Agency problem: Difference between revisions

{{image|Secret agent problem|png|A special agent’s problem, yesterday}}}}{{dpn|/ˈeɪʤənsi ˈprɒbləm /|n}}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.  

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 consistent five-star collaborator — only to blow it on one big position. I can sell ten thousand ball point pens in utmost good faith and rub off with your money the one time I purport to sell a Ferrari.  

When that one outsized “defection” 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 effectively becomes a [[single round prisoner’s dilemma|single round]] game, for which the option payoff is markedly different. 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.