The agency
problem strikes me as an ethical, practical, and economic issue in equal measures.
The agency problem is one in which one person or entity acts on behalf of another. This
might apply to managers or executives of corporations acting on behalf of shareholders, a lawyer
representing a client, or a stock broker or hedge fund investing on behalf of a client. In each
case, the agent interacts with some person or entity on behalf of a third party. The problem
lies in the degree to which an agent acts out of self interest or to benefit the
principal.
For example, an executive personally benefits from having a
multi-million dollar salary, luxurious office, private plane, and stock options. One may
question, however, whether stockholders or customers benefit from that. Lawyers in a divorce
case make more money the longer the lawsuit is drawn out and the nastier it becomes, but that
certainly does not benefit the divorcing couple or their kids. A stock broker who frequently
"churns" a portfolio may make more money on fees but not better returns for a
client.
In all of these cases we have several issues. The first is the
ethical one of fiduciary duty. This involves an element of trust; when it breaks down, this
undermines much of the basis of advanced industrial economies. Social attitudes such as trust
are correlated with economic development; if you cannot trust a bank, for example, you will not
save and invest but might keep money under a mattress. Thus the ethical issues become economic
ones.
On a practical level, there is the question of how one can incentivize
agents to behave in a manner that benefits their principals, and how to align transactions such
that the self interest of the agent coincides with that of the principal.
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