Contract duration has implications on how renewals influence performance. Contract renewal gives an important incentive to the incumbent to perform satisfactorily and comply with both contracted and non-contractible quality standards. Thus, contract renewal can be used as an in-kind reward for good past performance. Naturally, the length of the contract determines the frequency of eventual renewals. The shorter the contract length, and thus the higher the frequency of renewal, the more effective the renewal is as a performance incentive. (Calzolari and Spagnolo, 2006). Besides, from the public sector's perspective, contract renewal gives an exit option if the private-sector party performs poorly. In particular, a short-term contract reduces the lock-in effect, i.e. the fact that, despite termination clauses, the public sector might find it costly to switch private partner within the contract life even when the incumbent's performance is not satisfactory.
We mentioned earlier, however, that a too-short contract may end up hindering the private partner's performance by reducing economies of scale, increasing fixed set up costs (and other contract-specific transaction costs), reducing learning by doing and facilitating cartel formation. Therefore, the optimal contract duration should be chosen by evaluating the forces of this trade off in the industry under consideration.