Week 13 Blog
The agency problem is caused when one party is hired to act on behalf of another party, but their values are not perfectly aligned. Because the acting party, also known as the agent, typically knows more about the situation, they tend to handle the situation to cater to their own benefit rather than the benefit of the principal. One example would be a corporation hiring Executives, as shareholders act as the principle. Executives may pursue actions for their own benefit rather than for the value of shareholders. For example, an executive could give themselves excessive bonuses or salary increases. A strategy to combat this issue would be performance-based compensation. Meaning, if executives perform well within their roles, they are subject to a raise or bonus. This keeps them from feeling like they must manually give themselves a raise and feel recognized. Another example of the agency problem could be financial advisors (Agent) ...