January 26, 2005
The difficulties that arise when agents who negotiate contracts have different interests than the principals they represent is a staple of agency and corporate law. The issue is particularly acute where the agent has more knowledge relating to the transaction than the principal—as is often the case with professional advisers.
A new paper from the National Bureau of Economic Research, Market Distortions when Agents are Better Informed: The Value of Information in Real Estate Transactions, by Steven D. Levitt and Chad Syverson demonstrates the effect in an ingenious way. Here’s the abstract:
Agents are often better informed than the clients who hire them and may exploit this informational advantage. Real-estate agents, who know much more about the housing market than the typical homeowner, are one example. Because real estate agents receive only a small share of the incremental profit when a house sells for a higher value, there is an incentive for them to convince their clients to sell their houses too cheaply and too quickly. We test these predictions by comparing home sales in which real estate agents are hired by others to sell a home to instances in which a real estate agent sells his or her own home. In the former case, the agent has distorted incentives; in the latter case, the agent wants to pursue the first-best. Consistent with the theory, we find homes owned by real estate agents sell for about 3.7 percent more than other houses and stay on the market about 9.5 days longer, even after controlling for a wide range of housing characteristics. Situations in which the agent's informational advantage is larger lead to even greater distortions.
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