Monday, February 10, 2014

Theory of Agency

                This week's reading was very hard to comprehend, so it's possible I may have misunderstood much of it. Still, what I got out of the reading was that the agency relationship is when a person or more people called the principal(s) have another person called the agent to hand over the making of decisions to the agent. That last statement was very difficult to extract from the reading and see how it applies to economics or business in general because of its theoretical or academic nature. It appears that the article discusses the relationships between the employers that are the principal and the employees that are the agents, so it appeared that the relationship refers to the agent representing the principal that endows the power of making decisions on the behalf of the principal.
                As a result, there must be problems that arise from the relationship just as they would in any other case. I believe a moral hazard can arise when the employer and employee work for the same goal when having different interests in doing so. Interests are very important because someone may fulfill their obligations as an employee or employer, while fulfilling those obligations for interests that can be good or bad. Please note that I may be wrong on this theory, but this is what I thought the reading was trying to refer to so it's very possible I have erred on such a complicated topic.

                I believe the moral hazard to the employer and employee relationship can arise when someone has undesirable interests with an incentive to pursue those interests. Thus, I believe it's important for the employer and employee to ensure there's a mechanism that would not allow for a party to create a moral hazard, but this is very theoretical and it's very likely that this is nearly impossible to do so. Finally, the reading was quite interesting in how it involved some complicated modeling on the theory to ensure it was correct, but my interpretation likely deviated because more experience and knowledge is required to fully understand the thoery.

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