Agency problem: Difference between revisions
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[[File:Secret agent problem.png|450px|thumb|center|A special agent’s problem, yesterday]]}}The [[agency problem]] | [[File:Secret agent problem.png|450px|thumb|center|A special agent’s problem, yesterday]]}}The [[agency problem]] describes the intrinsic [[conflict of interest]] any [[agent]] working on a [[commission]] faces, and that is that as long as it gets its [[commission]], it doesn’t really care a hill of beans what its [[principal]] gets, however much it might protest to the contrary. | ||
In a sense, this is an articulation of the [[prisoner’s dilemma]], shouldn’t surprise anyone and ''should'' be cured by repeat [[Iterated prisoner’s dilemma|iterations]]: clients have memories and will remember when you ripped them off. | |||
One is that it relies on repeated interactions with an indeterminate end | But the [[iterated prisoner’s dilemma]] has a couple of natural limits: One is that it relies on repeated interactions with an indeterminate end-point: the promise of another opportunity, on another day, to clip your ticket. When the sky is falling on your head, it looks like a final interaction, and the calculus is different. | ||
Second, it takes no account of [[convexity]] effects | Second, it takes no account of “[[convexity]]” effects: I can build up my reputation incrementally by faithfully carrying out thousands of small transactions — I can ''look'' like a five-star collaborator — only to blow it on one big position. I can sell ten thousand ball point pens in utter good faith and welch the one time I sell a Ferrari. | ||
Thus, the agency problem is the classic “[[skin in the game]]” problem: an agent gets paid, no matter what. The [[investment manager]] puts no capital up, takes a small slice of ''yours'', by way of a fee, | When that one outsized reward more than compensates for all the thousands of pennies in front of the steamroller, the normal rules don’t apply and an iterated game of prisoner’s dilemma becomes a one-off. This is what {{author|Nassim Nicholas Taleb}} calls the “Rubin Trade”. | ||
Thus, the agency problem is the classic “[[skin in the game]]” problem: an agent gets paid, no matter what. The [[investment manager]] puts no capital up, takes a small slice of ''yours'', by way of a fee, no matter what. | |||
Nice work if you can get it. A lot of people in the city can get it. | |||
===The agency problem and [[corporate personality]]=== | ===The agency problem and [[corporate personality]]=== | ||
Theory: the “legal revolution” theorists — academics, [[GC]]s, [[COO]]s and [[thought leader]]s generally — make the [[category error]] of assuming the interests of client ''[[corporation]]s'' drive the market. This aligns with legal theory: a corporation is a person and has its own [[Legal personality|personality]], interests and desires. But the corporation as a “[[res legis]]” — a [[legally significant thing|''legal'' thing]] — is only a “[[Res cogitans|''thinking'' thing]]” through the agency of its representatives, each of whom is a [[res cogitans|thinking thing]] in her own right. This tension, between the overriding life goals of an [[agent]] and those of {{sex|her}} [[principal]] is the crux of the agency problem. They do align — but ''only so far''. | Theory: the “legal revolution” theorists — academics, [[GC]]s, [[COO]]s and [[thought leader]]s generally — make the [[category error]] of assuming the interests of client ''[[corporation]]s'' drive the market. This aligns with legal theory: a corporation is a person and has its own [[Legal personality|personality]], interests and desires. But the corporation as a “[[res legis]]” — a [[legally significant thing|''legal'' thing]] — is only a “[[Res cogitans|''thinking'' thing]]” through the agency of its representatives, each of whom is a [[res cogitans|thinking thing]] in her own right. This tension, between the overriding life goals of an [[agent]] and those of {{sex|her}} [[principal]] is the crux of the agency problem. They do align — but ''only so far''. | ||
The critical difference between human and [[corporation]] is that ''a [[corporation]] cannot speak for itself''. A ''human'' principal, being a thinking, animate thing, can apprehend the [[conflicts of interest]] of which {{sex|he}} may be a casualty, and police them. A pile of papers filed at companies house cannot. It can only ''crowd-source'' defence of its own interests to its “friends” who ''are'' animate, but who have interests of their own. It can seek to nullify any ''one'' agent’s conflicting interest by asking the aggregated weight of its ''other'' agents to represent its against that one agent in a kind of “wisdom of crowds” way — their ''individual'' interests disappearing through some kind of phase cancellation effect to which their ''common'' interest — furthering the interest of their mutual principal the [[corporation]] — is immune. This works as long as the self-interests of each of the other agents ''do'' cancel themselves out: if all the agents have a ''common'' self-interest which conflicts with the corporation’s interests, this crowdsourcing strategy won’t work. | The critical difference between human person and [[corporation|corporate person]] is that ''a [[corporation]] cannot speak for itself''. A ''human'' principal, being a thinking, animate thing, can apprehend the [[conflicts of interest]] of which {{sex|he}} may be a casualty, and police them. A pile of papers filed at companies house cannot. It can only ''crowd-source'' defence of its own interests to its “friends” who ''are'' animate, but who have interests of their own. It can seek to nullify any ''one'' agent’s conflicting interest by asking the aggregated weight of its ''other'' agents to represent its against that one agent in a kind of “wisdom of crowds” way — their ''individual'' interests disappearing through some kind of phase cancellation effect to which their ''common'' interest — furthering the interest of their mutual principal the [[corporation]] — is immune. This works as long as the self-interests of each of the other agents ''do'' cancel themselves out: if all the agents have a ''common'' self-interest which conflicts with the corporation’s interests, this crowdsourcing strategy won’t work. | ||
So do all its agents have such a common conflicting interest? ''Yes''. | So do all its agents have such a common conflicting interest? ''Yes''. | ||
Revision as of 15:23, 2 October 2021
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The design of organisations and products
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The agency problem describes the intrinsic conflict of interest any agent working on a commission faces, and that is that as long as it gets its commission, it doesn’t really care a hill of beans what its principal gets, however much it might protest to the contrary.
In a sense, this is an articulation of the prisoner’s dilemma, shouldn’t surprise anyone and should be cured by repeat iterations: clients have memories and will remember when you ripped them off.
But the iterated prisoner’s dilemma has a couple of natural limits: One is that it relies on repeated interactions with an indeterminate end-point: the promise of another opportunity, on another day, to clip your ticket. When the sky is falling on your head, it looks like a final interaction, and the calculus is different.
Second, it takes no account of “convexity” effects: I can build up my reputation incrementally by faithfully carrying out thousands of small transactions — I can look like a five-star collaborator — only to blow it on one big position. I can sell ten thousand ball point pens in utter good faith and welch the one time I sell a Ferrari.
When that one outsized reward more than compensates for all the thousands of pennies in front of the steamroller, the normal rules don’t apply and an iterated game of prisoner’s dilemma becomes a one-off. This is what Nassim Nicholas Taleb calls the “Rubin Trade”.
Thus, the agency problem is the classic “skin in the game” problem: an agent gets paid, no matter what. The investment manager puts no capital up, takes a small slice of yours, by way of a fee, no matter what.
Nice work if you can get it. A lot of people in the city can get it.
The agency problem and corporate personality
Theory: the “legal revolution” theorists — academics, GCs, COOs and thought leaders generally — make the category error of assuming the interests of client corporations drive the market. This aligns with legal theory: a corporation is a person and has its own personality, interests and desires. But the corporation as a “res legis” — a legal thing — is only a “thinking thing” through the agency of its representatives, each of whom is a thinking thing in her own right. This tension, between the overriding life goals of an agent and those of her principal is the crux of the agency problem. They do align — but only so far.
The critical difference between human person and corporate person is that a corporation cannot speak for itself. A human principal, being a thinking, animate thing, can apprehend the conflicts of interest of which he may be a casualty, and police them. A pile of papers filed at companies house cannot. It can only crowd-source defence of its own interests to its “friends” who are animate, but who have interests of their own. It can seek to nullify any one agent’s conflicting interest by asking the aggregated weight of its other agents to represent its against that one agent in a kind of “wisdom of crowds” way — their individual interests disappearing through some kind of phase cancellation effect to which their common interest — furthering the interest of their mutual principal the corporation — is immune. This works as long as the self-interests of each of the other agents do cancel themselves out: if all the agents have a common self-interest which conflicts with the corporation’s interests, this crowdsourcing strategy won’t work.
So do all its agents have such a common conflicting interest? Yes.
Any one of its agents is charged with protecting the principal’s interests, but two overriding considerations will inevitably take priority: (i) their wish to protect and perpetuate their own role as agent, and defend the income stream it provides — their need to persuade the principal that their role is needed whether or not it is needed — no turkey votes for Christmas; and (ii) their wish to not fuck up — not only is the role necessary but I am a suitable person to carry out that role.
Legal industry transformation and the agency problem
The JC humbly submits that any plan to revolutionise the legal industry that does not account for the agency problem will fail. Everyone who purports to speak for a corporation does so in a way that, above all else, does not prejudice his own agency with the corporation.
This puts our old friend the drills and holes conundrum into perspective: it is true that a corporation desires quick, cheap and effective legal services. In many cases, it does not need any legal services at all — it could do not just with legal protections delivered in a convenient format and by a less expensive source, but no legal protections at all. What percentage of legal agreements are ever litigated? But it is hard for an inanimate pile of papers filed at companies registry to have that sort of insight. It relies on its agents to arrive at that conclusion on its behalf. But who, amongst the byzantine control structure that those very agents have constructed to help it make decisions of that sort — its inhouse counsel, outhouse counsel, credit risk management, document negotiators, client onboarding team, compliance or internal audit — who of these people would ever say that? And even if one did, would he not be shut down by the consensus of the others?[1]
See also
References
- ↑ Those who don’t believe me should try proposing that you don’t need cross default in trading agreements. You will get bilateral consensus on this, in private conversations, from almost everyone; no-one will say it in public.