ECO 550 Managerial Economics Week 1 - Check Your Understanding

Whenever the principal has the agent do a service on his/her behalf and cannot entirely monitor the agent's activities, a ‘principal-agent problem’ arises. To minimize agency problems between shareholder-principal and principal-agent is necessary adequatemonitoringand adequate motivations need to be offered. Both the provisions could be determined by the firm.       In economics, the traditional example is the probable conflict of interest between ownership and management, but any delegation of authority gives rise to this dilemma. Managers work as agents of the shareholders. If there is an agency problem between the two groups, it is important to get it resolved as soon as possible as it can cause problems within the business firm that can inhibit performance. Managers should understand that long term incentives are valuable to both sides and that if they work in order to accomplish the firm goals, rewards will across them.