these international regimes is that each intellectual property right, such as a patent, a copyright and a trademark, is by its very nature an exclusive and private right.  Exclusive rights to use or authorise the use of a patented invention or to reproduce a copyrighted are very broad.  Once these exclusive intellectual property rights are established by meeting the conditions for acquiring each right, only narrow exceptions exist to limit the rights. The importance of respecting exclusive IPR’s is reiterated, for example, by specific inclusion of the right of the owner “to assign or transfer patents and conclude licensing contracts”. The governmental obligation under TRIPS is to protect exclusive IP rights such as the right to prevent copying a work (such as software) without the owner’s consent. The governmental obligation to afford protection of IPR’s includes private and government use of inventions or reproduction of software, subject to these narrow exceptions.  Indeed, government use or authorisation for use
of a patent without the permission of the rights holder, also referred to as compulsory licensing, is subject to additional restrictive criteria.

While the WTO agreements on the government procurement of goods and services (GATT 1994 and GATS) are subject to exceptions from applicable national treatment provisions, the international intellectual property regime not only contains no such exception for government procurement, it imposes additional limits on any government availing themselves of potentially applicable exceptions. These obligations were negotiated from governments’ recognising the importance of IPR’s. As a matter of good policy, governments should encourage the protection of rights holders including proprietary rights in source code. Consistently, a government that imposes an obligation on its procuring entities to condition software purchases on the blanket disclosure of proprietary source code to third parties is almost certain to be in violation of its international trade obligations.

Governments may promote the development of standards, which promote the interoperability of software consistent with the strong protection of intellectual property as envisioned by TRIPS. Interoperability is not a function of IP protection but is largely dependent on standardisation. TRIPS does not prevent the recognition of such important policy objectives by acknowledging that laws and regulations may include measures necessary to promote the public interest in sectors of vital importance to a country’s socio-economic and technological development. However, those measures must be consistent with the provisions of the TRIPS Agreement. A further provision requires TRIPS consistency for measures necessary to address unreasonable restraints of trade or that adversely affect the transfer of technology. Governments must respect the intellectual property regime in establishing public policies.

From this, it is clear that the government imposition of licensing terms that require the free disclosure to third parties of subject matter protected by IPR’s, whether copyrights or patented processes, raises serious concerns on the
consistency of such a measure with the international intellectual property regime.

While measures that limit software choice may not overtly discriminate against foreign software, it is possible that such measures interfere with the expectation of equality in the conditions of competition and, thereby, have the de facto effect of resulting in discrimination.

About  the author:
Michael R. K. Mudd is Director for Public Policy, the Computing Technology Industry Association, (CompTIA), Asia

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