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Peculiarities in the Development of a Public Procurement System in the Republic of Estonia

Regulation of economic activity is an unavoidable aspect of statehood, whether the state is yet on its way to a market economy or has had a market economy for decades. All economically developed countries have established a procedure for the use and disposal of state budget funds such that the purchase of goods, construction of buildings, contracts for services and transportation of supplies paid for with state budget funds can only be effected pursuant to a precisely regulated public procurement procedure. Moreover, in some countries like Canada, a special procedure has been established for writing off items paid for with budget funds. Such items must be delivered to special warehouses and only after their acceptance in such warehouses may they be considered written off.

In the Republic of Estonia, the transition to a market economy gave rise to a situation where the procurement system of the planned economy ceased to exist and therefore all economic activity, including that based on state budget funds, had to be continued in the unregulated market economy conditions of purchase and sale agreements and contracts for services. Naturally the need arose for the development of a public procurement system for purchasing goods and services with state funds, a system widely used in other countries. Reasons for having such a system are well-justified in literature also1 .

In principle, transition to a public procurement system was not new for the Republic of Estonia. Before the war, Estonia had the Public Procurement Act, issued by decree of the Head of State on 15 July 1934 (RT 1934, 57) and on the basis of the Act, the Public Procurement Regulation of the Government of the Republic of 6 February 1935 (RT 1935, 16).

In re-independent Estonia, steps were taken to regulate procurement of certain types of goods at the Government of the Republic level. In particular rules for organising competitive bidding for construction projects approved by Government of the Republic Regulation No. 120 of 26 April 1993 (RT 1993, 22) and Procedure for public procurement of information technology equipment approved by Government of the Republic Regulation No. 75 of 7 March 1994 (RT 1994, 16) are noteworthy. These evidenced the need to regulate relationships developing in practice and other types of relationships arising from the use of budget funds by law. The United Nations Commission on International Trade Law (UNCITRAL) showed great interest in the regulation and organisation of public procurement by assigning the International Economic Regulation Committee the task of working out a model draft law on procurement. This was done with the aim of ensuring maximum effectiveness and economy of procurement, facilitating competitiveness among procurers, developing an honest and equal approach with respect to all procurers, achieving a complete and transparent procurement process and promoting impartiality and public faith. Guided by these principles and considering the situation in Estonia, the drafting of the Public Procurement Act of the Republic of Estonia began.

Several reasons made it impossible to simply implement the Public Procurement Act of 1934. First, major changes had taken place in economic life and organisation during the intervening decades and second, it was necessary to develop legislation which would be as consistent as possible with the legislation of other countries, since an effective public procurement system requires the development and practice of international procurement. Hence, only a few ideas and theoretical bases2 could be carried over from the former public procurement legislation into the new one.

Thus the above-mentioned UNCITRAL model draft law became the most important source in the drafting of the Public Procurement Act of the Republic of Estonia (RT 1995, 54) currently in force. It was obvious from the very beginning that given the economic situation of Estonia, simply transplanting the draft law into our legislation was out of the question. As the aim of this article is not to introduce the details of the Public Procurement Act, the following will be limited to a discussion of the more essential differences between the model draft law and the Act.

The first significant problem was how to specify the compulsoriness of public procurement. The two possibilities were to either specify those upon whom public procurement would be compulsory, or specify the funds expendable only under the procedure for public procurement. The first option was rejected because it would have been impossible to provide an exhaustive list of those upon whom a state procurement system would be compulsory (the 1934 Act listed only a few). Also, it was expected that, given the Estonian character, some would soon voice demands for exemption from the state procurement system. Considering the foregoing, it was decided that the Act should instead list the funds with which purchasing of goods or contracting for building work and services could occur only pursuant to the procedure for public procurement. Section 3 of the Public Procurement Act specifies the following as funds subject to the procedure for public procurement:

1. funds of state, city and rural municipality budgets;

2. funds of national foundations;

3. funds of domestic and foreign borrowing by or secured by the state;

4. funds of national foreign aid;

5. funds formed from the income obtained through economic activity of the state or a local government financed from state, city or rural municipality budgets or national foundations, or through other legal persons in public law and from the expropriation of property of such persons.

An odd item in this list is the funds of national foreign aid. The procedure for the use of these funds had to be regulated because even though they are of a temporary nature from the point of view of Estonian economic development and may soon, they nevertheless have a considerable role today.

Opposition to the procedure for public procurement and the specification of funds for this purpose is quite natural at the present stage of Estonia’s economic development. In the intervening years, officials could freely use funds, including budget funds, at their discretion. This resulted in a situation where the officials do not wish to readjust to a public procurement system, and practice has not yet convinced state, city or rural municipality officials of the effectiveness of the procedure. Time, experience and changing attitudes will certainly aid in the acceptance of the public procurement system.

Another major problem was how to determine public procurement thresholds. The thresholds beyond which the procedure for public procurement would be compulsory may obviously not be too high or too low. If the amounts are too high, the use of budget funds will occur below the set public procurement thresholds free of any restrictions meaning that the establishment of a public procurement system is not justified. On the other hand, overly low thresholds would hinder agencies and institutions in conducting small transactions and would not be economically efficient. Overly low thresholds have the additional disadvantage that the costs connected with the organisation and management of public procurement may, for small transactions, exceed the gain. Therefore, it is necessary to determine the optimal public procurement thresholds, given the current situation and possibilities of the Estonian economy.

Thresholds used in other countries were not suitable. The threshold in the 1934 Act was 1000 kroons and in Finland public procurement applies to building contracts with a value of at least 5 million ECU (excluding VAT) and procurement contracts with a value of at least 400 000 ECU (excluding VAT), if the contracts concern the European economic region (Act No. 1351 of 22 December 1993). Quite obviously, such thresholds are not reasonable for Estonia, at least not at the present stage of its economic development. Therefore, Regulation No. 23 of the Government of the Republic on thresholds for public procurement of 23 January 1996 (RT I 1996, 7) states that purchasing of goods and contracting for services with a value of 100 000 kroons and more (including VAT) is subject to the procedure for public procurement. The procedure also applies to contracts for building work with a value of 1 000 000 kroons and over for the construction of a new building, restoration or renovation, and with a value of 300 000 kroons for the preparation of a construction site, or demolishing or restoration of an amortised part of a building or a structure. Purchases of information technology equipment are regulated differently. Until 1 January 1997, if the procurement has a value of 100 000 – 500 000 kroons, the particulars of the procurement must be concorded with the State Chancellery, and if the procurement has a value greater than 500 000 kroons, the bidding procedure must be managed by a state procurement organisation authorised to purchase information technology equipment.

The procedures therefore vary depending on the value of the procurement such that below a certain value the purchase may be made freely, beyond a certain threshold concordance with the State Chancellery is required, and larger procurements are in the competence of specialised organisations. This latter restriction obviously arises from the nature of information technology equipment, the need to use uniform equipment in a state system, and the sophistication of the equipment requiring procurement to be done by highly qualified persons. Compared to other countries, these thresholds are rather modest and do not compare to public procurement in its international sense. Nevertheless, this is what Estonia’s economic situation and budget funds currently require.

Section 6 of the Act provides that a purchaser must not divide a public procurement into parts and thereby show a lower procurement value in order to evade the obligation to follow the procedure for public procurement. Such prohibition in the Act is quite appropriate since attempts to avoid the procedure in some manner are not infrequent. Such attempts are understandable in the current circumstances and will hopefully soon pass. In Finland, for example, voluntary use of the procedure for public procurement is quite wide-spread because it is more economical, the quality is guaranteed and it is a more convenient way to obtain the necessary goods. The Estonian Act too permits every purchaser to voluntarily use the procedure for public procurement to purchase supplies for their own needs and paid for either by state budget or other funds, regardless of the value of the purchase.

Subsection 28 (2) of the Public Procurement Act has met with some opposition and criticism, especially from foreign experts. The Act provides that if bidding documents specify that an Estonian product or service will be preferred, the most favourable Estonian bid, which need not necessarily be the most favourable bid, may be awarded the contract. The provision is criticised for undermining fair competition leading to discrimination of foreign bidders, etc. This criticism is correct, but only formally so. The provision was included in the Act because of a particular characteristic of the Estonian economy. The critics probably do not realise that Estonia is a country in which an entire branch of the economy may consist of only one factory (one match factory, one confectionery producer etc.) and perhaps a modest-sized one at that when compared to the standards of larger countries. The underlying reason why the Public Procurement Act provides that an Estonian producer can be preferred is that bidding for a certain contract may attract such a favourable bid from a well-informed foreign producer that an obligation to accept it would result in the immediate liquidation of that particular branch of production in Estonia. A bid evaluation is subject to this condition only if the specifications of the bidding expressly state that an Estonian product or service may be preferred. This means that all bidders are aware of the condition and may take this into account when bidding.

Another characteristic of public procurement peculiar to Estonia is that the bidding procedure is managed directly by the purchaser (§ 9). The Public Procurement Board only declares public procurements and manages the procedure when so assigned by the Government of the Republic. From the point of view of using budget funds, the most economical and effective method, would be to consolidate all prospective purchases into the state budget so that invitations for bidding would involve large batches of goods. This would undoubtedly result in the lowest prices and the highest quality guarantee. Unfortunately, this is impossible given the small number of employees and the limited resources of the Board. This is, however, the direction the development of the procurement system should take.

The peculiarities and development discussed here are only the more important ones for public procurement in the Republic of Estonia. Economic development and closer ties with larger countries and producers will certainly contribute to the development of the state procurement system and hopefully, to the alleviation or repeal of some of the restrictions from current legislation.

Legislation and Bibliography:

1. J. Kaiv. State Procurement Act. 1935.
2. E. Ploom. The need for restoration of the public procurement system in the Republic of Estonia. Juridica, 7, 1994.