A principal-agent problem (or agency problem) may arise in interaction that involve a person or group (the agent) being given the power to decide how to use resources that ‘belong’ to someone else (the principal). The problem that may arise is when the principal wants the agent to use the resources in a particular way that is contrary to the interests of the agent (who has their own goals and motivations), but the agent uses the resources in some other way that is detrimental to the principal. This principal-agent problem is an example of moral hazard. The market failure here is that the principal becomes unwilling to engage an agent, if they can't be sure that the agent will act in the principal's best interests.
An interesting example is described in this post from the Development Impact blog late last year, which was based on the job market paper of Deivy Houeix (MIT). They describe the problem as follows:
The Senegalese taxi industry exemplifies common principal-agent challenges faced by small firms in lower-income countries. The typical arrangement involves a car owner (employer) and a single driver (employee) linked by a relational contract. The driver keeps any revenue exceeding a rental fee paid weekly and sometimes receives an upfront payment from the owner. Due to limited liability, drivers can default on the rent by claiming low earnings for the week. Importantly, the owner has no way to observe whether this is due to bad luck, lack of effort from the driver, or whether the driver misreports revenue. This creates scope for moral hazard in both driver's effort and reported output and allows drivers to capture informational rents, contributing to inefficiencies common in informal arrangements. Default may lead to the (costly) termination of the relationship to mitigate moral hazard.
Notice that this has all the features described above. The car owners are the principals. The drivers are the agents. The resources belonging to the principal, that the agent has the power to decide how to use, are the taxis. The car owner wants the taxi drivers to pay the full rent for the car. However, the drivers have an incentive to claim low earnings and default on paying the rent. The market could fail, because the car owners choose to terminate the agreement with the drivers.
Houeix's post was about how to solve the principal-agent problem, and describes the results of two field experiments that were conducted to test whether adopting digital payment technology could reduce the principal-agent problem. Since closer monitoring of the agent by the principal is one solution to principal-agent problems, using digital payment technology to facilitate this monitoring seems like it could be beneficial.
I recommend reading the entire post (and following up with the job market paper itself, for further detail), but in short the results show limited success. On the one hand, the digital payment technology:
...significantly cuts drivers' cash-related costs (e.g., small-change shortages) by half and serves as effective monitoring tools even with partial digitalization of transactions (about 13% of revenue).
The digital payment technology made it easier for drivers to accept payment, and easier for car owners to monitor what drivers were doing. However, drivers had the option not to adopt the digital payment technology, by simply not providing the car owner's details:
I find that observability is an important barrier to technology adoption, especially for the worst-performing and poorest workers. Initially, 50% of drivers did not want to adopt the technology, citing various privacy concerns for not sharing owners' information.
This should be no surprise. The lowest-productivity workers are likely to be the ones hurt the most by closer monitoring, so of course they wouldn't want to adopt the digital payment technology.
However, there may be an upside. Since car owners don't know who the high-productivity drivers are (productivity is private information), there is also an adverse selection problem here. That problem is that, because the car owners can't tell high-productivity and low-productivity drivers apart, they must assume that all drivers are low-productivity drivers, and will treat them accordingly. This is a pooling equilibrium (because all drivers are pooled together and treated the same). The high-productivity drivers don't want to be treated as if they are low-productivity, so they will be more likely to leave the market. If this continues, eventually only low-productivity drivers are left. The market fails.
This adverse selection problem could be solved by the car owners asking drivers to adopt the digital payment technology (this is a type of screening, since it involves the uninformed party (the car owners) attempting to credibly reveal the private information). The answer to the question about whether they will agree to install the digital payment technology reveals the productivity of the drivers. The drivers who don't agree are likely to be the low-productivity drivers, and so the car owners should choose not to rent their car to those drivers. Instead, the drivers who accept the digital payment technology will be the high-productivity drivers, and the car owners should be happy with them. That creates a separating equilibrium (since the low-productivity and high-productivity drivers can now be separated), and solves the adverse selection problem for the car owners.
Houeix didn't note the potential solution to the adverse selection problem in the post, nor in their job market paper. That was a missed opportunity, and may be the real benefit of the digital payment technology that they investigated.
No comments:
Post a Comment