The standard principal-agent model is bilateral. But in reality the situation is often more like a triangle, where the agent deals with two different principals. For example, an associate at a law firm is the agent of both the client and the firm. In this post you are to discuss a triangle like arrangement that you've participated in or that you've witnessed from afar. If the two principals don't see eye to eye on what counts for good performance by the agent, how do those differences in views get resolved in practice. Might there be more than one right way to resolve this tension? In contrast, might the agent fail by satisfying one master while ignoring the other?
The triangle principle model is a unique model that exemplifies how agents may act in their own self-interest for the betterment of whatever their situation may be whether it is a waiter taking a percentage off their customers bill in order to get a larger tip while shorting the business they are working for or a lawyer keeping his client around because he likes them even though the law firm wants to get rid of them. This model shows how moral hazard and conflicts arise in situations that involve this.
My mother has her own real estate company up North of Chicago and is one of the best 100 realtors in the country, her production is extremely high and because of this she has a large range of cliental. Similar to the lawyer example presented in the prompt, working for my mother's company this summer I was able to experience multiple triangle principle situations in which the agent represents two parties: the buyer and the seller. This occurs when my mother is the listing agent and she brings the buyer herself to her own listing, she is given commission from both parties. The problem becomes that the agent has a contract with both parties and these agreements can cause issues of moral hazard and conflict of interest between the parties. For example, we are all human and while my mom has never straight up told me she likes a client more than another client in such a transaction, I am sure has her opinion. This can create an issue or moral hazard, say my mom really likes client A, the seller, over client B, the buyer, she may push client B to pay more than she would normally believe they should pay because she likes client A more and wants to make them happier. his of course is hypothetical, but it does occur. It could also be the opposite, the agent could convince the seller to sell for cheaper than they should in order to benefit the buyer. Additionally, money can be a problem as well. If the buyer offers more commission to the agent, they will aim to work harder for that party because they have a larger incentive to do so.
Good performance of the realtor, the agent, in this situation would be to be as neutral as possible and offer the best possible advice she can based on her expertise and if she knows it is not a good deal for one party, the way to resolve any moral hazard would be to alert said party in order to maximize their benefit of her working for them. I am not sure you can necessarily fix the issue of a party paying more than another other than disclosing this to both the buyer and the seller.
While I believe the model does bring about many important concepts I believe the ultimate reason behind people's decisions are their morals and values. Some people will act more selfishly than others, it is the nature of our minds. It is up to us to make the correct decisions when we encounter problems like the triangle-principle mode
It pains me that you copied the prompt with principal spelled as it should be but then in your title and in the rest of the post you wrote principle instead. I am somewhat sympathetic as I read by ear and I suspect many of us do. But this one you really should get correct.
ReplyDeleteAnother student wrote about the real estate example as a possible triangle problem. There is economic research on the issue, which I am aware of because way back when I did some research on adjustable rate mortgages and got somewhat friendly with the people who did real estate research then.
The general find is that the moral hazard for realtors doesn't really manifest in the transaction price but rather it happens elsewhere and is more important for the agent who represents the buyer. The big issue is that time is money. So time spent showing a customer various possible properties is time that could have been spent on another customer. The realtor will therefore have incentive to limit the search to few properties than might be in the client's best interest. That is moral hazard, for sure.
I had never heard of the same realtor representing both buyer and seller. So that was interesting to hear. I wonder how common it is.
And not to quibble with what you said, but I wonder how the quality of realtors is measured. If it is by the dollar value of the sales, for example, then somebody selling expensive houses would be measured a higher performer, simply by virtue of that. In contrast, a realtor in a comparatively lower priced suburb might do a very good job for the clients, but not generate nearly as much in revenue.
At the end of the post you talked about morals and values. There is actually a different thing that can matter here, which is what we will talk about next and which is our last topic in the course. That is the person's reputation. It can be good business to have a satisfied and knowledgeable customer, as that customer might direct friends to the business in the future. The reputation mechanism isn't a perfect substitute for morals and values, but it can work effectively much of the time.
i liked your post and how you mentioned that you got to experience the triangle principal model first hand this summer. the one thing that i wanted to bring up with your experience is how you mentioned that your mom is conflicted with a moral hazard whether she likes the buyer or the seller more. my question with this is that what type of commission does your mom receive? does she get a percent of the sale or a flat rate? because if your mom gets a percent of the sale it would make a lot more sense for her to try to make the highest sale in each situation.
ReplyDeleteI would be interested to see the variance of income over your mom's cliental. Not only would the income spread of her clients be known, it would also aid in getting a general sense of what type of neighborhood she represents. For example, if the neighborhood is relatively well off, there would be incentive for her to prioritize the larger, more expensive houses over relatively cheaper ones. This presents a moral hazard/conflict of interest that would be interesting to examine further. Similarly, this would create a higher commission opportunity for her that would further incentivize her.
ReplyDeleteAs Professor Arvan mentioned, time is money. On the same thread, a good real estate agent recognizes where they might find repeat customers that will continually come back if they are thoroughly satisfied. I would imagine that most real estate agents would prioritize these customers as they offer a consistent opportunity to make good money.