Economic Theory Of Agency Research Articles

The Contributions of Stephen A. Ross to Financial Economics

Stephen A. Ross was one of the most influential scholars in the field of financial economics in the late twentieth century. Ross's work was central to several novel domains of economic inquiry. His contributions included the arbitrage pricing theory (APT), the risk-neutral pricing of contingent claims, the binomial option pricing model, a theory of the term structure of interest rates, a seminal contribution to the economic theory of agency, and insights about conditioning biases in ex post performance measurement. In this article, we discuss his seminal papers and the broad scope of his curiosity within the arc of a remarkably productive and influential career that spanned five decades and yet ended sooner than most who knew him expected.

Self-Dealing, Corporate Opportunities and the Duty of Loyalty - A US, UK and EU Comparative Perspective

The paper offers a comparative perspective on the duty of loyalty – encompassing both rules that govern self-dealing and corporate opportunity transactions. It compares the evolution of these two sets of rules in several European jurisdictions and in US Delaware law. The paper begins by comparing the approach to regulating self-dealing and related party transactions under both common law (namely the US and UK) and civil law regimes (focusing on continental Europe). It then turns to the legal development of corporate opportunity rules, and contrasts the approach to corporate opportunities under US law to the less-developed jurisprudence on corporate opportunities in civil law jurisdictions. Corradi and Helleringer note tensions between the evolution of the law governing self-dealing transactions at the European level, and the lack of harmonization on rules addressing corporate opportunities and continuing divergences in corporate opportunities doctrine across EU jurisdictions. They observe a relaxation of the duty of loyalty in US Delaware law, while there is an asymmetric evolution of its two components, self-dealing and corporate opportunities, in the European context. On the one hand, self-dealing rules have existed in European corporate laws for a long time and have been substantially relaxed in Europe in recent times as they have in the US. On the other hand, corporate opportunities rules have been introduced in most European jurisdictions only throughout the last two decades – without an express possibility of a waiver such as the one granted by DGCL s. 122(17). The convergence of self-dealing rules may have been facilitated by the harmonization of EU financial market law, which in turn has not affected corporate opportunities rules. Economic agency theory provides a rationale for a hypothetical convergence of self-dealing and corporate opportunities rules, based on their economic function.

Model of determining price of a long-term contract for ongoing maintenance and maintenance of highways

The paper addresses the problem of OPRC. The current state of tools justification prices OPRC: model, based on the concept of discrete state of the road surface, and the model based on the economic theory of agency. This mathematical formulation proposed by the authors simulation model justification prices OPRC based on seasonally expert estimates of probability of defects road surface and the possibility of using a certain probability of different methods of elimination of defects, different resource requirements. Forecast assumptions about the subject of study – apply a simulation model with simulated random events and values of Monte Carlo and optimization based on evolutionary method. Keywords: OPRC, long-term contracts, price contract, simulation model

Corporate Opportunities Doctrines Tested in the Light of the Theory of the Firm – a European (and US) Comparative Perspective

Corporate opportunities doctrines originated in Anglo-American law and were subsequently adopted by several continental European jurisdictions. The tests adopted for identifying corporate opportunities have important strategic consequences for a company, both from a law and finance and from an industrial perspective. This article analyses the connections between several versions of the theory of the firm and of corporate opportunities doctrines. It finds an increasing degree of convergence of different jurisdictions towards a test for identifying ‘corporate opportunities’ that is based either on a company’s ‘line of business ’ or on a company’s ‘interest’. Both tests seem to be inspired not only by the economic agency theory, as explained by law and finance scholars, but also by the objective of protecting a company’s specific investments, as described by Oliver Williamson. The objectives of containing both agency and hold-up costs seem to coexist in all the jurisdictions that are the objects of the present analysis, which foresees an intensification of the highlighted convergence.

Exploring the Common Roots of Culture, Politics and Economics (Slides Show)

Self-indulgent practices of financial institutions are at the roots of the 2007-2008 financial crisis. Governments wanted to maintain the economic status quo. Governments accrued immense public debt to support banks during the crisis on the apparently false assumption that the banks are in general well behaved and trustworthy. Two policy alternatives to deal with resulting recession: immediate debt servicing through austerity, or delayed servicing through investment for growth. Economic policy is arising from either Individualism or Collectivism; the current austerity policy is linked with individualism. Using cybernetic agency theory, we model the relationship between cultural, economic and political processes. A new meta-model results showing that cultural orientation is a driver for strategic economic agency orientation from which economic policy arises. Strategic Economic Agency theory exists through agency “normative personality”, and operates through traits from which political orientations develop: these permit the anticipation of economic policy. Individualism and Collectivismare polar positions which can be seen as a subset of the broader mindscape theory that can facilitate anticipation.

The Economic Structure of Fiduciary Law

This essay revisits the economic theory of fiduciary law. Nearly two decades have passed since the publication of the seminal economic analyses of fiduciary law by Cooter and Freedman (1991), and by Easterbrook and Fischel (1993), which together have come to underpin the prevailing economic, contractarian model of fiduciary law. The economic theory of agency that motivates those papers has come to permeate the literature on law and legal institutions generally. The law-and-economics movement has matured further, developing new tools and refining its understanding of previously applied concepts. The purpose of this essay is to restate the economic theory of fiduciary law in an updated and accessible synthesis.

Origin of the Theory of Agency: An Account By One of the Theory's Originators

The first scholars to propose, explicitly, that a theory of agency be created, and to actually begin its creation, were Stephen Ross and Barry Mitnick, independently and roughly concurrently. Ross is responsible for the origin of the economic theory of agency, and Mitnick for the institutional theory of agency, though the basic concepts underlying these approaches are similar. Indeed, the approaches can be seen as complementary in their uses of similar concepts under different assumptions. In short, Ross introduced the study of agency in terms of problems of compensation contracting; agency was seen, in essence, as an incentives problem. Mitnick introduced the now common insight that institutions form around agency, and evolve to deal with agency, in response to the essential imperfection of agency relationships: Behavior never occurs as it is preferred by the principal because it does not pay to make it perfect. But society creates institutions that attend to these imperfections, managing or buffering them, adapting to them, or becoming chronically distorted by them. Thus, to fully understand agency, we need both streams -- to see the incentives as well as the institutional structures. This paper describes the origin and early years of the theory, placing its development in the context of other research in this area.

Management accounting and corporate governance: An institutional interpretation of the agency problem

Challenging the dominant economic agency theory of corporate governance with a new discourse drawn from institutional theory, the paper analyses how management accounting is implicated in corporate governance. The proposed institutional theory of agency links the micro-institutions of the organization that are informed by the practices of management accounting with external institutional players and stakeholders. The paper identifies emerging narratives in which the management accounting profession has recognised a distinctive, post-Enron set of sensibilities. Although techniques drawn from strategic management accounting can be adapted to embed better corporate governance practices, the institutional theory of agency identifies tensions between the heroic CEO narrative and the routinization of strategy implicit in strategic management accounting.

The sociology of groups and the economics of incentives: Theory and evidence on compensation systems

When working together, people engage in non-contractual and informal interactions that constitute the sociology of the group. We use behavioral models and a unique survey of medical groups to analyze how group sociology influences physician incentive pay and behavior. We conclude that informal interactions among group members influence pay practices and behaviors, but the relationship is complex. No single aspect of group sociology is entirely consistent with all the patterns in the data. Factors emphasized in the economic theory of agency, notably risk aversion, also shape pay policies, but these factors cannot account for all the observed empirical relationships.

The Sociology of Groups and the Economics of Incentives: Theory and Evidence on Compensation Systems

When working together, people engage in non-contractual and informal interactions that constitute the sociology of the group. We use behavioral models and a unique survey of medical groups to analyze how group sociology influences physician incentive pay and behavior. We conclude that informal interactions among group members influence pay practices and behaviors, but the relationship is complex. No single aspect of group sociology is entirely consistent with all the patterns in the data. Factors emphasized in the economic theory of agency, notably risk aversion, also shape pay policies but these factors cannot account for all the observed empirical relationships.

Physician Financial Incentives in Managed Care

Patients with health insurance do not make the most cost conscious healthcare decisions since they bear only a fraction of the total cost of medical care. Managed care advocates point to financial incentives as a way to reduce wasteful resource use. However, physicians with managed care contracts feel financial pressures designed to reduce waste may also limit medically necessary services and adversely impact the quality of patient care. In light of a growing public and professional distrust of the motives behind offering financial incentives, the economic theory of agency is used to illustrate how financial contracts designed to reduce wasteful resource use influence physician behavior. A review of the literature was conducted to determine the effects of financial incentives on resource use, cost and the quality of medical care. The method used to undertake this literature review followed the approach set forth in the Cochrane Collaboration handbook. This review revealed that much of the empirical evidence on the effect of managed care on physician behavior compared the experiences of traditional indemnity plan enrollees with health maintenance organization enrollees. Published studies are outdated and are influenced by statistical problems including both patient and physician selection bias. With respect to the newer types of managed care organizations, there is a paucity of information on the effects of financial incentives on physician behavior. Despite the lack of empirical evidence, the perception remains that managed care financial incentives are perverse in that they induce physicians to take actions that compromise quality of care. To evaluate the legitimacy of these concerns, research on how physician contractual arrangements influence the cost and quality of care in the newer types of plans is needed. In the absence of such research, political rhetoric bent by anecdotal evidence will continue to influence public policy and undermine managed care.

Techscope

This paper is part of a larger project to better understand the limitations of the economic theory of agency and incentives.1 The economic approach focuses on extrinsic incentives whereas a better understanding of human organization requires an understanding of intrinsic motivation and the complementary or substitutive relationships with extrinsic motivation. I will focus on different treatments of informational or “panoptic” questions regarding transparency or non-transparency in the management of firms or other human organizations. This context will give the questions definiteness but the ideas might also be applied in a broader social context. As a conceptual framework, I will use the seminal work of Douglas McGregor. The economic approach to agency and incentives theory is based essentially on what McGregor called the “Theory X” worldview, and the alternative explored here is essentially what he called the “Theory Y” view of individuals in organizations.

From Greek Mythology to the Real World of the New Public Management and Democratic Governance (Terry Responds)

I would like to thank the editors of the Public Administration Review (PAR) for this opportunity to respond to Professor Howard Frant's (in this issue) critical review of my article, Administrative Leadership, Neo-Managerialism and the Public Management Movement (PAR, May/June, 1998). I also wish to thank Professor Frant for accepting the public invitation to engage in a constructive and meaningful dialogue on the New Public Management and its implications for democratic governance. Professor Frant is a thoughtful scholar, and I respect his unwavering commitment to organizational economics and public choice theory. I also acknowledge and appreciate the important contributions that organizational economics and public choice theory have made to the literature of public administration, political science, and organization theory. All theoretical perspectives have value. I take to heart Laurence O'Toole's (1995) sage admonition that should be critical of much that has been accepted, but we should treat as serious -- and at a minimum as a source of insights -- much of what we criticize and question ... (294). Professor Frant raises several issues that are useful in moving the New Public Management conversation forward. While I do not agree with his interpretation of my work, I am indebted to him for advancing my thinking on a subject of utmost theoretical and practical importance. In the pages that follow, I challenge Professor Frant's assertion that the neo-managerialist ideology described in my article does not exist. I also take issue with the contention that I have misinterpreted the managerialist ideology and microeconomic theories underpinning the New Public Management. I argue that Professor Frant's steadfast defense of economic agency theory, public choice theory, and public entrepreneurship has created a blindspot. Unfortunately, this blind-spot has prompted him to ignore or downplay some troublesome aspects of microeconomic theory and public entrepreneurship that are widely recognized in the scholarly literature. After briefly summarizing my article to reacquaint PAR readers with its central arguments, I review Professor Frant's critical commentary. This discussion establishes the context and a basis of my response. I then address specific criticisms outlined in Professor Frant's essay. I make the case that his pertinacious commitment to organizational economics and public entrepreneurship has clouded his vision, prompting him to pursue a line of argument filled with puzzling assertions and contradictions. Neo-Managerialism and the New Public Management: The Argument Revisited In Administrative Leadership, Neo-Managerialism, and the Public Management Movement (1998), I argued that scholars in the public policy community used several different approaches to advance the understanding of public research, theory, and practice. I classified these approaches broadly as quantitative/analytic management, political management, liberation management, and market-driven (194-196). I suggested that while they differed in their basic orientation, these approaches had at least one thing in common: Each was influenced by the managerialist ideology. Drawing on the widely cited work of Christopher Pollitt (1990), I contended that the managerialist ideology (or as it often called) consists of a set of beliefs, values, and ideas about how the world is and how it ought to be. In brief, the managerialist ideology suggests that management is important and good; public managers would do well if they adopted good business practices found in the private sector (Pollitt, 1990, 7). I indicated that the managerialism discussed by Pollitt was an updated version of the older tradition rooted in the work of Frederick Winslow Taylor (196). I also asserted that the Neo-Taylorist managerialism described by Pollitt has been combined with organizational economics (agency theory and transaction-cost economics) and public choice theory. …

A Proposal for Designing Employment Contracts for Government Managers

A popular framework for studying the effects of various factors on the structure of employment contracts has been the economic theory of agency. In this paper, we propose an employment contract scheme for a governmental operation that embeds data envelopment analysis (DEA) into an agency model. The principal (taxpayers or general public) is represented to be interested in having the government organization operate efficiently while the agent (government manager) is interested in financial compensation and leisure. We show that by integrating the data envelopment analysis model with the agency model a compensation scheme can be developed that will meet the manager's minimum utility while motivating the manager to operate efficiently. This satisfies the utility function of the general public. The paper concludes with a simple numerical example to illustrate the proposed model. © 1997 Elsevier Science Ltd

Adversarial Brokerage in Residential Real Estate Transactions: The Impact of Separate Buyer Representation

Although substantial research effort has been directed to the examination of optimal search and pricing behavior under traditional brokerage arrangements, market outcomes under conditions of undisclosed subagency and buyer representation have not been fully explored. This study applies the legal and economic theory of agency to real estate markets with cooperating brokers. The existence of cooperating brokers acting as subagents of the seller with the buyer’s full knowledge does not change the buyer’s and seller’s net payoffs relative to the single-agent case. However, when the buyer mistakenly believes that the cooperating broker/subagent is acting as his agent in negotiations, there may be informational gains that result in a higher selling price and a higher payoff to the seller at the expense of the buyer. The analysis indicates that buyer brokers may be a potential solution to this agency problem. When both parties to a real estate transaction have separate representation, their net payoffs are shown to be higher and the sales price lower than under traditional brokerage arrangements. The result is dependent on several factors, including: market conditions, relative bargaining power of the parties, method of broker compensation, and disclosure of the status of the buyer broker.

Agency in Health Care: Lessons for Economists from Sociologists

Abstract. What economists can learn from sociologists with regard to the economic theory of agency in health care is considered. Whilst the concept of agency has become widely accepted in health economics, its application to the doctor‐patient relationship remains somewhat limited. Research is needed on the nature of the patient's and doctor's utility functions before an efficient outcome in health care can be achieved. Economists have much to learn from sociologists concerning the nature of patient's and doctor's utility functions. Only when economists take account of this literature will moves towards an efficient outcome in health care be achieved.

Efficient Contracting in a Market for Life Insurance Agents with Asymmetric Information

The incentive conflict between the life insurance firm and its agents is examined. Conditions for first-best contracting in a symmetrically informed environment entail a fixed wage payment by the firm. In contrast, when the firm is constrained by both the uncertainty of consumer demand and the allocation of effort by the agent, a high commission rate for new policies sold and a low commission rate for policies renewed is an efficient contractual arrangement between the firm and its agents, if and only if an agent's effort is more productive when directed at increasing the expected flow of revenue from new rather than renewal customers. The prediction of the model is consistent with the contractual arrangements currently observed in the life insurance industry, where customers are locked-in by a renewal premium lower than the premium for a new customer who otherwise has the same characteristics. A positive theory of the insurance firm based on the economic theory of agency was developed by Mayers and Smith (1981) who suggest that different contractual arrangements among owners, managers, agents, and policyholders arise as efficient outcomes when there are costs to controlling incentive conflicts among them. One component in the structure of the life insurance firm yet to be investigated rigorously is the incentive conflict between the life insurer and its sales representatives. I Of particular interest in this article is the solution reached between conflicting parties over the allocation of effort to alternative search tasks and the commission rates embodied in the incentive compensation agreement or commission contract offered to agents by

The Incentive Effects of Flat‐Fee and Percentage Commissions for Real Estate Brokers

This paper analyzes the incentive affects of flat‐fee and percentage commission systems from the perspective of the economic theory of agency. Under a plausible set of assumptions the systems provide equivalent incentives. However, the relative desirability of the two systems depends upon the pricing strategy employed and factors specific to the individual. In general, neither system perfectly aligns the interests of the agent with those of the property‐owner. A surprising result of the analysis is that the optimal listing price when an agent is employed may be below the first‐best price. The first‐best price, or residual maximizing solution to the principal‐agent problem from the perspective of the property‐owner, is the solution that would occur if the agent's interests were perfectly aligned with those of the principal. This study suggests that the use of a percentage versus a flat‐fee commission may be due to information costs rather than price discrimination on the part of brokers.

Economic theories of organization

Until the last ten years or so the relationship between economics and organizational analysis has been a quite distant one. Most economic theorists treated the organization as an entrepreneur in a field of entrepreneurs, and saw little need to inquire into the nature of the organization itself. On the other hand, organizational analysts paid relatively little attention to the interaction of organizations, even less to industry characteristics, and virtually none to the role of organizations in the economy as a whole. The organization responded to an environment, and its response was the focus of interest, not the environment. This has changed. Two closely related bodies of theory in economics agency theory and transaction-cost analysis have taken the internal operation of the firm as problematical and have investigated it. Agency theory has focused upon the problem the "principal" has in controlling the employee ("agent"), and transaction-cost analysis has focused upon the advantages of eliminating market contracts by incorporating suppliers and distributers into one's own firm the replacement of the market by a hierarchy. Organizational analysts, on the other hand, have begun to develop the notion of the environment in a variety of ways, some of which involve networks of organizations, others take account of industry characteristics (but as yet none has studied the dynamics of the economy as a whole). These ventures by the two disciplines, if I may speak of organizational analysis as a discipline, are, of course, to be welcomed for a variety of obvious reasons. The two disciplines have much to learn from each other. A less obvious reason for welcoming the developments will concern me in this article, and it is a somewhat perverse one. I find the formulations regarding human behavior and organizations by the economists to be not only wrong but dangerous. However, I find my own field of organizational analysis, and sociology in general, to be insufficiently developed to convincingly demonstrate the full measure of error. Therein resides the danger. But it is also an opportunity.

Long-Term Contracts and Moral Hazard

This article extends the economic theory of agency to a simple class of multiperiod situations. In this context we study the role of long-term contracts in controlling moral hazard problems. We characterize the optimal long-term contract, and show that even when the environment is separable over time, the agent's compensation in one period will depend on his performance in that period and his performance in the prior periods.