Profit Motive Restored

The Navy last week went a long way in recognizing the importance of keeping the profit motive at work to promote economical war production.

From now on, said the Navy, it will abandon cost-plus-fixed-fee contracts (in which the contractor is guaranteed a profit no matter what his costs) and return to competitive bidding and fixed-price contracts (in which the cheaper a manufacturer produces a product the more profit he will make).

Reasons for abandoning fixed-price contracts at the beginning of the war were the necessity for getting out big orders fast, and lack of knowledge of how to price swarms of new products. But the dangers of relying on fixed-fee contracts, which resemble the cost-plus contracts of World War I, have multiplied in a wastage of both materials and manpower. Recently the Army switched to the so-called "target" system of pricing: a price is first set, then renegotiated in case it is found that the manufacturer is making too much. The Navy has also relied on renegotiation and has thus far obtained refunds and price reductions amounting to $717,000,000, of which about $200,000,000 was in cash, the balance in price reductions.

But constant renegotiation also tends to undermine the profit incentive because the manufacturer knows that no matter how much he lowers costs, his profits will be taken away. The realistic system the Navy is now adopting comes down to this: the Government drives a hard price in the beginning and gives the manufacturer the benefit of any economies he can make.

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