principal-agent problem

Meaning

The principal-agent problem occurs when one person or entity (the agent) is able to make decisions on behalf of another person or entity (the principal), but the agent's incentives do not align with the principal's best interests. It is highly relevant in corporate governance, economics, and law. The tone is formal and analytical.

Examples

• Aligning executive bonuses with long-term share value is a common way to mitigate the principal-agent problem.

  Aligning executive bonuses with long-term share value is a common way to mitigate the principal-agent problem.

• The principal-agent problem arose when the fund managers prioritized their short-term commissions over the clients' wealth.

  The principal-agent problem arose when the fund managers prioritized their short-term commissions over the clients' wealth.

• Our corporate governance framework must be robust enough to address the principal-agent problem effectively.

  Our corporate governance framework must be robust enough to address the principal-agent problem effectively.

• Shareholders often face a principal-agent problem because they cannot directly monitor every action of the CEO.

  Shareholders often face a principal-agent problem because they cannot directly monitor every action of the CEO.

• The board introduced strict auditing measures to resolve the principal-agent problem within the regional offices.

  The board introduced strict auditing measures to resolve the principal-agent problem within the regional offices.

Common Mistakes

• ✗ The principle-agent problem is ruining our company's trust.

  ✓ The principal-agent problem is ruining our company's trust.

  The word 'principal' (meaning the primary party or employer) is often misspelled as 'principle' (meaning a fundamental truth or rule).

• ✗ We have a principal-agent confliction between the shareholders and the management.

  ✓ We have a principal-agent problem between the shareholders and the management.

  The standard term in economics and business law is 'principal-agent problem' or 'agency dilemma', not 'principal-agent confliction'.

Related Expressions

Practice

• The ___ describes the conflict of interest when managers do not act in the best interest of shareholders.

  💡 A classic dilemma in corporate governance involving an agent and a principal.

  Show answer

  principal-agent problem

• To solve the ___, the company introduced stock options to align executive goals with shareholder value.

  💡 The conflict that occurs when an agent's incentives differ from the owner's.

  Show answer

  principal-agent problem