Working Paper | HBS Working Paper Series | 2010

Agency Revisited

by Ramon Casadesus-Masanell and Daniel F. Spulber

Abstract

The article presents a comprehensive overview of the principal-agent model that emphasizes the role of trust in the agency relationship. The analysis demonstrates that the legal remedy for breach of duty can result in a full-information efficient outcome eliminating both moral hazard and adverse selection problems in agency. The legal remedy motivates agents to behave in a trustworthy fashion and principals to place their trust in agents. In contrast to the standard agency model, a complete description of the principal-agent relationship cannot be based on explicit incentives alone but must recognize implicit and exogenous incentives for trust behavior that derive from the legal, social, and market context. These incentives reduce the need to rely on explicit incentives, allowing the principal and agent to reduce transaction costs by using incomplete contracts.

Keywords: Ethics; Contracts; Agency Theory; Mathematical Methods; Behavior; Trust;

Citation:

Casadesus-Masanell, Ramon, and Daniel F. Spulber. "Agency Revisited." Harvard Business School Working Paper, No. 10-082, March 2010.