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Concept
Principal–agent problem
Summary
The principal–agent problem refers to the conflict in interests and priorities that arises when one person or entity (the "agent") takes actions on behalf of another person or entity (the "principal"). The problem worsens when there is a greater discrepancy of interests and information between the principal and agent, as well as when the principal lacks the means to punish the agent. The deviation from the principal's interest by the agent is called "agency costs".
Common examples of this relationship include corporate management (agent) and shareholders (principal), elected officials (agent) and citizens (principal), or brokers (agent) and markets (buyers and sellers, principals). In all these cases, the principal has to be concerned with whether the agent is acting in the best interest of the principal. The concepts of moral hazard and conflict of interest relate to the principal-agent problem.
The principalagent problem typically arises where the two parties have different interests and asymmetric information (the agent having more information), such that the principal cannot directly ensure that the agent is always acting in their (the principal's) best interest, particularly when activities that are useful to the principal are costly to the agent, and where elements of what the agent does are costly for the principal to observe.
The agency problem can be intensified when an agent acts on behalf of multiple principals (see multiple principal problem). When one agent acts on behalf of multiple principals, the multiple principals have to agree on the agent's objectives. They face a collective action problem in governance, as individual principals may lobby the agent or otherwise act in their individual interests rather than in the collective interest of all principals. Results may include free-riding in steering and monitoring, duplicate steering and monitoring, or conflict between principals, all leading to high autonomy for the agent.
Official source
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