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Trust and Incentives in Principal-Agent Negotiations

Author

Listed:
  • Gary J. Miller

    (Washington University in St Louis, gjmiller@artsci.wustl.edu)

  • Andrew B. Whitford

    (University of Kansasm whitford@ku.edu)

Abstract

The canonical principal-agent problem involves a risk-neutral principal who must use incentives to motivate a risk-averse agent to take a costly, unobservable action that improves the principal’s payoff. The standard solution requires an inefficient shifting of risk to the agent. This article, however, summarizes experimental research that throws doubt on the validity of this conclusion. Experimental subjects were routinely able to achieve efficiency in agent effort levels without inefficient risk-sharing. These experimental outcomes, while anomalous from the standpoint of principal-agency theory, are quite consistent with other experimental data testing notions of trust-based implicit contracting. Such contracting within a hierarchy may allow an outcome preferred, by both principal and agent, to that deemed possible by principal-agency theory. If this is true, then the lessons to be learned from principal-agency theory are all the wrong ones. Concentrating on incentives can crowd out the very qualities in a relationship that make social efficiency possible.

Suggested Citation

  • Gary J. Miller & Andrew B. Whitford, 2002. "Trust and Incentives in Principal-Agent Negotiations," Journal of Theoretical Politics, , vol. 14(2), pages 231-267, April.
    • Handle: RePEc:sae:jothpo:v:14:y:2002:i:2:p:231-267
    DOI: 10.1177/095169280201400204
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    References listed on IDEAS

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    Cited by:

    1. Andrew B. Whitford & William P. Bottom & Gary J. Miller, 2013. "The (Negligible) Benefit of Moving First: Efficiency and Equity in Principal-Agent Negotiations," Group Decision and Negotiation, Springer, vol. 22(3), pages 499-518, May.
    2. Bauke Steenhuisen & Michel van Eeten, 2008. "Invisible Trade-Offs of Public Values: Inside Dutch Railways," Public Money & Management, Taylor & Francis Journals, vol. 28(3), pages 147-152, June.

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    Keywords

    agency; contracts; incentives; risk; trust;
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